Barbara Wright Fruit, flowers and veg stall, Knoxville, Tenn. 1941
It looks like we’ll have a few more days to watch this thing, this alleged market, until on Thursday Mario Draghi launches his modern day version of Greenspan’s oracle years and on Friday the BLS, which can rival any oracle when it comes to confusing utterances, has the US employment numbers. There seem to be people who think those numbers might be quite good, though that might be hard to imagine in the wake of a shrinking US economy. Then again, in an environment where very few numbers make sense anymore, it’s anyone’s call.
This is one of the principal reasons that S&P trading numbers are scraping gutter lows: nobody knows what to do anymore, and therefore many choose to sit on their hands, too afraid to sell as long as easy profits keep coming in, even if they make no sense, and thereby risking to lose those profits. Volatility indexes are at multi-year lows in concert with trading numbers, the MSCI All-Country World Index is trying to break a 1996 record. That’s not real risk, just the perception of it, of course, but in a global economy in which central bank policies have made it impossible for anyone to find out what anything is truly worth anymore, it makes sense that fear and greed should have moved in next door to each other.
Bond markets are so bloated at over $100 trillion that traders, raters and regulators alike find they can just throw away their existing sophisticated models, and what’s true for bonds obviously holds for most other assets. And while the Fed may, at least officially, be tapering, there’s pressure on the ECB, the PBoC and the BOJ to increase stimulus anyway they see fit, so markets may live up to their addiction a while longer, even as it’s killing them. Whether some AA support group should be called, or the morgue, is a bit difficult to gauge, but there’s little hope and cheer to be drawn from the fact that the present experiment is quite a few steps beyond unique in world economic history, and bursting bubbles tend to fall harder and further the bigger they are.
As long as people perceive of dollars and yen as the primary driving forces in their lives, the outcome may well be unavoidable, because the trappings of chasing wealth are so ideally suited to who we are that we can’t shake their shackles on our own volition, and instead depend for our sanity on the system to crash. Well, it will. And with Bernanke et al having played God, delivering 7 fat years at the expense of the poorest in our societies, which today include a fast growing part of the former middle class, don’t count on just 7 lean years on the horizon. QE and other stimulus measures have put such a financial burden on our future that they’ve created a monetary black hole in our economic systems, whose gravity will suck in the vast majority of all debt and liabilities, and there’s no telling who amongst us will come out of it on either this side or the other.
The low trading volumes, which by themselves make price discovery that much harder, the ultra-low volatility, which does the exact same thing, the bloated beyond comprehension and therefore entirely unreliable global bond markets, all these things indicate to us that we no longer have functioning markets. From regulators to veteran traders to Jack and Jill, nobody knows the real value of anything anymore. But still just about everyone wants to find a way to make money in those same markets, be it through purchasing stocks, or a seemingly good deal on a home and mortgage, or gold and silver. That may not be the wisest thing to do. It’s like there’s a rumor going around that free money can be had in the casino, only when you get there, they blindfold you before you can enter.
The Fed debates the end of the stimulus, says the New York Times. The debate seems to center around the speed at which the economy is recovering, not if it recovers to begin with. Kansas City Fed head Esther L. George says: “I would like to see short-term interest rates move higher in response to improving economic conditions shortly after completion of the taper.” The Fed chiefs look at the economy and sees recovery, they only differ on the degree. JPMorgan’s Michael Feroli quotes that eternal source of inspiration for economists, Mike Tyson: “Everybody has a plan until they get punched in the mouth.” Michael Ivanovitch, president of economic research company MSI Global, former senior economist at the OECD and economist at the New York Fed and economics teacher at Columbia Business School, sees the forest for the trees. Or at least he sees part of it. He points to distorted BLS unemployment data and says they should show a 13% jobless number. He also says:
With the government spending falling at an average annual rate of 2.2% over the last four quarters, and the budget deficit expected to decline this fiscal year to 2.8% of GDP, the U.S. fiscal policy is quite restrictive at the time when it should at least be neutral. By contrast, the monetary policy is wildly expansionary, but its transmission mechanism is largely out of order. What else can be said when U.S. commercial bank lending to households was falling in Q1 at an annualized rate of 8.8%? And when these same banks were holding, on May 28, 2014, at the US Fed $2.6 trillion of excess reserves (i.e., loanable funds) at an interest rate of 0.25% instead of lending them out to creditworthy households at interest rates of 10% or more. In case you suspect that there are no creditworthy households, or that their loan demand is too weak, please note that nonbank (finance companies, credit unions, etc.) lending to consumers rose in the first quarter at an annualized rate of 6%. The message for the Fed is clear: Stop printing more money, but do chase the idle money out of your books.
It’s not all equally strong, but maybe at times we should take what we can get. Ivanovitch is an inside revolving door guy, and he will therefore only arrive at the sole beneficial advice he can give by presuming the economy is growing, even though he, like the rest of the clan, has seen the -1% Q1 GDP stat. But that, it seems, was due to this winter’s latest ice age (cue Ray Romano). Regardless, he’s obviously spot on. What Yellen and the Fed system urgently need to do – but won’t – is to stop QE and chase the idle money (bank reserves directly linked to QE) out of the Fed’s books. Ivanovitch just omits one crucial issue: “we” must chase out of the TBTF banks’ vaults all the smelly debt and virtual ‘money’ and derivatives losses and long lost wagers, all of it. Because if “we” don’t, no matter what else happens, we will be initially be stuck with distorted markets, and then inevitably with seeing them crash.
It’s only human to try and prevent something “bad” from happening today while risking something worse tomorrow. But that doesn’t make it right, or wise, or smart. They way financial markets are (not) functioning today should be a warning sign for individuals to go away, because having no price discovery is a recipe for being wiped out, and for regulators to clean up the system. I have little faith in either happening, but that only makes it more vital to get out and find something more useful to do with your life than chasing idle dollars.
Are you trying to decide whether the U.S. economy’s relatively weak performance in the first quarter of this year is just a proverbial “pause that refreshes,” or whether it’s a continuation of a trend of lackluster growth for the foreseeable future? Here is what I think. To sort this argument out, one has to look at two closely intertwined sets of factors. In an actual economic system these factors are inseparable and in a state of constant interaction, but I’ll separate them here for the sake of clarity. The first set consists of variables directly underpinning an economy’s growth dynamics. The space of the second set is occupied by demand management policies. Employment, household incomes and net exports are the key components of the first set. And the story they are telling us about the U.S. economy is not good. [..]
U.S. fiscal policy is a politically charged issue in the best of times. It is especially so in the run-up to Congressional elections next November, and at the time when declared and undeclared candidates for the presidential race in 2016 are already staking their positions. So, let’s stay away from politics and stick closer to economics. The mainstream economic teaching, overwhelming empirical evidence and plain common sense tell us that a cyclical weakness in private sector demand should be offset by tax cuts and/or stronger government spending to keep the economy growing. None of that is Washington’s realistic policy option at the moment. With the government spending falling at an average annual rate of 2.2% over the last four quarters, and the budget deficit expected to decline this fiscal year to 2.8% of the gross domestic product (GDP), the U.S. fiscal policy is quite restrictive at the time when it should at least be neutral.
By contrast, the monetary policy is wildly expansionary, but its transmission mechanism is largely out of order. What else can be said when the U.S. commercial bank lending to the households was falling in the first quarter at an annualized rate of 8.8%? And when these same banks were holding, on May 28, 2014, at the U.S. Federal Reserve (Fed) $2.6 trillion of excess reserves (i.e., loanable funds) at an interest rate of 0.25% instead of lending them out to creditworthy households at interest rates of 10% or more. In case you suspect that there are no creditworthy households, or that their loan demand is too weak, please note that nonbank (finance companies, credit unions, etc.) lending to consumers rose in the first quarter at an annualized rate of 6%. The message for the Fed is clear: Stop printing more money, but do chase the idle money out of your books.
The combination of a persistently weak labor market and evidence of a little more inflation is prompting an increasingly vigorous debate among Federal Reserve officials about the future of the central bank’s stimulus campaign. The debate reflects both the stability of current Fed policy, which is essentially on autopilot until autumn as the central bank winds down its bond-buying campaign, and the considerable uncertainty about what the Fed should do next – and how. The Fed’s chairwoman, Janet L. Yellen, and her allies have emphasized the need to remain focused on job creation. But other officials and economists, many of whom gathered this week at the Hoover Institution at Stanford University to discuss their concerns, want the central bank to start raising interest rates more quickly.
“I would like to see short-term interest rates move higher in response to improving economic conditions shortly after completion of the taper,” Esther L. George, president of the Federal Reserve Bank of Kansas City, said in a speech Thursday night. Investors are watching as officials hammer out the critical details of those plans, and are nervously awaiting the continuation of a retreat unfolding on a scale just as grand as the construction of the stimulus campaign over the last half-decade — and with a similar potential to create significant disruptions in global financial markets. “When looking ahead to the exit plan, the Fed will need to remember the wisdom of Mike Tyson,” Michael Feroli, chief United States economist at JPMorgan Chase, wrote in a note to clients on Friday. “Everybody has a plan until they get punched in the mouth.”
Inflation remains below the 2% annual pace the Fed regards as healthy, but it has increased in recent months, in line with the forecasts of Fed officials. The Commerce Department said on Friday that prices rose 1.6% during the 12 months ending in April. A version of the same measure regarded as more predictive because it excludes volatile food and energy prices rose 1.4%. Both measures had hovered closer to annual rates of 1% during the previous year. After months of fretting publicly that prices were rising too slowly, the authors of the Fed’s campaign have shifted to insisting that prices are not rising too quickly. “I see little prospect of inflation climbing sharply over the next year or two,” William C. Dudley, president of the Federal Reserve Bank of New York, said in a recent speech. “There still are considerable margins of excess capacity available in the economy, especially in the labor market, that should moderate price pressures.”
If the insatiable demand for bonds has upended the models you use to value them, you’re not alone. Just last month, researchers at the Federal Reserve Bank of New York retooled a gauge of relative yields on Treasuries, casting aside three decades of data that incorporated estimates for market rates from professional forecasters. Priya Misra, the head of U.S. rates strategy at Bank of America Corp., says a risk metric she’s relied on hasn’t worked since March. After unprecedented stimulus by the Fed and other central banks made many traditional models useless, investors and analysts alike are having to reshape their understanding of cheap and expensive as the global market for bonds balloons to $100 trillion.
With the world’s biggest economies struggling to grow and inflation nowhere in sight, catchphrases such as “new neutral” and “no normal” are gaining currency to describe a reality where bonds are rallying the most in a decade. “The world’s gotten more complicated and it’s a little different,” James Evans, a New York-based money manager at Brown Brothers Harriman & Co., which oversees $30 billion, said in a telephone interview on May 30. “As far as predicting direction up and down, I don’t think they have much value,” referring to bond-market models used by forecasters. With the Fed paring its $85 billion-a-month bond buying program this year and economists calling for the five-year-long U.S. expansion to finally take off, Wall Street prognosticators said at the start of the year that yields were bound to rise as central banks began employing tighter monetary policies.
Lately, the higher the Standard & Poor’s 500 Index goes, the less investors care. About 1.8 billion shares traded each day in S&P 500 companies last month, the fewest since 2008, according to data compiled by Bloomberg. When the gauge hit an all-time high on May 23, only about 20 of its 500 companies reached 52-week highs, the data show. That’s the lowest number in a year. When volume and breadth wane even as stocks surge, it’s a warning sign that has preceded losses in the past, according to Sundial Capital Research Inc. in Blaine, Minnesota. Hayes Miller, who helps oversee $57 billion at Baring Asset Management Inc., says the skepticism shows investors distrust a rally built on Federal Reserve stimulus.
“Breadth is suggesting that the market is topping,” Miller, the Boston-based head of multi-asset allocation for Baring, said in a May 28 telephone interview. “This is not a good starting point for buying equities at this price. We all know that investors are induced into risk assets by central bank policies, which keep your safer options very unattractive.” Exchange-traded and mutual funds that buy U.S. shares saw $1.2 billion in outflows this quarter, while bonds received $34 billion, data compiled by Bloomberg and the Investment Company Institute show. The gap is poised to be the largest since September 2012. [..]
Volatility on the MSCI All-Country World Index, which tracks stocks in both developed and emerging markets, dropped to 5.33 on May 28, its lowest level since 1996, according to 30-day historical data compiled by Bloomberg. The Chicago Board Options Exchange’s Volatility Index, known as the VIX, closed below 12 for the five previous days, the longest streak since 2007. The measure has a five-year average of 19.9. “What drives activity in our business is volatility,” Cohn said in New York on May 28. “If markets never move or don’t move, our clients really don’t need to transact.” Citigroup Inc. Chief Financial Officer John Gerspach said last week that second-quarter trading revenue could fall as much as 25% from year-earlier levels, and JPMorgan Chase & Co. estimated a 20% drop.
With everyone pulling out, trading in S&P 500 stocks slipped to an average of 1.8 billion shares a day last month, the lowest since before the bull market began in March 2009. That compares with 2.7 billion a day in 2012. “Volume makes the market more efficient and liquid,” Terry Morris, a senior equity manager who helps oversee about $2.8 billion at Wyomissing, Pennsylvania-based National Penn Investors Trust Co., said in a May 28 phone interview. In a thin market “you can have a handful of companies that can mask the broad direction of the rest of the S&P’s members,” he said.
What a smart question …
The sharp fall in U.S. Treasury yields this year has taken many by surprise, and some traders are now looking for the exits amid concern that a correction is looming. “The kitchen is about to heat up and we want out now,” Morgan Stanley said in a note Friday. It believes expectations the ECB will take fresh easing measures are behind the decline in Treasury yields over April and May and that the central bank’s policy decision on Thursday will mark the low for yields. “Investors have been lured into Treasurys by ECB President Draghi’s honey-sweet siren song. Strap yourself to the mast and increase duration underweights ahead of the ECB,” it said. In addition to the ECB, traders have pointed to a variety of factors including short-covering spurred by a “bear squeeze” and a flight to safety amid global economic jitters for the rally in U.S. Treasury prices, which move inversely to yields.
After touching 11-month lows of 2.44% last week, U.S. 10-year Treasury yields had edged up to 2.49% by early Monday, well off the highs of around 3.0% touched in early January. While many analysts expect the run-up in Treasury prices could continue, others are skeptical. “Everyone now seems to be more bullish on the bond market,” Don Smith, a strategist at ICAP, told CNBC last week. “It makes me worry that at some point there will be quite a sharp correction,” he said, citing the continuing recovery in the U.S. economy. “At some point, there has to be a response in the inflation environment,” which would mean the U.S. Federal Reserve would need to move to a more normal interest rate policy, he said.
Smith isn’t alone in believing the U.S. economic environment isn’t conducive to keeping Treasury yields under the cosh. “A 30-year bond close to 3% and a 10 year at 2.4% are just too rich for our taste,” Patrick Perret-Green, a senior strategist at ANZ, said in a note Thursday. “More than a few measures suggest that the risks of upside surprises are increasing,” he said, citing positive U.S. economic data released over the past week, including new home sales, durable goods orders and commercial lending. “Now is the time to be reducing duration and that returns in the long end over the remainder of the year are likely to be negative,” he said, noting ANZ has closed out several positions. Some even believe both long and short positions on the Treasury market are problematic.
Is that really true though?
As investors desperately attempt to discern the pace of economic growth, Friday’s employment report could shed some much-needed light on where America is heading. Over the past week, some troubling signs about the US economy have emerged. On Friday, Q1 GDP growth was revised down to negative 1%. And Treasury yields continued to plunge, with the all-important 10-year yield slipping as low as 2.4%, the smallest yield since June 2013. Since yields tend to track growth and inflation expectations, this could be interpreted as a signal that investors have become more pessimistic. On the other hand, US yields have largely followed European yields lower. And the soft GDP print actually boosted some economists’ expectations of what the next few quarters could bring, given that it could lead to a strong bounce-back in the second quarter and beyond.
Into this morass of confusion comes the May employment report. A strong surge in non-farm payrolls could indicate a spring rebound, and could set the path for above-trend economic growth. Alternately, a weak number may suggest that the weakness in the first quarter isn’t as weather-related as the bulls would hope. “This jobs report could be important, because we’re kind of bifurcated,” said global macro trader Mark Dow, who writes at the Behavioral Macro blog. “A lot of people are looking for an upside surprise, and some people think the economy’s very weak. So many people are reading signals in to the bond market noise, and if we get a weak number, people will buy that much more into the fixed income story.”
On the whole, economists expect to see nonfarm payrolls grow by 220,000, according to Reuters, which is about the average of the gains seen over the course of 2014. Some positive vibes have already been sent out by the jobless claims data—on Thursday, the four-week average of claims dropped to the lowest level since 2007, which is a good sign for job growth. For those who are optimistic, like Deutsche Bank chief US economist Joe LaVorgna, employment data will start to clearly portray both a spring rebound and above-trend growth. In fact, even if the actual reading comes in below 200,000, “I’m sure we’ll get there after the revision,” LaVorgna said. He points out that nonfarm payrolls have been revised up in 19 of the last 20 months, and by an average of 36,000.
Europe’s banks were bracing themselves over the weekend for much anticipated cuts in the eurozone’s commercial interest rates to boost the currency zone’s struggling economy. European Central Bank (ECB) boss Mario Draghi is expected to reduce the rate at which commercial banks borrow from 0.25% to 0.15% to encourage business lending. The Frankfurt-based institution is also expected to cut the interest rate it pays to banks that keep funds on deposit in a further move to discourage lenders from hoarding cash. Draghi is under pressure to kickstart bank lending after recent figures showed that Netherlands, Italy, Finland and Portugal saw their economies contract in the first three months of the year while France stagnated. Only Germany prevented the eurozone from heading back into recession after after a 0.8% growth spurt.
Low inflation across the 18 members of the currency zone has also discouraged shoppers from spending on the high street and undermined business investment and union-led attempts to raise wages. In April inflation rose to 0.7 from 0.5% in March, but remained in what the ECB calls the “danger zone” of below 1%, and well below the ECB’s target of close to 2%. Worse still, figures for May showed that Italy’s EU-harmonised inflation rate eased to a weaker-than-expected 0.4% year-on-year from 0.5% in April. Corresponding inflation in Spain was 0.2%, down from 0.3%. But the ECB is unlikely to mimic the US Federal Reserve and Bank of England and pump billions of euros into the banking system with a programme of quantitative easing (QE). The ECB, which will announce its decision on Thursday, is known to have come close to voting for QE, but conservative forces on the governing council have resisted the plans.
Spain needs a new government, badly.
Spain’s conservative government, eager to change the media’s emphasis on its repudiation in recent EU elections, has launched a media campaign stressing its adoption of an aggressive “stimulus” program. Spain’s conservatives – and their predecessors the so-called socialists – are infamous for embracing the troika’s demands for austerity. Why have the Spanish conservatives finally admitted that austerity is a disaster and stimulus is essential? They have not done so. Instead, they have rebranded “austerity” as “stimulus.”
Spanish Prime Minister Mariano Rajoy is planning to launch a €6.3 billion ($8.59 billion) economic stimulus package, a move to keep sky-high unemployment and the risk of deflation from derailing the country’s recovery.
No one should be surprised that this supposed “economic” policy is actually all about domestic Spanish politics, as was the decision to make the presentation in restive Barcelona. Spain is the eurozone’s fourth largest economy, so an $8.6 billion “stimulus,” even if it were real, would be of trivial help. But it isn’t real, though a reader would never learn that from the WSJ or the BBC. Let’s start with the essential background, which both articles omit. The troika’s austerity demands gratuitously forced one-third of the EU’s total population (living in Spain, Italy, and Greece) into a Second Great Depression. Their unemployment levels exceed the average rates for the original Great Depression. The EU’s chief apologist for austerity, Olli Rehn, recently predicted that if there were no further economic shocks it would still take Spain ten years to emerge from the “crisis” phase. The depravity of the troika’s economic policies – the financial equivalent of “bleeding” a patient to cure him – is radicalizing many Europeans.
Mario to the rescue!
European factories expanded at a weaker pace than predicted in May, as growth slowed in all nations apart from the Netherlands and Spain. The recovery in the region’s manufacturing sector slowed as new orders and employment eased and companies reported a sharper cut in inventories of purchased goods. Data provider Markit’s Purchasing Managers’ Index (PMI) for European manufacturing slowed to 52.2 in May, down from 53.4 in April and coming in lower than the earlier flash estimate of 52.5.Almost all of the nations covered saw their PMI remain above the 50.0 mark separating expansion from contraction, but only the Netherlands and Spain reported faster rates of growth.
In Spain, factory output growth hit a four-year high, rising to 52.9 in May from 52.7 in April – the highest reading since April 2010. May marks Spain’s sixth straight month of growth as new orders continued to increase at a solid rate. Chief economist at Markit, Chris Williamson said the weaker than expected figure will inevitably add to the clamour for policymakers to provide a renewed, substantial boost to the region’s economy and ward off the threat of deflation. “The survey also highlights some encouragingly strong national performances, especially among previously-troubled member states such as Spain and Italy, where productivity improvements and competitive pricing have helped boost sales.These gains suggest that long-term structural reforms are helping to lift demand,” said Williamson.
Yeah, François, let a woman tell you to man up!
The French are crying foul. A potential $10 billion U.S. penalty against France’s largest bank BNP Paribas for its alleged dealings with Iran and other sanctioned nations, is stirring outrage in the country. It is putting pressure on President Francois Hollande, who hosts Barack Obama this week to mark the 70th anniversary of D-Day, to protect the bank from the American onslaught. Le Monde in its May 31 edition called the possible fine a “masterful slap.” Le Figaro newspaper said the U.S. was making an example of BNP to deflect criticism it had been “lenient with the American banks responsible for the financial crisis.” The weekly L’Express said that banks involved in money laundering and tax evasion paid much-lower penalties. “Is the U.S. hitting too hard?” it asked.
U.S. authorities are seeking to impose the fine to settle allegations that BNP transferred funds for clients in violation of sanctions against Sudan, Iran, and Cuba, according to people familiar with the investigation. The fine could be the largest criminal penalty in the U.S., eclipsing BP Plc’s $4 billion accord with the Justice Department last year. “If this results in a guilty plea, it is likely to increase debate in France and the rest of Europe about the essential fairness of U.S. criminal procedures,” said Frederick T. Davis, a lawyer at Debevoise & Plimpton LLP in Paris and a former U.S. prosecutor. Hollande, who during his 2012 campaign described the world of finance as “my real enemy,” is now under pressure to seek leniency for BNP Paribas.
The right-wing National Front, which beat France’s two mainstream political parties in the May 25 European parliamentary elections, on May 30 called on the government to “defend the national interest” in the case. In a statement on its website, the National Front accused the U.S. of “racketeering,” in an effort to weaken BNP and aid its American rivals. “We demand that the French government not stay idle,” the statement said. France’s central bank has said the transactions did not violate French or European laws. The U.S. is claiming jurisdiction because the transactions were processed in dollars. “This affair is part of Washington’s hegemonic ambition in law and commerce,” said Jacques Myard, a lawmaker from Former President Nicolas Sarkozy’s UMP Party. “Washington has the annoying habit of trying to apply its laws outside its jurisdiction and use its strength for commercial ends.”
After a $25 trillion debt binge, will it matter?
China’s central bank is exploring direct purchases of bonds and other assets to support key sectors of the economy in case the slowdown deepens, according to a leading Chinese business publication. A front-page article in the China Securities Journal – regulated by the central bank – reported growing concerns about the weakness of the money supply and bad debts accumulating in the financial system. The authorities may have to widen the range of possible options for “targeted monetary loosening”. These include surgical stimulus for the West and Central regions, as well as “direct asset purchases by the central bank”, mostly government bonds, financial and railroad debt, as well as state-backed housing bonds.
It is the first hint of quantitative easing in China, and has left analysts scratching their heads. The central bank has many other tools available that would normally be used first to combat incipient deflation. The Reserve Requirement Ratio (RRR) is still 20pc. This could be slashed to low single-digits if need be, generating up to $2 trillion of stimulus through higher lending. Any move in this direction would be a radical policy shift. China has been clamping down on credit deliberately over recent months in order to slow the economy and puncture the property bubble before it becomes any more dangerous, but officials have clearly been having second thoughts for several weeks. Premier Li Keqiang announced a targeted cut in the RRR on Thursday, with lower rates for banks lending to agriculture and small business.
“Chinese-style’ QE is being considered, but would only happen after a sharper economic slowdown,” said Stephen Greene and Becky Liu from Standard Chartered. They said the central bank is looking at all options except RRR cuts, and could circumvent a ban on direct financing of government debt by using intermediate buyers. One motive would be find a new source of stimulus as the central bank slows the accumulation of foreign reserves, a policy now deemed counter-productive as holdings near $4 trillion. Standard Chartered said it would amount to “money printing”, and would be a remarkable turn of events given Beijing’s caustic comments about the “irresponsible” monetary policy of the US Federal Reserve.
Abe’s game is getting dangerous. Pension funds need to chase yield because their primary asset, sovereign bonds, pay next to nothing. But who will then buy those bonds that Abe’s government depends on for financing its huge deficit?
Prime Minister Shinzo Abe’s inflation drive may get a boost as Nomura Holdings Inc. forecasts as much as $200 billion in foreign asset purchases by Japan’s pension funds will weaken the yen. Nomura predicts a selloff of local bonds by the $1.3 trillion Government Pension Investment Fund will depreciate the nation’s currency by about 10 yen against the dollar over the next 12-18 months, while Mitsubishi UFJ Morgan Stanley Securities Co. estimates an 8 yen slide. GPIF and other public pension funds will shift an additional 12.4 trillion yen ($122 billion) into foreign bonds and 7.5 trillion yen into overseas stocks, according to Nomura’s “upside scenario.”
The yen’s 18% drop last year helped push inflation to a five-year high in December by increasing the cost of fuel imports. Price growth has since stalled as the yen rebounded and the Bank of Japan refrained from expanding its unprecedented easing. GPIF’s reshuffling may come as early as this month, when Abe delivers a growth strategy update to parliament. “If the GPIF bombshell drops at the right time, dollar-yen could top 110 within this year,” Daisaku Ueno, the Tokyo-based chief currency strategist at Mitsubishi UFJ Morgan Stanley, said in a May 29 phone interview. “With Prime Minister Abe pushing hard for change, and the market expecting something, it’s difficult for GPIF to reply with nothing in June.”
A nice example of how Fed policies affect housing: in the US, the cheapest homes fare the worst as $1+ million houses do well, in Australia, without QE, the picture is the exact opposite.
Australian dwelling prices fell by the most in almost 5 1/2 years as spending cuts and tax increases in last month’s federal budget weighed on homebuyers. Average home prices in the nation’s eight biggest cities fell 1.9% in May, the biggest monthly drop since December 2008, according to the RP Data-Rismark Home Value index. All major cities except Darwin and Canberra recorded declines, with Melbourne seeing the biggest drop of 3.6%, the index showed. “With affordability becoming more challenging and rental yields substantially compressed across Australia’s two largest cities, we wouldn’t be surprised if the growth trend moderated further over the year,” Tim Lawless, research director at RP Data, said in an e-mailed statement. Approvals (AUBAC) to build or renovate homes and apartments fell 5.6% in April from a month earlier, the third straight decline, the statistics bureau said today.
The Australian dollar fell after the reports underscored expectations the central bank will maintain record-low interest rates this year. Last month’s decline in home prices was the first drop in a year. It came as consumer confidence fell to its lowest level since August 2011 after the government’s budget flagged spending cuts and a new tax on high-income earners. “Weakness in sentiment has flowed through to weaker housing market sentiment,” said David Cannington, senior economist at Australia & New Zealand Banking Group Ltd. “It’s softened clearance rates and taken some of the heat out of the market.” The top 25% of the market had the biggest decline in values in the three months through May, recording a 0.5% drop, according to RP Data. The most affordable end saw a 2.8% gain, it said. Prices in the biggest cities rose 10.7% in the 12 months to May, the index showed.
“The numbers are really good if you ignore all the negative signs”
The latest private capital expenditure figures released last week showed the continuing collapse in investment in the mining sector, but some positive signs in other sectors of the economy. These figures, however, do not take into account the budget and its impact on the non-mining side of the economy – especially the retail sector. In the late 1980s and early 90s, the buzz phrase regarding the economy was that of a “soft landing”. After the 80s boom, Paul Keating promised his policies would take the heat out of the economy and, rather than see a crash into a recession, the economy would come in for a “soft landing”. It didn’t happen. The same phrase is being used once again. This time it concerns the shift from the mining boom. When politicians and economists talk of a soft landing what they hope is that the non-mining sector will pick up and counterbalance the falling mining sector.
When the December 2013 capital expenditure figures – which cover investment in buildings and structures (roads, rail, ports etc) and in equipment, plants and machinery – were released, I took a pretty pessimistic view. There seemed to be little sense of a soft landing. Mining investment looked to be going off a cliff and the non-mining sector looked unlikely to do little to help. This fall continued with the latest capital expenditure figures. Overall investment fell 4.2% in the March quarter compared to the last three months of 2013. While this was actually worse than many economists expected, because some of non-mining sectors appeared to be doing better than predicted, it oddly led to some positive reports – and the value of the Australian dollar actually rose in response. But it takes a bit of looking to find the positive aspect in the figures. As Stephen Koukoulos commented rather pithily, “The capex numbers are really good if you ignore all the negative signs.”
Who needs sick people anyway? They just cost money.
The American Dream often comes to an abrupt end as soon as someone in the family gets cancer or has a heart attack. Obamacare may have put more Americans on the insurance rolls, but it has not changed this: “The average American worker is one serious medical event away from financial hardship,” according to a study released Wednesday by Aflac. Aflac’s 2014 Aflac WorkForces Report gathered responses from 1,856 company benefits decision-makers and 5,209 employees. These are the lucky people in America who still have jobs and company-sponsored health-care plans. And here’s their outlook: 66% said they “wouldn’t be able to adjust to the large financial costs associated with a serious injury or illness.” Most of them come to work with personal financial issues distracting their minds, according to the study, and medical expenses are often why.
According to the survey: • 53% would need to borrow from a 401(k) plan or tap a credit card to pay for unexpected, out-of-pocket medical expenses. • 49% have less than $1,000 to pay for unexpected, out-of-pocket medical expenses. • 27% have less than $500 to pay for unexpected, out-of-pocket medical expenses. • 13% have been contacted by a collection agency regarding unpaid medical bills. • 10% said high medical costs have affected their credit scores. These concerns persist despite out-of-pocket limits established by Obamacare. The maximum out-of-pocket cost limit can be no more than $6,350 for an individual plan and $12,700 for a family plan in 2014, but this more than what many Americans are prepared to pay. The limit includes deductibles, coinsurance and copays, but it does not include the annual premiums or payments to out-of-network providers that people faced with a life-or-death situation may feel compelled to use.
No surprises there.
The Obama administration is trying to shore up international support for a growing arsenal of financial weaponry aimed at hitting foreign adversaries with limited cost to allies. As the administration prepares for a possible next round of sanctions against Russia, it is increasingly relying on an obscure unit inside the Treasury Department – a group of sanctions architects and financial sleuths in the Office of Terrorism and Financial Intelligence – to play a leading role in U.S. foreign policy. President Barack Obama is expected to push the office’s work in meetings with European leaders and senior officials this week that are aimed at addressing Ukraine’s conflict with Russia.
The Treasury official who heads the office, Undersecretary for Financial Intelligence David Cohen, is planning his second trip to Europe in two months next week, part of a campaign to support the use of finance to strike at trouble spots. The administration is facing some resistance from U.S. companies and lawmakers who question the effectiveness of recent moves using financial tools. Founded to disrupt terrorist financing after the attacks of Sept. 11, 2001, the Treasury office now plays a central role in exerting pressure overseas as the American public has little appetite for military intervention. “What we’ve done over the past 10 years is to create a new method of projecting U.S. power,” Mr. Cohen said in an interview. “We do that in a way that is unique in the world.”
Allow money into your political system, and it will end up purchasing it.
Democracy and capitalism are two highly contested models. On paper, throughout the past two centuries, they have proven the most successful systems of economic and political order. Following the demise of Soviet-style socialism and the transformation of China’s economy, capitalism has become predominant across the world. Democracy has followed a similar path. Compared to capitalism, however, its success is much less complete. Today, about 120 countries can be called “electoral democracies”, but only around 60 can be classified as functioning democracies based on rule of law. More importantly, if on the one hand the popularity of democracy seems on the rise, on the other established democratic systems have entered a phase of chronic decline. Scholars increasingly speak of “post-democracies” (Colin Crouch) or “façade democracy” (Wolfgang Streeck). Most critics seem to agree that capitalism is to be blamed for this late development.
During the past 40 years the relationship between democracy and capitalism has radically changed. What Karl Polanyi called socially “embedded capitalism” became “neoliberalism”, “deregulation”, “globalisation” and “financialisation”. The increasing “denationalisation” of the economy and of political decision-making has progressively weakened the power of democratic elected parliaments in favour of governments and deregulated globalised markets. MPs play second fiddle to powerful financial CEOs and more often than not to only scarcely legitimated and monitored supranational bodies such as the World Trade Organisation, the International Monetary Fund and the European Central Bank. This power shift accelerated the increase of socioeconomic inequalities within OECD countries. Alongside this trend, established democracies have witnessed a steady worrying decline of electoral participation. In the US, on average, less than 50% of voters turn out on election day.
Only countries with obligatory voting – such as Australia – have proven to be more resilient against this trend. The problem, however, is not so much low turnout, but the social selectivity that it implies. The lower the turnout is, the higher the social exclusion. Evidences show that the voters at the lower economic end of the social spectrum are the ones deserting the polls. In the US, people with a disposable annual household income of more than US$100,000 are more likely to vote than those with an income of US$15,000 or less. The proportions who vote are 80% versus 30%. At a closer look, the American system shows strong resemblance to an electoral apartheid, where the lower half of society is excluded from political participation. The long-term consequences cannot be underestimated. The US might well represent the shape of things to come for other democracies around the world.
Me, me! I know the answer!
The night in 2002 when Luiz Inácio Lula da Silva won his landslide victory in Brazil’s presidential elections, he warned supporters: “So far, it has been easy. The hard part begins now.” He wasn’t wrong. As head of the leftwing Workers’ party he was elected on a platform of fighting poverty and redistributing wealth. A year earlier, the party had produced a document, Another Brazil is Possible, laying out its electoral programme. In a section entitled “The Necessary Rupture”, it argued: “Regarding the foreign debt, now predominantly private, it will be necessary to denounce the agreement with the IMF, in order to free the economic policy from the restrictions imposed on growth and on the defence of Brazilian commercial interests.”
But on the way to Lula’s inauguration the invisible hand of the market tore up his electoral promises and boxed the country around the ears for its reckless democratic choice. In the three months between his winning and being sworn in, the currency plummeted by 30%, $6bn in hot money left the country, and some agencies gave Brazil the highest debt-risk ratings in the world. “We are in government but not in power,” said Lula’s close aide, Dominican friar Frei Betto. “Power today is global power, the power of the big companies, the power of financial capital.” The limited ability of national governments to pursue any agenda that has not first been endorsed by international capital and its proxies is no longer simply the cross they have to bear; it is the cross to which we have all been nailed.
The nation state is the primary democratic entity that remains. But given the scale of neoliberal globalisation it is clearly no longer up to that task. “By many measures, corporations are more central players in global affairs than nations,” writes Benjamin Barber in Jihad vs McWorld. “We call them multinational but they are more accurately understood as postnational, transnational or even anti-national. For they abjure the very idea of nations or any other parochialism that limits them in time or space.” This contradiction is not new. Indeed, it is precisely because it has continued, challenged but virtually unchecked, for more than a generation, that political cynicism has intensified.
General Motors has already recalled more cars and trucks in the U.S. this year than it has sold here in the five years since it filed for bankruptcy. Here’s the count: Since that filing in June 2009, GM has sold 12.1 million vehicles in the United States. Total U.S. recalls: 13.8 million. Before the latest rash of recalls, the past five years had been good for the “New GM.” It recaptured lost market share. It made record profits. And it won praise for the quality of its cars from both critics and buyers. Then on Feb. 14, GM announced a recall of about 800,000 cars due to an ignition switch problem that could cause the cars to shut off while being driven. It has been engulfed by the recall crisis ever since.
The company’s problems have snowballed. GM ultimately recalled 2.6 million cars worldwide for the flawed ignition switch that’s been tied to at least 13 deaths. And GM admitted that its employees knew of the problem at least a decade before the recall. GM has issued more recalls this year than ever before. There have been 29 separate recalls covering 13.8 million U.S. cars and trucks, and 15.8 million vehicles worldwide. The surge is the result of new standards at GM. The automaker says it’s issuing recalls more quickly when reports of problems emerge. And it’s also looking back at problems reported in the past that didn’t prompt a recall to see whether one would be warranted under these new standards.
GM is a dinosaur.
After filing for bankruptcy five years ago, General Motors is now one of the most profitable companies in the world. GM has earned a stunning $22.6 billion since the dark days of the financial crisis, when the automaker was bailed out by the U.S. government. Taxpayers didn’t fare nearly as well. They’d lost $10.6 billion by the time the U.S. Treasury department closed the books on the $49.5 billion bailout in December. GM, which filed for bankruptcy five years ago this Sunday, has repaid everything it was obligated to pay Treasury. Taxpayers came up short because the U.S. decided to buy GM stock to keep the automaker alive instead of giving it a loan and saddling it with more debt. Although GM has been very profitable since 2009, its stock price never rose to a level that let Treasury to recoup that investment.
“Our goal was never to make a profit but to stabilize the auto industry,” said one Treasury official on background the day it sold its final GM shares. “By any measure, we succeeded.” GM is now one of the 40 most profitable companies in the nation. It’s more profitable than a third of the companies in the Dow, including Verizon, American Express, Boeing and 3M. But the costs related to its controversial ignition switch recall essentially wiped out its profit in the first quarter of this year. GM estimates that repairs to the 15.8 million vehicles it’s recalled this year will cost at least $1.7 billion. And that doesn’t include any legal costs, fines or victim payouts that it will face. GM has admitted that its employees knew of an ignition switch problem in millions of its cars about a decade before it ordered a recall in February of this year. The flaw has been tied to at least 13 deaths, though government safety regulators expect that death toll will rise once the investigation is complete.
The only remaining source of real wealth, I said it many times. They’re going to come for it, all of it if they can.
Governor Christie is following the well-worn path of New Jersey governors who skipped or barely made payments to the pension fund and used the money instead to balance the yearly budget. But Christie’s decision to skip the full payments now will have a much bigger impact on the underfunded pension system than the same move by previous governors, according to a an analysis by The Record of pension data compiled by both the Christie administration and the Legislature. That’s because each time a full payment isn’t made, the difference between what governors need to pay to keep the pension system afloat and what they end up paying gets bigger, and by a compounding rate, the analysis showed. For example, the $1 billion pension contribution Gov. Jon Corzine made in 2007 accounted for roughly 60% of the amount actuaries said the state needed to pay that year to keep the pension fund solvent.
The $1 billion contribution made by Christie in 2013 after several years of skipped payments represented only 30% of the contribution sought by actuaries. In 2015, a $1 billion contribution would cover only 25% of what would be needed, according to The Record’s analysis. This compounding effect has another downside: Not making full payments while the market is growing means the State Investment Council, which has been beating its own benchmarks, has less money to help grow the pension fund out of its deepening hole. What all of this means is that at some point in the future, according to experts, New Jersey’s pension system, currently underfunded by an estimated $52 billion, could become simply too costly to keep afloat. “The system is deeply in trouble,” said Steve Malanga, a senior fellow at the Manhattan Institute, a conservative think tank that advocates for public pension reforms.
As long as we let them.
One year ago, I wrote a column about underfunded pensions being potential time bombs facing most state and local governments. Well, the issue has not only failed to disappear, but with the announcement that Gov. Christie intends to reduce payments to New Jersey’s pension plan, the problem has taken center stage. When it comes to pension-fund stability, it is back to the future, as pension-fund money is once again being used to “balance” budgets. Christie is facing a budget shortfall of about $1 billion for the current fiscal year that ends June 30, and about $1.75 billion for the next fiscal year. Disappointing growth, spending increases, and aggressive or bad revenue estimates combined to create the shortfalls. Christie has no choice: He must balance the budget. Unlike the federal government, he cannot run a deficit or borrow, at least from the bond markets.
Instead, he must cut spending, raise taxes, or beg, borrow, or steal from other parts of the budget or government. The use of those nontax or spending policies was what got New Jersey into its current fiscal mess. The budget-balancing option Christie has chosen is to divert funds from the state’s pension plan and apply that money to other spending items. In essence, he is reducing spending, but only for one line item: the pension-fund payments that were agreed upon when the legislature passed the pension reform act in 2011. Past governors have used the supposedly required pension payments to balance their budgets, so Christie is not plowing new ground here. The decision has both positive and negative implications. Neither tax increases nor spending cuts will be required to balance the budget.
But the state’s bond rating has already been downgraded, in part because of the poor state of its pension plan, which is underfunded by more than $50 billion. Cutting the pension payments will add to the problem and could lead to future credit reductions, raising the interest rate on the state’s debt and increasing its cost of doing business. This kind of “imaginative” budget balancing creates winners and losers. The beneficiaries were those businesses and individuals who received the tax cuts or didn’t see their taxes rise. Similarly, because some spending reductions didn’t occur, those who continued to receive government aid, work on government contracts, get special tax treatment, enjoy government projects such as roadways, or even work for the government, benefited. In contrast, those whose money was diverted – current and future pension recipients – lost.
President Obama will propose cutting greenhouse-gas emissions from the nation’s power plants by an average of 30% from 2005 levels by 2030, according to people briefed on the plans. The proposal, scheduled to be unveiled by the U.S. Environmental Protection Agency June 2, represents one of the boldest steps the U.S. has taken to fight global warming — and a political gamble. Obama signaled both the importance of the rule to his legacy on environmental protection and the bruising fight ahead by joining a conference call today with congressional Democrats, EPA Administrator Gina McCarthy and White House counselor John Podesta to rally support. Obama dismissed complaints that the rule will hurt the economy by driving up electricity prices, and told the Democrats listening: “Please go on offense” to promote the plan’s benefits, said two people who were on the call, including Representative Gerry Connolly, a Virginia Democrat.
Connolly and another person on the call said the president suggested that rather than having an adverse effect on the economy — as critics say — his rule to limit carbon pollution will boost the economy by $43 billion to $74 billion. McCarthy told the lawmakers that the rule will only lead to minimal cost increases for consumers in some areas and families could end up saving money due to efficiency gains, one participant on the call said. She also stressed that states will be able to design their own approaches to meet the targets, the source said. The proposed regulation will permit states to achieve the reductions in climate-warming pollutants by promoting renewable energy, encouraging greater use of natural gas, embracing energy efficiency technologies or joining carbon trading markets.
Big Oil has Big Problems.
In January, employees of Chevron’s renewable power group, whose mission was to create large, profitable clean-energy projects, dined at San Francisco’s trendy Sens restaurant. Managers applauded them for almost doubling their projected profit in 2013, the group’s first full year of operations. The mood quickly turned somber. Despite the financial results and the team’s role in helping start more than a half-dozen solar and geothermal projects capable of powering at least 65,000 homes, managers told the group that funding for the effort would dry up, and encouraged staffers to find jobs elsewhere, say four people who attended the dinner, Bloomberg Businessweek reports in its June 2 issue.
For the past eight years, Chevron Corp. has promoted “profitable renewable energy” as a core component of its business plan. The company’s slogan, “Finding newer, cleaner ways to power the world,” is splashed across its website. And ads begun in 2010 as part of Chevron’s “We Agree” campaign declare, “It’s time oil companies get behind the development of renewable energy.” Yet Chevron recently has retreated from key efforts to produce clean energy. This includes the renewable power group, which invested in or built utility-scale solar and geothermal projects with margins of 15% to 20% or more, according to a dozen people who worked on them. [..]
The group’s after-tax profit for 2013 was $27 million, almost double its internal target of $15 million, according to congratulatory plaques handed out to team members in January. That’s a rounding error for Chevron’s $21.4 billion in earnings last year, but the group’s proposal to expand into profitable geothermal projects in Europe was rejected last summer by top Chevron executives, who said the money was needed for oil and gas projects, say five people briefed on the discussions. “When you have a very successful and profitable core oil and gas business, it can be quite difficult to justify investing in renewables,” says Robert Redlinger, who ran a previous effort at Chevron to develop large renewable-energy projects before he left in 2010. “It requires significant commitment at the most senior levels of management. I didn’t perceive that kind of commitment from Chevron during my time with the firm.”