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Russia’s Central Bank Governor Is Way Smarter Than Ours

Apr 082015

April 8, 2015 Posted by Raúl Ilargi Meijer at 10:21 am Finance Tagged with: Draghi, markets, oil price, Putin, QE, ruble, Russia, sanction, Yellen 11 Responses »

Harris&Ewing Less taxes, more jobs, US Chamber of Commerce campaign 1939

It wouldn’t be a first, but it would certainly be a – bigger – shock. That is to say, the Bank of England hijacked the head of Canada’s central bank some time ago, but, while unexpected enough, that would pale in comparison to the US hiring the present Governor of the Russian central bank, Elvira Sakhipzadovna Nabiullina. It would still seem to be a mighty fine idea, though.

Not that I think it will happen, not to worry if you think Yellen is just what it takes at the Fed. But Nabiullina is both razor sharp and fiercely independent. Yellen is obviously neither; she’s a cog in a machine that huffs and puffs and pumps and dumps to make sure her overlords in the blissful world of US finance make ever more profit no matter how bad things get in American society.

There’s no need to be particularly sharp in order to play that role, and she was picked exactly because she’s NOT independent. Or let’s just say she’s a good listener.

Nabiullina is a whole different story. Not that I have much confidence in western readers understanding that this is so, let alone why. Not after the 24/7 highly public media campaigns and sanctions and oil price wars and Ukraine war talk and chest thumping directed at Putin and Russia, and after everything else that we don’t even know that plays out behind the veils.

Enjoy your conspiracies while you can, I’d say. Because despite more than a year of intense efforts to make Russia look like the empire of unspoken evil, financial markets, yes, the same ones Yellen manipulates at her lords’ bidding, have now made the Russian ruble and the Moscow stock exchange the biggest winners so far this year.

And that is due to a substantial extent to Elvira Nabiullina. You see, if she were just a blind or scared servant of Putin, or of his economic ideas, that would mean it was he who masterminded the resurrection of the currency and the stock market.

Think about it: that should make one really scared of Vladimir Vladimirovych. If besides all his other qualities, pursuits and activities (whether you see them in a positive light or not), he could also do that: save a $2 trillion economy from intense outside attacks.

Fear not: Putin is a mere mortal human being. One quality he does possess, however (he wouldn’t last in his position for 5 minutes if he didn’t), is a keen sense of who he can trust. And he trusts Elvira Nabiullina. She’s only been central bank governor since 2013, when she wasn’t even 50 years old, but she’s been a confidant for quite a while, most importantly as Putin’s private economic advisor in the years leading up to her present job.

You can all look up her career on Google or Wikipedia, interesting, but not overly so. What’s really important in Nabiullina’s career are two defining moments. Moments that make her stand out, and that define the relationship she has with Putin.

Sure, you can claim that she’s less independent than Yellen at the Fed, but who do you think you’re kidding? Yes, she has a hot line phone on her desk, and everyone is ushered out of the room when Putin calls her on that phone. But Yellen has hot lines to the US Treasury as well as to Jamie Dimon and Lloyd Blankfein and whoever lead those other banks and primary dealers. Independence?

So, to get to those two moments that define Elvira Nabiullina. The first was described by Bloomberg last month. In mid December 2014, the ruble was under vicious attack from financial markets. Nabiullina had already spent tens of billions of dollars in foreign reserves to prop it up. Then, on December 16, she, in a move nobody had foreseen, yanked up the interest rate in one fell swoop from 10.5% to 17%.

And here it comes: after that she did nothing. Not a thing. No more foreign reserves. Bloomberg quoted her as saying: ‘Speculators needed a cold shower’.

Mario Draghi said in 2012 he would do ‘whatever it takes to preserve the euro’. Nabiullina didn’t even have to say it.

The attack on the ruble was over. In January she lowered the interest rate to 15%, it’s at 13% now. Nabiullina says she expects it to be at 9% by the end of the year. The ruble is up 19% against the US dollar in 2015. No other currency has that record.

Did Putin order her to do this? No. They talked about it, and a lot, no doubt. But he knows she knows better. And he trusts her.

The second big moment came over the past few days, when Nabiullina announced that Russia will not get on the global central bank QE treadmill. Her reasoning, as Bloomberg reports, is that she sees problems with using debt to spur growth (eat your heart out, Krugman):

Nabiullina Sees ‘Limits’ in Using Debt Financing to Fund Growth

Russian central bank Governor Elvira Nabiullina raised questions about the use of debt financing to fund economic growth, underscoring the need to harness long-term capital as investment slumps. “We need to think about some other ways to finance growth, because financing economic growth with debt, in my opinion, has its limits,” Nabiullina said at a conference in Moscow on Thursday. “There won’t be long-term investment growth in Russia” without such sources of financing as pension savings and life insurance, she said.

“An excessive debt burden may be not only a catalyst for development and investment but also a hindrance,” Nabiullina said. Regardless of the high level of interest rates, the ratio of debt to Ebitda (Earnings Before Interest, Taxes, Depreciation and Amortization) “is already a considerable burden for companies, entire industries,” she said. Banking loans account for 57.6% of the Russian economy, according to Nabiullina. “Mandatory pension savings are of critical importance for sources of long-term financing and Russia’s capital markets,” the governor said.

Let me add some more from Reuters, so you get the full picture:

Russian Central Bank Chief Confident On Inflation, Banks, Ruble

“The acceleration of inflation… has in our view a temporary character. We expect quite a rapid fall in inflation if there are no new unforeseen circumstances..” Nabiullina said the central bank would continue cutting interest rates insofar as inflation risks receded. The bank has already cut rates twice this year. “On the whole we judge the situation in the banking sector as stable,” she said. “The banking sector maintains a substantial capital buffer and the banking sector is able to counter serious shocks even if crisis phenomena deepen.”

She said central bank stress tests showed that even if the oil price were to fall to $40 per barrel the sector would maintain capital levels above the regulatory minimum. Nabiullina also said the factors which had been weighing on the rouble had now passed, saying that repayments of foreign debts could be financed without this having a significant effect on the rouble’s value. “Thus the influence of those factors which were influencing the exchange rate and inflation last year are gradually receding to nothing..”

The entire financial markets attack ‘gradually receding to nothing’. The girl got style. Here’s thinking Nabiullina is right on this one too. Crippling sanctions? Crippling oil prices? Russia has survived it all so far.

There may well be negative growth in the country this year. But even if that were so, who would you choose to deal with that where you live? Yellen, Bernanke, Mario Draghi? Or would you go with a woman who’s shown she can not only think outside the box, but act outside of it too?! Who has both the guts and and the brains for it?!

She may well be one of Putin’s biggest weapons if the west elects to continue pestering Russia. It seems obvious: we need to hire her. But, caveat, to serve the American people, not Wall Street. Then again, I don’t think she’d want to do either.

Oil Price Scenarios for 2015 and 2016

Dec 172014

December 17, 2014 Posted by Raúl Ilargi Meijer at 10:19 am Finance Tagged with: demand, Euan Mearns, oil price, OPEC, prediction, supply 11 Responses »

Harris&Ewing F Street, Washington, DC 1935

This is another article from our friend in Aberdeen, Euan Mearns. It was first posted on Euan’s own site, Energy Matters. I earlier posted Euan’s The 2014 Oil Price Crash Explained on November 24, when the price of oil was still quite a bit higher than today. WTI ended that day at $75.74, it’s now $55.15. Here’s Euan:

A couple of weeks ago I had a post titled The 2014 Oil Price Crash Explained that was cross posted to over 20 other blogs including The Automatic Earth and Zero Hedge. In this post I use the empirical supply and demand dynamic described in that earlier post (Figure 1) to try and constrain the oil price a year from now and in 2016. The outcome is heavily dependent upon assumptions made about supply and demand and the behaviour of OPEC and the banking sector. Three different scenarios are presented with December 2015 prices ranging from $45 to $100 / bbl. Those hoping for a silver bullet forecast will be disappointed. Individuals must judge the scenarios on merit and decide for themselves which outcome, if any, is most likely.

Figure 1 The blue supply line is constrained by monthly production – price data from 1994 to 2008 and shows how supply became inelastic to demand post-2004. As demand continued to rise, prices rose exponentially to $148 / bbl in July 2008 before crashing all the way down again. The blue supply line in this chart is shown as a faint blue dashed line in all other charts to provide a frame of reference.

But first a look at the recent response of oil price dynamics to fluctuations in supply and demand.

OPEC spare capacity

Part of the key to understanding how the global oil market performs is to look at OPEC spare capacity data which gives a picture of how OPEC have provided or withheld capacity to try and retain order in the oil markets. OPEC suspending their market interventions has caused the recent oil price rout.

Figure 2 OPEC have tried to maintain order in the oil market. Rather than allow price fluctuations to control supply and demand, OPEC have aimed for a price that suits them and tried to maintain it by reducing and increasing supply in tune to fluctuations in global demand and non-OPEC supply. The picture of OPEC spare capacity therefore reflects fluctuations in the global oil market.

Over the past 10 years there have been three market cycles. Two of those have had roughly 3 years duration and amplitude of roughly 2 Mbpd (Figure 2). These sit either side of a larger cycle of 4 years duration and amplitude of 4 Mbpd caused by the 2008 financial crash. These cycles represent OPEC responding to global demand and non-OPEC supply changes. The smaller cycles may be viewed as “normal” and the larger cycle as rather extraordinary. OPEC intervention provided price stability of sorts. Without it we have price volatility that requires production to be balanced by varying demand and varying non-OPEC supply.

The spare capacity data suggests that demand / supply imbalance may last three years, requiring 18 months to work through to the mid-cycle point where over-supply turns to under-supply. It is by no means certain that the market will respond to the same time dynamic when we are now dependent upon natural production capacity wastage to occur as opposed to OPEC simply closing the spigot. But this is all I have to go on. The downturn in the current price cycle began last July and we are therefore just 6 months in. Another year of pain to go for the producers, that is unless OPEC decides to intervene.

Supply or Demand Driven Markets?

It is also difficult to discern if the current over-supply state is down to excess production capacity or a reduction in demand. Both are likely but my opinion is that the price rout is demand driven with many parts of the global economy performing badly – Japan, China and the EU to name but a few. These are about to be joined by OPEC, Russia and Canada.

The graphic below from the newly published December IEA OMR (oil market report) tends to confirm this view. 4Q14 supply is flat while demand is down. By 1Q15 a 2 Mbpd supply-demand gap is beginning to open tending to confirm the position laid out above.

Figure 2b The oil supply-demand view from the December IEA OMR.

Scenario 1

In 2015 demand falls by 2Mbpd relative to summer 2014 peak. New 2015 non-OPEC production capacity of 1.4 Mbpd (OPEC forecast) does not materialise leaving the supply curve as it is today.

This leaves the oil price around $60 a year from now (Figure 3). In the interim the price may go a lot lower as production capacity continues to rise before falling back to current level at year end; and because of short term trends driven by speculation.

Figure 3 Scenario 1 December 2015. Supply capacity grows and then falls back to where it is today. Underlying ills in the global economy sees demand drop 2 Mbpd from the July 2014 peak. The price ends up at around $60 / bbl, where it is today. But in the interim may go on an excursion to lower prices followed by recovery. Note that the 2014 demand line is retained in other charts to provide a frame of reference.

In 2016, low price causes a fall in global oil production capacity of 1 Mbpd and an increase in demand of 1 M bpd. These very small adjustments see the oil price rebound to $105 / bbl by December 2016 (Figure 4). Every cloud appears to have a silver lining if you are an oil producer, but global oil production capacity is cut by 1 M bpd in the process.

Figure 4 The low price of 2015 gives the oil industry a hangover in 2016 and supply drops 1 Mbpd. At the same time consumers party and falling supply collides with rising demand sending the oil price back up to $105 / bbl by December 2016.

Scenario 2

Under Scenario 2, the oil price rout causes high cost, high debt producers to default on loans creating a new banking crisis that spills over to the main economy. Re-run of 2008/9 though perhaps worse since most banks and national government balance sheets have not recovered from prior crisis.

Demand falls by 4Mbpd relative to summer 2014 peak, but supply capacity is also cut by 1 Mbpd owing to shale and other high cost operators going out of business. In December 2015 the oil price stands at $45 / bbl (Figure 5).

Figure 5 The fall in demand experienced so far causes trauma to many global producers that default on loans with knock on to banking sector and the broader economy resulting in further falls in demand during 2015. The price rout continues but is tempered slightly by non-OPEC supply being reduced by 1 Mbpd.

The low oil price works its magic on the global economy that rebounds strongly in 2016 pushing demand up by 2 Mbpd. But the $45 oil experienced in 2015 seals the fate of another 1Mbpd production capacity that is lost. Rising demand collides with falling capacity sending the oil price soaring back to $100 / bbl by December 2016. But the world has lost 2 Mbpd oil production capacity as a result of the price rout.

Figure 6 The price rout sees supply fall by a further 1 Mbpd. But the ultra low price causes a major rebound in demand of 2 Mbpd in 2016 from an “oversold” position. The oil price recovers to $100 / bbl.

Scenario 3

OPEC blinks first and with both Qatar and Kuwait cutting production in November, there are signs that this may be possible. Much depends upon Saudi Arabia who could conceivably raise production to counter the cuts made in other Gulf States. In Scenario 3, OPEC cuts production by 2 Mbpd by December 2015. While demand falls by 2 Mbpd from the July 2014 peak. The oil price recovers to $100 / bbl by next December 2015 (Figure 7).

Figure 7 Early in 2015 OPEC succumbs to pressure from several members and cuts supply progressively for a total of 2 Mbpd over the year. The net demand fall from the July 2014 peak is cancelled by the supply cut and the price recovers to $100 by December 2015.

This effectively means re-establishing the status quo of recent years. In this scenario, it is not necessary to look beyond 2015 since OPEC have re-adopted their strategy of market stability at a price that suits all – including the high-cost producers.

Observations

Each of the scenarios see strong recovery in oil price to the region of $100 come 2016. The main differences are in the extent and duration of short term pain and in the global production capacity. Scenarios 1 and 2 sees production capacity falling by 1 to 2 Mbpd come December 2016 and this would mainly be non-OPEC capacity that is destroyed handing greater control of oil markets to OPEC. Scenario 3 sees capacity maintenance and with re-establishment of status quo and high oil price, further expansion of N America. We need to wait and see if OPEC does what OPEC says.

My estimation of probabilities goes something like this:

Scenario 1: 40%
Scenario 2: 50%
Scenario 3: 10%

So my weighted forecast for December 2015 goes like this:

($60*0.4)+($45*0.5)+($100*0.1) = $56.50

Every year around this time I have a bet on the oil price a year from now. A year ago I bet $125 and my friend $110. Rarely have we both been so badly wrong. I lost again

Ilargi: And of course Euan’s friend Roger Andrews has the first comment again:

Euan: Excellent piece of work. My weighted prediction for December 2015 is ($60*0.45)+($45*0.5)+($100*0.05) = $54.50/bbl. I’ve halved your already-low scenario 3 probability because I just don’t see OPEC – and certainly not the Saudis – cutting production first.

I think the Saudis have decided that preserving their historic market share is worth a few years of privation, particularly when they can live off their accumulated fat in the meantime. I say “a few years” because I don’t think it’s out of the question that the price slump could go on for that long.

Each of the scenarios see strong recovery in oil price to the region of $100 come 2016. Will this be the next “oil shock”?

The 2014 Oil Price Crash Explained

Nov 242014

November 24, 2014 Posted by Raúl Ilargi Meijer at 2:33 pm Finance Tagged with: crash, demand, Euan Mearns, LTO, oil price, OPEC, Russia, Saudi, supply 7 Responses »

NPC Capitol Refining Co. plant, Relee, Alexandria County 1925

This is an article by our good friend Euan Mearns at the University of Aberdeen. It was originally published here .

In February 2009 Phil Hart published on The Oil Drum a simple supply demand model that explained then the action in the oil price. In this post I update Phil’s model to July 2014 using monthly oil supply (crude+condensate) and price data from the Energy Information Agency (EIA).
This model explains how a drop in demand for oil of only 1 million barrels per day can account for the fall in price from $110 to below $80 per barrel.
The future price will be determined by demand, production capacity and OPEC production constraint. A further fall in demand of the order 1 Mbpd may see the price fall below $60. Conversely, at current demand, an OPEC production cut of the order 1 Mbpd may send the oil price back up towards $100. It seems that volatility has returned to the oil market.

Figure 1 An adaptation of Phil Hart’s oil supply demand model. The blue supply line is constrained by data (see Figure 4). The red demand lines are conceptual. Prior to 2004, oil supply was fairly elastic to changes in price, i.e. a small rise in price led to a large rise in production. This is explained by OPEC opening and closing the taps. Post 2004, oil supply became inelastic to price, i.e. a large change in price led to marginal increase in supply. This is explained by the world pumping flat out. Demand tends to be fairly inelastic and inversely correlated with price in that high price suppresses demand a little. Supply and price at any point in time is defined by the intersection of the supply and demand curves. 72 Mbpd and $40 / bbl in 2004 became 76 Mbpd and $120 / bbl in 2008 as demand for oil soared against inelastic supply.

Figure 2

Followers of the oil market will be familiar with the recent evolution of oil supply and price shown in Figure 2.

Figure 3

What is less widely appreciated is that a cross plot of the data shown in Figure 2 results in the well-ordered relationship shown in Figure 3. Oil supply and price are clearly following some well established rules. This relationship led to Phil Hart developing his model shown as Figure 1.

Figure 4

Separating the data into two time periods brings more clarity to the process at work. The data define a fairly well-ordered time series beginning at January 1994 at the bottom left rising slowly to January 2004 and then steeply to the Olympic Peak of July 2008. The financial crash then caused the oil price to give up all of its gains returning to 2004 levels by December 2008.

Figure 5

The second time period from January 2009 to the present shows some different forces at work. Starting in 2009 some new production capacity was built. This was not in OPEC and is concentrated in N America where the light tight oil (LTO) boom took off supplemented by steady expansion of tar sands production. Prior to 2009, the production peaks were of the order 74 Mbpd. Post 2009 peaks of the order 77 Mbpd were achieved. About 3 Mbpd new capacity has been added. In May 2011 there is a significant and curious excursion to lower production not accompanied by a fall in price. This coincides with Libya coming off line for the first time and the loss of 1.6 Mbpd production. It seems possible that this coincided with weak demand and the fortuitous loss of production cancelling weak demand leaving price unchanged.

The EIA are always running a few months behind with their statistics these days, not ideal in a rapidly changing world. Thus we do not yet have the data to see the recent crash in the oil price. But we know the price has fallen below $80 and production is unlikely to be significantly changed. So, how do we explain production of roughly 77 Mbpd and a price below $80?

Figure 6

Figure 6 updates Phil Hart’s model (Figure 1) to take account of the oil supply and price movements of the last 5 years. Capacity expansion is achieved by adding 3 Mbpd to the former, well-defined supply-price curve (blue arrow). There is no a-priori reason that this curve should hold in the new supply-price regime, but for the time being that is all I have to work with. The red lines, as described in the caption to Figure 1, conceptually represent inelastic demand where high price marginally suppresses demand for oil. The recent past has seen oil priced at $110 with supply running at about 77 Mbpd as defined by the right hand red coloured demand curve. Reducing demand by about 1 Mbpd brings the price below $80 / bbl (red arrow).

The Recent Past and the Future

Old hands will know that it is virtually impossible to forecast the oil price. The anomalous recent price stability of $110±10 I believe reflects great skill on the part of Saudi Arabia balancing the market at a price high enough to keep Saudi Arabia solvent and low enough to keep the world economy afloat. The reason Saudi Arabia has not cut production now, when faced with weak global demand for oil, probably comes down to their desire to maintain market share which means hobbling the N American LTO bonanza. Alternatively, they could be conspiring with the USA to wreck the Russian economy? But Saudi Arabia is not the only member of OPEC and the economies of many of the member countries will be suffering badly at these prices and that ultimately leads to elevated risk of civil unrest. It is not possible to predict the actions of the main players but it is easier to predict what the outcome may be of certain actions.

If demand for oil weakens by about a further 1 Mbpd this may send the price down below $60 / bbl.
If OPEC cuts supply by about 1 Mbpd at constant demand this may send the price back up towards $100 / bbl.
Prolonged low price may see LTO production fall in N America and other non-OPEC projects shelved resulting in attrition of non-OPEC capacity. This may take one to two years to work through but with constant demand, this will inevitably send prices higher again.
Prolonged low price may see many specialist LTO producers default on loans, risking a new credit crunch and reduced LTO production. This would likely lead to a major consolidation of operators in the LTO patch where the larger companies (the IOCs) pick up the best assets at knock down prices. That is the way it has always been.
Black Swans and elephants in the room – with conflict escalation in Ukraine and / or Syria-Iraq and a new credit crunch, all bets will be off.

[Ilargi:] And this comment to the article from Euan’s friend and collaborator Roger Andrews certainly warrants attention as well. (check the grey dots!):

Hi Euan:

I put this XY plot of the data together from the data links you supplied. It shows the same trends as your Figures except that I’ve plotted all the points on one graph and segregated them into five periods, with trend lines and arrows showing the overall “direction of travel” for each (arrows in both directions for October 2004-May 2009, which as you noted goes zooming up and then comes right back down again).

I’ve also projected production data for the missing months since May 2014 (shouldn’t be too far off) so that we can at least get an idea of how the latest trend might compare with the old ones. We seem to be in uncharted territory.

Debt Rattle October 5 2014

Oct 052014

October 5, 2014 Posted by Raúl Ilargi Meijer at 1:53 pm Finance Tagged with: Draghi, ECB, fermions, Obama, oil price, OPEC 3 Responses »

Jack Delano Walter V. Dew, rear brakeman, on the Atchison, Topeka & Santa Fe March 1943

• World On The Brink Of Oil War As OPEC Bickers Over Price (Telegraph)

• Why The Crude Oil Crush Could Accelerate (CNBC)

• How The Fed Is Dangerously Deforming The Money Markets (Alhambra)

• Obama’s Economic Recovery In Pictures (STA)

• ECB Becoming ‘Junk Bank’ Under Draghi: Merkel Ally (Reuters)

• Will Europe Lead the World Into Another Financial Crisis? (Phoenix)

• How Finance Quietly Took The World Hostage (Zero Hedge)

• Greece Will Be In Default Within 15 Months, S&P Warns (Zero Hedge)

• Geithner Due in Court to Explain ’Loan Sharky’ AIG Rate (Bloomberg)

• Putin Rejects US-Style ‘Easy Money’ Stimulus In Russia (RT)

• Gazprom Accuses Poland, Hungary, Slovakia Of Rerouting Gas To Ukraine (RT)

• Iran ‘Not Ready’ To Replace Russian Gas Supplies To EU – Rouhani (RT)

• Ebola Patient In US Takes Turn For The Worse (Reuters)

• Sub-Atomic Particle Observed That Is Both Matter And Antimatter (RT)

Oil’s the story.

• World On The Brink Of Oil War As OPEC Bickers Over Price (Telegraph)

A secretive group of the world’s most powerful oil ministers will soon gather in Vienna to take arguably one of the most important decisions that could affect the still fragile world economy: whether to cut production of crude to defend prices at $100 per barrel, or keep open the spigots as winter looms among the biggest energy-consuming nations? A sudden slump in the price of crude has exposed deep divisions within the Organisation of Petroleum Exporting Countries (Opec) ahead of its final scheduled meeting of the year next month to decide on how much oil to pump. Some members, led by Iran, have called for immediate action to stem the drop in oil prices, while the Arab sheikhdoms of the Gulf have so far argued that it could be another three months before it becomes clear whether the group should cut production for the first time since December 2008.

Whatever they decide, oil remains the lifeblood of the global economic system due to its direct impact on inflation and input prices. Brent crude – a global benchmark of oil drawn from 15 fields in the North Sea, dipped last week to multi-year lows below $92 per barrel as a perfect storm of a strong US dollar, oversupply in the system and declining demand shattered confidence in the market. Brent has tumbled 20pc in the last three months after touching $115 per barrel in June. In the US – the world’s biggest consumer – crude for November delivery at one point last week dropped below the psychologically important $90 pricing level, raising fears that a prolonged slump could put many of America’s shale drillers out of business. Shale oil, which can cost up to $80 per barrel to produce, has spurred an energy revolution in the US, which has started to threaten the dominance of producers in the Middle East. However, at current price levels many of these new so called “tight oil” wells are approaching the point when they will soon become unprofitable.

Like the situation in the US, falling oil prices are also a double-edged sword for Britain’s economy and investors. Although George Osborne, the Chancellor, is less reliant on tax revenues from the North Sea than some of his predecessors, prices are approaching the point when many of the developments planned offshore west of Shetland by international oil companies could be placed on ice. A sharp drop-off in domestic oil production and associated tax receipts from the North Sea would give Mr Osborne an unwelcome hole to fill in the government’s public finances heading into next year’s general election. However, falling oil prices will help to keep inflation low. For Britain’s motorists the current declines have been good news that has trickled through to the price of petrol on forecourts. A litre of unleaded petrol in the UK has fallen a few pence over the past month to an average of around 127.21p on average, a figure last seen in 2011, just before Mr Osborne raised the value added tax on fuel to 20pc, from 17.5pc.

All eyes are now firmly focused on the next move by Opec, which controls 60pc of the world’s oil reserves and about a third of daily physical supply. The group has been branded an unaccountable “cartel” by free-market critics in North America who claim its system of limiting production by setting an output ceiling and quotas is tantamount to price rigging. Although this is an accusation that the group’s secretariat which is based in Vienna strongly denies, its mostly unelected group of policymaking oil ministers undeniably pull the strings of the global energy industry in the same way that central bankers can control currencies. Opec states have largely managed to maintain cohesion over the last decade as prices over $100 per barrel have enriched their economies and encouraged adherence to quotas. This consensus is now starting to break down, creating more uncertainty in the market and a potentially destabilising situation for the global economy.

• Why The Crude Oil Crush Could Accelerate (CNBC)

Crude oil has gotten crushed this week, with West Texas Indermediate futures falling below $90 per barrel on Thursday for the first time in more than a year. And though oil has staged a mild comeback over the course of the session, crude oil futures are still 15% below the high set in June. At this point, traders say bearish fundamentals and an awful-looking chart could point to more downside ahead for oil. The main cause for the crude decline comes out of the Middle East, where Saudi Arabia surprised the market by opting not to cut production even in the face of declining prices. And according to trader Brian Stutland, “the Saudis are just starting to feel the heat. U.S. production has really put some pressure on them.”

Yet even as supply will be higher than expected, Stutland noted on Thursday’s “Futures Now” that the European economy continues to be in major trouble “which is weakening demand global, so it’s not just a supply thing—it’s a demand thing overseas.” Jim Iuorio says the chart doesn’t make things look much better. He notes that oil has fallen below a key level of support around $91, which could lead to further selling. “From a technical standpoint, I think it’s broken some levels and some damage has been done to the chart. If we start to see some weakness again and the November contract trades $90.30,” Iuorio would want to get short. The broader view for crude looks bearish as well. Fadel Gheit of Oppenheimer points out that since technology has reduced production costs into the $60s per barrel, oil prices are now more at home in the $80s than at $100. To capitalize on a further drop in crude, Iuorio recommends selling November crude oil futures at the aforementioned $90.30 price, with a target of $87.70.

Easy to forget amid all the confidence plays, but the Fed is in totally unknown territory, has been since 2007. They have no idea what will work.

• How The Fed Is Dangerously Deforming The Money Markets (Alhambra)

“We don’t exactly know how it will work” should be stamped upon every message coming from the policymaking apparatus from this point forward, and then retroactively applied to every message in the age of risk and rate repression. Action in short-term money markets has heated up yet again, and that is not a positive statement toward vital function. To “exit” from monetary policy as corruptive as it has been, the FOMC and its staff believes a European-style policy framework is “needed.” It is not to be an exact replica, mind you, only the general idea borne out under decidedly American conditions and characteristics. The Fed is trying to build a rate corridor where one never existed, and I would contend never should. Part of the reason is that the federal funds rate applies less and less to anything of any import, more a relic than a policy measure. After 2007, unsecured overnight lending has been far more of a dream than anything of operational concern, thus the vastly increased relative importance of secured wholesale finance, i.e., repo.

To get from fed funds targeting to repo is not an easy leap, particularly since we are again introducing the discrepancy of dollars vs. interbank currency (where it is often difficult to discern which one is more money-like at any one point in time). The reverse repo program was supposed to provide “aid” toward establishing a hard(er) floor for rates. It obviously failed with the persistent spikes in repo fails, which denote effective repo rates at something between 0% and -3% (and closer to the latter than the former). Collateral, that interbank currency, is not getting out of the Fed “silo” (its vast SOMA holdings) to conduct business as needed. Back in August, some FOMC comments in this direction show just how much they rely on unproven theory:

Officials plan to use the rate of interest the Fed pays on excess reserves deposited at the central bank as the “primary tool used to move the federal funds rate into its target range” while “temporary use” of the overnight reverse repo facility will be employed to “help set a firmer floor,” according to the July FOMC meeting minutes. “If we can move those three rates in tandem, then I think it will be pretty clear signaling to markets as to where the Fed stands and where short-term interest rates stand,” Bullard said. “We’ve never done this before, so we don’t know exactly how it will work, but I do think that we are in pretty good shape.” [emphasis added]

They already had more than a little whiff of failure in repo fails, so the statement above was already stale at the point it was issued.

“Only 43.6% of young adults currently hold a full-time job. 53% are either jobless or underemployed relative to their education.”

• Obama’s Economic Recovery In Pictures (STA)

On Thursday, President Obama will give a speech at Northwestern University’s Kellogg School of Management on the economy. This issue is critical going into the mid-term elections as virtually every poll shows this is a top concern of voters. The question of economic recovery is interesting in the context of where that recovery has occurred. As I discussed recently in “For 90% Of Americans, There Has Been No Recovery,”while the ongoing interventions by the Federal Reserve have inflated asset prices, the only real accomplishment has been a widening of the wealth gap between the top 10% of individuals that have dollars invested in the financial markets and everyone else.

Another problem for the President at Northwestern University is that he will be trying to promote his success on economic recovery to a group of individuals who are currently plagued with a poor slate of economic statistics. The unemployment rate for 18-29 year-olds is nearly 12%. Over 30% are still living with parents more than two years after graduation. Only 43.6% of young adults currently hold a full-time job. 53% are either jobless or underemployed relative to their education. These stats are going to make promoting an “economic success” story rather difficult. However, let’s review Obama’s economic scorecard in terms of the things that truly matter to the average American.

There is only one chart of employment that truly matters: the number of full-time employees relative to the working age population. Full-time employment is what ultimately drives economic growth, pays wages that will support household formation and fuels higher levels of government revenue from taxes. If the economy were truly beginning to recover, we should be witnessing an increasing number of full-time employees. Unfortunately, that has not been the case as this measure, as shown by the chart below, is only slightly off the lows witnessed during the financial crisis.

Given that nearly 70% of economic growth is driven by personal consumption expenditures, the sluggishness of economic growth since the financial crisis can be directly attributed to a fall in personal incomes. According to a recent Federal Reserve survey, median household before-tax incomes have fallen from near $52,000 annually to roughly $47,000 currently.

Draghi’s ABS plans are mostly dead already. He can buy German and Dutch paper, but not the countries that need the help.

• ECB Becoming ‘Junk Bank’ Under Draghi: Merkel Ally (Reuters)

A leading member of German Chancellor Angela Merkel’s Bavarian sister party criticised European Central Bank chief Mario Draghi on Saturday, saying he was turning the institute into a “junk bank” with his plans to buy debt rated as junk. In a stinging attack, Hans Michelbach of the Christian Social Union (CSU) said Draghi was endangering the stability of financial markets. “Draghi is increasingly transforming the ECB into a junk bank,” Michelbach told Reuters. On Thursday, the ECB laid out plans to buy rebundled packages of debt and covered bonds, secured on solid assets such as property. It will include buying debt with a “junk” credit rating from Greece and Cyprus as long as such states are under a formal international financial programme. Michelbach, who is chairman of the conservative faction in the parliamentary financial committee, said the ECB now wanted to buy the kind of “opaque debt” that was largely to blame for the outbreak of the global financial crisis in 2007/2008.

“Draghi, a former investment banker, has not learnt anything in his role as head of the ECB. He was and still is the wrong person for the job,” Michelbach said. With its “Draghi politics”, the ECB is helping countries that are not reforming, he said. “Draghi is ridiculing the people in Europe who have taken burdens upon themselves to shore up the future of their countries by means of reforms,” Michelbach added. He said the planned purchases of debt, which the ECB hopes will boost lending and so boost the euro zone economy, would mobilise “not one single extra euro of loans” in the single currency bloc. “Draghi looks like he is at his wit’s end and he’s trying to cover it up by performing increasingly absurd pirouettes,” Michelbach said.

Ugly stuff. But Europe don’t need to lead Japan and China anywhere, they’re more than capable of finding the dead ends themselves.

• Will Europe Lead the World Into Another Financial Crisis? (Phoenix)

In 2012, ECB President Mario Draghi, pulled the EU back from the brink of collapse by promising to do “whatever it takes” in the summer of 2012. Since making that promise, the two biggest problem countries for the EU, Spain and Italy, have both seen the yields on their bonds fall. Draghi’s promise also lit a fire under EU stocks, with Spanish, Italian, and German markets roaring higher.

It is critical to note that Draghi accomplished this without actually doing anything. All he did was make a verbal commitment. The only problem with this is that while sovereign bond yields have fallen and EU stocks have rallied, the EU economy has not recovered. GDP growth for the EU as a whole was a measly 0.2% in 2014… the same as fourth quarter 2013. Indeed as the below chart indicates, the supposed “recovery” Draghi had hoped his promise would create has failed to manifest.

Draghi tried to gun the system by cutting interest rates to negative in June then launching an asset purchase program this month… but neither policy looks to be changing anything.

Italy is back in recession for the third time since 2008. Germany’s economy contracted in the second quarter of 2014 and will likely be in recession before the first quarter of 2015. France has registered zero growth for six months now. And the markets smell “trouble.” European financials have taken out the trendline that supported them since the 2012 bottom:

Europe’s crisis is not over, not by a long shot. Mario Draghi has thrown everything, including the kitchen sink, at the economy over there and has failed to create sustainable growth. It’s now just a matter of time before the next round of the Financial Crisis hits and the whole mess comes crashing down.

Break it up!

• How Finance Quietly Took The World Hostage (Zero Hedge)

While we have beaten the dead horse topic of collapsing global of CapEx (per Citi, net capex is now unchanged since 2000), we now have a clearer understanding why there is no global growth, why trade is plunging, and why world commerce is rapidly grinding to a halt. The answer lies in the following chart which shows the relative proportion of what the world has been investing in for the past two decades.

It shows that while investment in most traditional categories has fallen off a cliff, the money spent for business activities, i.e. services, has soared at the expense of such conventional growth components as trade, manufacturing, petrochemicals, and food and beverage. But the punchline, and what is by far the scariest, is that rising from 19% to a record 30%, and by far the biggest use of funds, is finance, the one industry that doesn’t actually lead to growth but merely finds ways to mask the lack of growth with pro-forma adjustments and stacks leverage upon leverage on ever declining underlying equity and cash flows, until the entire system crashes as it did in 2001, 2008 and, well, soon.

It also means that forget Too Big To Fail banks: the entire financial industry has now become the monster behemoth whose crash will wipe out the world, and hence why it can never be allowed to crash. One could say that in the past two decades, finance itself succeeded in taking the world hostage and can demand any ransom… or the world gets it. A ransom, which the global central banks are all too happy to pay to let “finance” get its way, in the biggest Mutual Assured Destruction scenario in world history.

They’ll just deny it for the next 15 months.

• Greece Will Be In Default Within 15 Months, S&P Warns (Zero Hedge)

Remember Greece: the country that in 2010 launched Europe’s sovereign solvency crisis and the ECB’s own helpless attempts at intervention, which later was “saved”, only to default shortly thereafter (but without triggering CDS as that would end the Eurozone’s amusing monetary experiment and collapse the Deutsche Bank $100 trillion house of derivative cards), which later was again “saved” when every single global central bank made sure Greek bonds became the only yield-generating securities in the world? Well, the country which at last count was doing ok, is about to not be ok. Because according to none other than S&P, at some point over the next 15 months, Greek debt is about to be in default when the country is no longer able to cover its financing needs. In other words, back to square one. As Bloomberg reports, citing Real News, S&P analyst Marie-France Raynaud said Greece can’t cover its own financing needs. How is that possible? Isn’t Europe so fixed, it no longer has anything to worry about except deflation, pardon, inflation?

Guess not. According to Bloomberg, S&P estimates Greek financing needs for the next 15 months to be at €43 billion. This is a problem because even if Greece sells bonds this year and next, sales won’t be enough to cover net financing needs. So maybe Greece will sell more bonds? Well, the problem with that is that the second the LIFO paradigm of bond investing no longer works, and the last guy in may be stuck holding the bag, nobody will want to buy 1 penny in debt issued by Greece. The specifics: S&P estimates Greece will draw €5 billion from intl bond sales, €20 billion from internal mkt, €12 billion from official lenders inluding the IMF in next 15 mos. S&P also forecasts Greece will repay €3 billion in bonds held by investors who refused to participate in 2012 debt writedown, and if it doesn’t then Greece will following Argentina in being held in “contempt to court” for cramming down foreign law covenants. Just kidding: that would mean the global legal system actually works instead of serves merely to make the rich richer.

As for Greece, it appears that suddenly the idyllic image of its recovery is about to be torn to shreds and the Syntagma riotcam will have to come out of hibernation. Or maybe it won’t. In a case of populist pandering that Obama himself would be proud of, at the same time as the S&P report hit, the Greek premier Antonis Samaras said in a Kathimerini op-ed that if political stability isn’t threatened, Greece won’t need emergency loans in a few months, and will achieve final settlement on public debt. He added that liquidity in Greece will be restored after ECB stress tests on country’s lenders and that in stark contrast to what S&P just said, Greece doesn’t need new bailout agreement, no new loans. Actually, it will. The backdoor left open by Samaras is that “achievements will be endangered in case of political instability, and if parliament has to elect president” adding that the “government will not allow those who want the country to commit suicide to have it their way.”

When everyone has either long forgotten or died.

• Geithner Due in Court to Explain ’Loan Sharky’ AIG Rate (Bloomberg)

Federal regulators cut a “loan sharky” interest rate on an $85 billion bailout loan to American International Group Inc. (AIG) because it contributed to a debt service problem that threatened the insurer’s credit rating, the top lawyer for the Federal Reserve Bank of New York testified in a Washington federal court. “We were part of the problem in setting that very high rate,” Thomas Baxter testified yesterday. Timothy Geithner, the head of the New York Fed at the time and the man who, according to Baxter, authorized that rate, will get a chance to explain his thinking next week when he takes the witness stand in the trial of a $25 billion illegal “takings” lawsuit by Maurice “Hank” Greenberg’s Starr International Co.

Geithner will be joined in court by two other men seen as the architects of the bailout loan as well as of the broader U.S. response to the 2008 financial crisis, former Treasury Secretary Henry Paulson and Ben Bernanke, the former chairman of the Federal Reserve. The 12% interest rate, agreed to by AIG, which “in loose language I have referred to as a loan sharky rate,” was lowered after ratings agencies threatened a ratings downgrade in November 2008, two months after the bailout began, according to Baxter. He didn’t say how much the rate was reduced. Starr, AIG’s largest shareholder at the time of the bailout, claims the government punished AIG by demanding equity and imposing an an interest rate on the loan of, in effect, 14%. The complaint alleges the U.S. didn’t have the legal authority to require equity as consideration for the loan.

• Putin Rejects US-Style ‘Easy Money’ Stimulus In Russia (RT)

Russia must be careful with any monetary stimulus, and can’t be injecting billions into the economy to make it grow, as the US has been doing, President said at VTB’s Russia Calling! investment forum. Russia plans to increase internal debt, but will go about it more carefully than US, so it doesn’t hurt the real economic sector. “Domestic debt will increase, because it’s at a record low level. But we’ll proceed carefully,” Putin said. “We need to improve our growth not by means of monetary injections, but by structural reforms.” This was Putin’s answer to a question on whether Russia is going to provide special support for the country’s financial markets at a time when access to foreign long-term borrowing is curtailed by sanctions.

The President outlined that Russia’s budget for the next three years will continue with a more prudent approach to debt. “The federal budget of 2015 and of 2016-2017, which the government has presented to the State Duma, proposes a rather moderate deficit, just 0.5-0.6% of GDP, with the base price of crude oil set at $96 per barrel. These are stable basic parameters which allow strict compliance with all budget liabilities, including social ones,” Putin said.

Wonder what they’ll do once it gets cold.

• Gazprom Accuses Poland, Hungary, Slovakia Of Rerouting Gas To Ukraine (RT)

Poland, Hungary, and Slovakia have together re-exported 1.7 billion cubic meters of Russian gas to Ukraine, Gazprom, Russia’s biggest gas exporter said Friday, questioning the legality of the practice. “There is every reason to believe that Russian gas is being delivered to Ukraine that isn’t intended for them, but for other European customers. This is generally done under the ‘virtual reverse gas flow’ scheme, but we have seen gas movements across the Ukrainian border,” as TASS quotes Deputy Chairman of Gazprom Aleksandr Medvedev. The data was compiled at the request of Vladimir Gutenev, first deputy head of the industry committee of Russia’s lower house of parliament. A total of 3.8 billion cubic meters was imported from Slovakia, Poland, and Hungary between 2012-2014, and 1.7 billion cubic meters so far this year.

The amount indicates that Naftogaz, Ukraine’s state oil and gas company, is not following the conditions of its contract with Gazprom, Aleksandr Medvedev said. “To ensure reverse gas flows to Ukraine, the Ukraine and the gas transportation companies of Poland, Hungary and Slovakia have reconstructed their gas pipeline systems, allowing transporting gas via the border and its consumption metering,” Medvedev said. After Russia turned off supplies to Kiev in June over the climbing debt, Ukraine has been working closely with European partners to diversify gas supplies, including reverse flow, or the re-export of Russian gas into Ukraine. As supplier, Gazprom maintains this is illegal under the existing contracts.

Now we need Iran?

• Iran ‘Not Ready’ To Replace Russian Gas Supplies To EU – Rouhani (RT)

Iran is not ready to satisfy EU’s gas demand and replace Russia as a key supplier if sanctions against Tehran are lifted, said Iran’s President Hassan Rouhani. He added that the country lags behind in gas extraction. “As you know, Iran has the largest deposits of gas,” Rouhani said. “But we lag behind in gas output and so we first think about the domestic demands,” said Rouhani in an interview with Rossiya 1 news channel. Rouhani added that “from time to time” Iran has problems with gas during winter.

“We have many buyers, clients around us… All our neighbors to the east, west and south want to buy gas which we are yet to extract,” he said. According to the president, “now the conditions are not like those when everybody thinks that if Russia stops gas supplies [to the EU], Iran would provide [Europe] with the same [amount of] gas.” He added that the country’s production is “far from this stage.” In the meantime, Rouhani said that Iran is willing to cooperate with Russia in the gas sector.

Absolutely hate to say it, but maybe a first Ebola death on US soil is what it takes.

• Ebola Patient In US Takes Turn For The Worse (Reuters)

The first Ebola patient diagnosed in the United States took a turn for the worse on Saturday, slipping from serious to critical condition, as health officials reported fielding scores of possible cases around the country that proved to be false alarms. Dr. Thomas Frieden, director of the U.S. Centers for Disease Control and Prevention, said news of the Ebola patient in Dallas had alerted hospitals nationwide to check incoming patients for potential risks, particularly those who had recently traveled from the center of the outbreak in West Africa.

The CDC has identified nine people who had contact with the Dallas patient from Liberia, Thomas Eric Duncan, and therefore may have been exposed to the virus, and an additional 40 are being monitored as potential contacts. None have shown symptoms, Frieden said. Frieden also said U.S. health authorities have responded to inquiries regarding more than 100 potential cases of Ebola since Duncan tested positive earlier this week, but no new infections have been identified. On Saturday, CDC officials dressed in biohazard suits escorted two passengers off a United Airlines jet that landed at Newark Liberty International Airport in New Jersey because they were believed to be from Liberia and exhibiting signs of illness during the flight.

Big step in quantum computing.

• Sub-Atomic Particle Observed That Is Both Matter And Antimatter (RT)

After 80 years of painstaking experimentation, scientists have directly observed a sub-atomic particle that is its own antiparticle. The breakthrough promises a leap forward in quantum computing and potentially shows the path to finding dark matter. The particles are called the Majorana fermions, after the Italian scientist who proposed their existence back in 1937. Quantum theory was in its infancy at the time, and scientists first theorized that antimatter existed: an opposite particle to the commonly-observed electrons and other particles were necessary for quantum equations to work. Although since then many forms of antimatter have been observed, the Majorana fermion remained elusive for decades, partially because it virtually doesn’t interact with regular particles. A team of researchers at the Delft University of Technology in the Netherlands reported a possible discovery of evidence of the Majorana back in 2012, but other scientists pointed out that their results could have been caused by other phenomena.

Now a team led by Professor Ali Yazdani of Princeton University and his team, which included colleagues from University of Texas-Austin, seem to have pinpointed the particle in an experiment that required months of careful adjustments, a two-story tall microscope floating in an ultralow-vibration lab at the campus and an environment of almost absolute cold. They published the results in the October 2 issue of the journal Science. The setup was first proposed by Russian-born physicist Aleksey Kitaev, now a professor at the University of California-Santa Barbara, who predicted in 2001 that Majoranas would emerge on the ends of a superconductuve wire under certain magnetic conditions. Given a certain length of the wire, these particles would not annihilate each other due to spatial separation.