Monthly Archives: May 2011

Financial Repression Coming to America: El-Erian

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Unfortunately, I can’t say that policy makers with as little understanding of actual monetary as he has won’t do that type of thing.

(Nor can’t I say he isn’t talking position)

I can say they all seem heck bent on deficit reduction, which is probably the most severe and effective form of economic repression.

And $US short covering, in its various forms,
which may already be in the early stages as suggested in previous posts,
should reveal any underlying deflationary forces of repression.

Financial Repression Coming to America: El-Erian

May 17 (CNBC) — The co-CEO of the world’s largest bond fund has warned America that it faces a combination of higher inflation, austerity and financial repression over the coming years as policy makers grapple with the impact of the financial crisis and the subsequent policy response.

“Think of the debt overhangs in advanced economies where projected rates of economic growth are not sufficient to avoid mounting debt and deficit problems,” said Mohamed A. El-Erian in speech at a PIMCO forum on growth.

“Some are already flashing red, and they will force even more difficult decisions between restructuring and the massive socialization of losses, like Greece,” he added.

“Others are flashing orange, like the US, and already require future sacrifices, most likely through a combination of higher inflation, austerity and, importantly, financial repression,” said El-Erian, who classifies financial repression as seeking to impose negative real rates of returns on savers.

This policy will undermine the real return contract offered to savers and, in El-Erian’s view, come instead of any bold moves to address structural problems and imbalances.

“Secular baseline portfolio positioning should minimize exposure to the negative impact of financial repression, hedge against higher inflation and currency depreciation and exploit the heightened differentiation in balance sheets and growth potentials,” El-Erian added.

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How to exit the euro- a proposal from 1997

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This was published in a French newspaper in Quebec in 1997 (in French).

Today it has application in the eurozone, which is briefly discussed as well.

As always, feel free to distribute, repost, etc.

A Plan for Quebec Monetary Independence: The Non-Conformist view of an American Investor

By Warren B. Mosler

Canadian politicians and the media depict the international financial community as being unanimous in its condemnation not only of Quebec political independence but, even more so, of the possibility of a separate Quebec currency. Fearing the uncertainty that such a separate currency would supposedly generate, especially with regard to the international financial community, sovereigntist politicians have always favoured the idea of a monetary union with the rest of Canada and the retention of the Canadian dollar. Indeed, despite the numerous problems that have arisen with the implementation of the Maastricht Treaty in Europe, Quebec sovereigntists have pointed to the EMU as the model to be adopted in the eventuality of Quebec political independence from the rest of Canada. Though not necessarily being favorable to the separation of Quebec because of my lack of understanding of the political issues at stake, being a member of this larger international investment community where millions of US dollars are handled by our firm every day, I believe that such a position on monetary union is misguided. As in Europe, monetary union will essentially entail political union, since ultimately the national fiscal authorities will all have to abide by the bureaucratic decision of the common monetary authority. For this reason, the sovereigntist position is somewhat contradictory on this matter since, by espousing monetary union, Quebec will ultimately guarantee the status quo ante in both monetary and fiscal matters. I have been told that this was at the heart of the major debates between former prime ministers Bourassa and Parizeau some twenty years ago. Why go through the process of separating from the rest of Canada if, on crucial matters pertaining to the economy, all that sovereigntist politicians are apparently offering is something akin to the status quo?

Contrary to the conventional wisdom, my belief is that if the people of Quebec were offered a credible plan for their own currency, there may have actually been a ‘Yes’ victory in the October 1995 referendum, and by a significant margin. Although it may not solve all the problems faced by Quebeckers, I wish to propose such a plan. This is a viable plan in which the new currency is supported without any additional income tax, sales tax, or any other transaction tax that could diminish the economic welfare of the community. Additionally, the new currency will be established in such a way as to move the Quebec economy closer to both price stability and full employment, as well as favor very low interest rates. And, last but not least, the plan for this new currency unit, which, lacking a better term, I shall call “La Fleur”, is something every citizen can understand, and economists endorse.

The plan begins with the requirement that, in the eventuality of Quebec accession to independence, hence forth all new taxes would be payable in Quebec Fleurs. Only outstanding past tax liabilities would be payable in Canadian dollars. Since sales taxes and other transactions taxes, including the infamous GST, tend to discourage people from exchanging goods and services with each other, and require enormous record keeping and enforcement costs, they will be immediately eliminated. Instead, I propose a national property tax. Of course, since land is immobile, in one way or another everyone would pay a property tax, either directly by owners of landed property or in the form of higher rents.

The national property tax would be payable only in Fleurs. No record keeping would be necessary, beyond the current property registration system. If the tax isn’t paid, the government would simply sell the property regardless of who the owner is. Of course, the fiscal authority could decide to permit tax exemptions, such as for charitable contributions, should the electorate so desire. Notice, however, that the tax is payable in Fleurs, but no one yet has any Fleurs, except the new State of Quebec, which it can issue them as it desires. The population, and particularly property owners, will be willing sellers of real goods and services in exchange for needed Fleurs. The value of the Fleur will be whatever the government decides it is willing to pay for what it wishes to buy, as it knows the private sector needs its Fleurs to pay the new taxes.

Let’s stop here and examine a few things: 1) The State of Quebec can’t collect any Fleurs until AFTER it spends them, as no one has any to begin with. 2) In contrast to the conventional view peddled by politicians, the State does not tax to collect Fleurs so it can spend them. It taxes so that the private sector will need Fleurs, and therefore be willing sellers of real goods and services in exchange for needed Fleurs. 3) The government can expect to spend AT LEAST as many Fleurs as the private sector needs to pay its taxes. 4) The government will likely be able to spend more Fleurs, at the prices it wishes to pay, than exactly the amount needed for tax payments, as any Fleurs desired to be held by the public as, say, pocket cash must be left over after taxes are paid.

In order effectively to anchor the new currency unit, I further propose that the State first set a wage that it will pay to anyone willing to work for the State.(1) The effect of this government commitment would be essentially to eliminate involuntary unemployment and establish a minimum wage without any further legislation or intrusion into the private sector. This also effectively sets a value for the Fleur in terms of labor time. The market can be left to base all other pricing decisions when purchasing or selling other goods and services on the alternative universally available means of obtaining the Fleur- denominated basic State service. Here I will introduce a bit of arithmetic to illustrate how the State will get the real goods and services it needs to properly run the new nation. Let’s assume a hypothetical example where the consolidated new property and income taxes total 100 billion Fleurs. The State can expect to be able to spend at least that amount as the property owners have no other means of obtaining Fleurs. If the State offered 10,000 Fleurs as the basic State service wage, and spent nothing else, it could be reasonably sure at least 10 million workers would apply for the basic state job (100 billion divided by 10,000=10 million). Well, the State doesn’t want 10 million basic workers (especially since in the present hypothetical case the number would exceed the current population of Quebec!), but it does want other things that will be offered for sale by the private sector (as alternative ways of earning Fleurs to pay taxes). Let’s say the State spends 99 billion Fleurs at market prices, buying the other things that it really needs, including specialized labor and materials needed for the legal system, defense, education, health care and other government services. The private sector now needs only 1 billion more Fleurs to pay its taxes, so a minimum of only 10,000 basic workers can be relied on to apply for work. Of course, there will be a desire in the private sector for cash in circulation, and other activities that cause a desire to net save. This is generally a substantial amount. Suppose it amounts to a desire to earn another 5 billion Fleurs. This will be evidenced by another 500,000 basic wage earners applying for government jobs, for a total of 600,000. In any case, the more the State spends at market prices, the fewer the number of basic State job seekers. If there are what is deemed too many basic State job seekers, taxes can be lowered or other State spending increased until the number of basic State workers falls to the desired level.

What about interest rates? With this system, the State doesn’t have to pay interest, even when it spends more than it taxes. Notice that the State does not have to borrow in order to spend more than it taxes, as it simply issues currency, or credits someone’s bank account, when that person wishes to sell something in exchange for Fleurs. The key is that there is price stability as long as the State doesn’t spend so much at market prices that no workers apply for the basic job. In other words, there is price stability as long as the State doesn’t spend more Fleurs than the taxpayers determine they want. And, because the State always requires that at the margin State service is necessary to get needed Fleurs, the value of the Fleur is equal to the value of the labor time of the person who has to work at the basic State job to get the Fleurs.

When the State does spend more than it taxes, the extra Fleurs will likely settle as excess deposits in the banking system. This is an imbalance that any economist will tell you will result in ultra low short term interest rates, perhaps even a bit lower than seen in Japan during recent years. The prime rate, for example, could be expected to be around 3 1/2%. The bank regulators will of course have to continue to maintain their strict capital guidelines and credit requirements to prevent banks from speculating with insured depositors’ money, as they do today. If the State should desire higher interest rates for any reason, it always has the option of offering to pay a desired base rate of interest on excess bank deposits held at the central bank.

With this basic plan, the new State of Quebec could establish and maintain its own currency. The State would be able to purchase that which it requires to run the nation and simultaneously maintain full employment and price stability. There would also be an automatic increase in real prosperity associated with the elimination of the dampening side effects of sales taxes, which include restricted transactions, compliance costs, and enforcement costs. There would be no reason to restrict free trade, especially under NAFTA, and the State would allow the Fleur to trade freely as well. While undoubtedly facing initial speculation in the foreign exchange markets, ultimately the value of the Fleur would be established by what it can buy — the basic State job. And improving the value of those State workers through education, health care, etc. would serve to improve the value of the Fleur in the long run.

I would like to thank Professor Mario Seccareccia for his assistance.

Notes:
(1). I have elaborated a very precise plan which has been widely debated during the last year in both academic and and non-academic circles in the United States on exactly this question of government as employer of last resort. Please consult “Soft Currency Economics” for further details.

Warren B. Mosler
July 17, 1997

Yes I certainly remember that paper! As you say, Pierre Paquette and I had done a translation of it and it was eventually published in the well-ranked daily newspaper, Le Devoir, during that year. But I do not have the exact reference now. It was almost fourteen years ago! As they say in Quebec, « Plus ça change, plus c’est la même chose »! [The more things change, the more they stay the same!]

Best,

Mario

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Warren’s latest presentation

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Attached is a copy of a presentation that Warren delivered yesterday in Montreal.

We were extremely well received and Warren was a huge hit, mixing a concoction of high dose monetary economic realities with real life experiences and anecdotes from his long and lustrous career as a market wizard. The presentation was scheduled for 45 minutes but turned into 1hr20 minutes including Q&A.

Presentation link here.

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Bullish Funds Slash Commodity Bets by $17 Billion

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And the question is, who did they sell to?

Yes, with futures and forwards for every long there is a short, but that doesn’t mean the short is a speculator.

It is more likely that there is a long inventory position, directly or indirectly, behind most short futures positions.

So the short in the futures and forward market is either a producer or another long with a physical inventory position.

So would producers cover based on last week’s action? Probably not.
Would the holder of the long cash and carry position unwind?
Only if the spread sufficiently changed in his favor.

So the most likely explanation is that the longs sold to different longs.
And not necessarily ‘strong hands’ like end users and central banks.

And if actual supply did get ahead of demand, prices adjust to get them back in line.
And producers don’t stop producing until prices at least get to their marginal cost of production.

And after watching what happened in Pakistan, and signs of weak demand and expanded supply down the road, the Saudis may have decided that lower crude prices might be in their best interest?
Impossible to say, but their posted prices are being reset lower as the spot prices fall.

Which could mean what is all, in the grand scheme of things, dollar short covering as previously described, has only just begun.

Bullish Funds Slash Commodity Bets by $17 Billion

May 14 (Reuters) —Big hedge funds and speculators cut their bullish bets on commodity markets by $17 billion in the week through Tuesday, the biggest bear turn since at least 2009, regulatory data showed on Friday.

The so-called “managed money” funds cut their overall net long holdings in 22 U.S. futures markets by over 222,000 contracts or 13 percent in the five days ended May 10, according to Reuters calculations based on the Commodity Futures Trading Commission’s weekly Commitment of Traders.

The data, based on both futures and options positions, confirm that some big hedge funds, commodity trading advisors (CTAs) and other major speculators dramatically pared back long positions during a week in which prices abruptly collapsed before staging a modest rebound.

But it also shows that in some markets, such as oil, the story was more complicated.

The one-week cut in holdings was the largest since 2010, when available data begins. Total fund length still stood at its highest since mid-March at 1.5 million contracts.

“I would view this as a bearish situation. We have a confirmed flow of selling with substantial remaining net long positions that can fuel an ongoing flow of that selling,” said Tim Evans, energy analyst at Citi Futures Perspective.

The value of total fund holdings fell to $116.8 billion, less than a third of the total amount of investor capital estimated to be allocated to commodity markets worldwide. Some of that money is in over-the-counter contracts or invested via banks, which are part of a different CFTC group.

Although it is an imperfect gauge, the CFTC data offers the best clues yet as to how traders positioned during the most volatile week in two years.

Crude oil collapsed by $10 on May 5 in a rout that traders are still struggling to explain, taking commodities with them, but then rebounded Monday and Tuesday.

Oil Longs Slash $6.5 Billion


The biggest decline in the value of net long positions occurred in the crude oil market, where prices dropped by about 6.5 percent. The New York Mercantile Exchange’s U.S. crude oil futures and the IntercontinentalExchange’s look-alike contract saw speculators’ net long position drop by $6.5 billion.

The notional figure is calculated by Reuters based on the change in the net position from a week ago, multiplied by the contract’s value at the end of the period. Because most investors trade commodities on margin, the drop in the value of positions is not directly equivalent to total divestment.

Bullish bets on oil fell to the lowest since late February, when traders were beginning to factor in more geopolitical risk from Middle East instability and war in Libya.

But the drop occurred even as the total open interest — the number of outstanding futures contracts that haven’t been settled — rose to a record, indicating that more traders were opening positions than were closing them during the week.

While bullish speculators sold long positions actively during the week, bearish speculators also added new short positions, increasing the short interest to the highest since late February.

The “swap dealers” category, generally big banks, covered some of their large net short position.

Gold, Silver Liquidation

Precious metals also saw heavy selling during the week, although this was more the result of pure long liquidation than traders taking up new short positions.

Long holdings in COMEX gold fell by nearly 20,000 contracts or 10 percent on the week, a reduction equivalent to roughly $3 billion, the biggest drop since last November. Gold futures fell by about 1.5 percent that week.

Big hedge funds had actually begun paring positions weeks before prices reached an all-time high of nearly $50 an ounce.

At about 19,000 contracts, speculative net length is at its second-lowest since early 2010.

The Chicago corn saw similar positioning dominated by fund managers taking profits.

Bullish funds cut their length by some $950 million to take positions to their lowest in six weeks, and near the lowest since the middle of last year.

Prices fell by a more modest 1.8 percent.

“They still have a sizable amount and if things don’t go their way, there could be more liquidation to come,” said grains analyst Mark Schultz at Northstar Commodity Investments Co. in Minneapolis.

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U.S. May Assess National Security Risk of Debt to China

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I suspect China knows all this and is playing us for complete fools.

From Bill Black:

I’m sorry, but this passes even my ability — while in Ireland — to apply Irish humor and simply chuckle at such surpassing stupidity. Seriously, the Chairman of House Armed Services — faced with all the real threats to security (plus all the frenzied fears that beset national security considerations and all the stupid wars we wage) — decides that what he wants to talk about and legislate against is the mythical national security threat posed by China giving us lots of goods in return for small portraits of dead politicians printed on increasingly garish paper (or, more commonly, electromagnetic bits of data). Does he think the PRC has embedded nanotechnology nukes in the crud they sell to WallMart? That concern would at least be a form of paranoia we are familiar with and could treat. Reporters have to start asking for comments on these ravings. Printing them without any analysis or alternative views by someone who is qualified to explain why this claim is equivalent to my poor Aunt who believed that the dentist, on behalf of the CIA, bugged her tooth creates “moral panics” and disastrous policies. (For an example of hucksters deliberately generating “moral panics” listen to: “The Music Man” song about “Trouble in River City”).

U.S. May Assess National Security Risk of Debt to China

By Roxana Tiron

May 25 (Bloomberg) — A senior U.S. House lawmaker is pressing top military and intelligence officials to formally assess the national security risks posed by the U.S. debt owed to China.

The chairman of the U.S. House Armed Services Committee, Representative Howard P. “Buck” McKeon, a California Republican, is asking the Congressional Budget Office to determine and make public the total amount of accrued interest the U.S. has paid China over the last five years on federal debt. Once that is complete, the U.S. defense leaders must assess the national security risks, according to his draft legislation.

McKeon’s request comes as his committee this week is writing the 2012 defense authorization bill, which sets military policy and funding targets for the fiscal year starting Oct. 1. The U.S. and China today will wrap up a two-day strategic and economic dialog in Washington.

“This year’s annual defense authorization bill will help Congress truly understand how much leverage China might have over the United States because of our debt, as well as the national security implications associated with the federal government’s out-of-control spending,” McKeon said in an e-mail statement.

Washington Talks

The chief of the general staff for the Chinese People’s Liberation Army will visit the U.S. May 15-22, as the Obama administration seeks to improve military ties with China to match economic and political contacts. General Chen Bingde will tour U.S. military bases and hold talks with his American counterpart, Navy Admiral Mike Mullen, the chairman of the Joint Chiefs of Staff. It will be the first visit of a PLA chief to the U.S. since 2004, according to Mullen’s spokesman, Navy Captain John Kirby.

Mullen has repeatedly said that the U.S. debt is a national security issue.

Part of the national security assessment, mandated in legislation written by McKeon, would be a “discussion of any options available to China for deterring United States military freedom of action in the Western Pacific as a result of its creditor status,” according to a draft of the legislation.

China held $1.15 trillion in Treasuries at the end of February, more than any other country. Vice Finance Minister Zhu Guangyao said on May 6 that China is paying “close attention” to U.S. efforts to reduce its budget deficit.

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QE2: Captain, your ship is sinking

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So imagine the corn crop report comes out and it surprises on the upside at up 30%
What happens? The price of corn probably starts to fall. Commercial buyers back off, farmers rush to hedge, and, overall, players of all ilks try to reduce positions, get short, etc.

A few weeks later it’s further confirmed that the farmers are producing a massive bumper crop.

What happens? The same adjustments continue.

But what if that crop report was wrong? What if, in actual fact, there had been a crop failure? And market participants never do get that information?

What happens? Prices go down for a while as described above, but at some point they reverse, as sellers dry up, and as consumption overtakes actual supply price work their way higher, and then accelerate higher, even if no one ever actually figures out there was a crop failure.

QE is, in fact, a ‘crop failure’ for the dollar. The Fed’s shifting of securities out of the economy and replacing them with clearing balances removes interest income. And the lower rates from Fed policy also reduces interest paid to the economy by the US Treasury, which is a net payer of interest.

But the global markets mistakenly believed QE was producing a bumper crop for the dollar. They all believed, and some to the of panic, that the Fed was ‘printing money’ and flooding the world with dollars.

So what happened? The tripped overthemselves to rid them selves of dollars in every possible manner. Buying gold, silver, and the other commodities, buying stocks, selling dollars for most every other currency, selling tsy securities, etc. etc. etc. in what was, in most ways, all the same trade.

This went on for months, continually reinforced by the pervasive rhetoric that QE was ‘money printing’, and that the Fed was playing with fire and risking hyperinflation, with the US on the verge of suddenly/instantly becoming the next Greece and getting its funding cut off.

Not to mention Congress with it’s deficit reduction phobia.

So what’s happening now? While everyone still believes QE is a bumper crop phenomena, QE (and 0 rate policy in general) is none the less an ongoing crop failure, continuously removing $US net financial assets from the economy.

And so now that the speculators and portfolio shifters have run up prices of all they tripped over each other to buy, the anticipated growth in spending power-underlying aggregate demand growth needed to support those prices- isn’t there. And, to throw more water on the fire, the higher prices triggered supply side repsonse that have increased net supply along with a bit of ‘demand destruction’ as well.

Last week I suggested that higher crude prices were the last thing holding down the dollar, and that as crude started to fall I suggested its was all starting to reverse.

It’s now looking like it’s underway in earnest.

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Obama Tells Companies to ‘Step Up’ and Hire Workers

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The rhetoric continues to deteriorate.
Labor is fundamentally a scarce resource.
Policy should encourage business to use as few workers as possible.
And, of course for any given size govt taxes can always be adjusted to sustain aggregate demand for optimal employment/output.

Obama Tells Companies to ‘Step Up’ and Hire Workers

May 12 (Reuters) — President Obama urged businesses to “step up” and hire workers, pressing banks and other corporations to do more to help an economy that he said would take “several years” to recover fully.

In a town-hall style meeting conducted by CBS News on Wednesday, Obama said the weak housing market and high gasoline prices were the biggest “headwinds” dragging on the economy.

“We’ve got a lot more work to do to get businesses to invest and to hire,” he told the audience in remarks broadcast on Thursday.

“It’s going to take us several years for us to get back where we need to be.”

The strength of the U.S. economy is likely to be the main factor that determines whether Obama will succeed in holding on to the White House next year.

He said businesses and banks that reaped the rewards of extraordinary measures to pull the country out of a deep recession had a responsibility now to invest hordes of cash into U.S. jobs.

“It is time for companies to step up,” Obama said.

“American taxpayers contributed to that process of stabilizing the economy. Companies havebenefited from that, and they’re making a lot of money, and now’s the time for them to start betting on American workers and American products.”

U.S. companies created jobs at the fastest pace in five years in April, according to the Labor Department, pointing to underlying strength in the economy even as the jobless rate hit 9.0 percent.

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German Exports Surged to Record in March, Boosting Growth

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“The German government predicts economic growth of 2.6 percent this year after a record 3.6 percent expansion in 2010. The country will regain its place as the world’s second- biggest goods exporter in 2011 after being overtaken by the U.S.”

Interesting perspective.

3.6% is pretty low for a record year, and this year looks to be lower than last even with ‘booming exports’

It’s all a sign of low aggregate demand, particularly with the growth of 0 marginal cost infinite leverage output such as software, music, and video which is simply downloaded. There is no ‘speed limit’ for that kind of thing, so directed accordingly, non inflationary GDP can grow at any rate.

German Exports Surged to Record in March, Boosting Growth

By Jana Randow

May 9 (Bloomberg) — German exports surged in March to the highest monthly value ever recorded, boosting growth in Europe’s largest economy.

Exports, adjusted for work days and seasonal changes, jumped 7.3 percent from February, when they gained 2.8 percent, the Federal Statistics Office in Wiesbaden said today. Economists had forecast a 1.1 percent increase, according to the median of 10 estimates in a Bloomberg News survey. Exports were worth 98.3 billion euros ($141.4 billion) in March, the most since records began in 1950, the statistics office said.

Germany’s economic recovery is broadening as companies boost investment and hiring to meet booming export demand from emerging Asia. The economy may have expanded as much as 1 percent in the first three months of the year and may maintain its growth momentum in the current quarter, according to the Bundesbank.

“The German economy continues to power ahead,” said Holger Schmieding, chief economist at Berenberg Bank in London. “After a very strong start to 2011, Germany may lose a little steam over the summer.”

The euro rose almost half a cent after the report to $1.4424 at 8:16 a.m. in Frankfurt.

Record Imports

From a year earlier, exports rose 15.8 percent, today’s report showed. Imports advanced 16.9 percent in the year and 3.1 percent from February. Worth 79.4 billion euros in March, imports also reached a record monthly value.

The trade balance widened to 18.9 billion euros from 11.9 billion euros in February. The surplus in the current account, a measure of all trade including services, was 19.5 billion euros in March, up from 8.7 billion euros in February.

Germany’s BASF SE, the world’s biggest chemical company, reported a 40 percent jump in first-quarter earnings last week and Siemens AG, Europe’s largest engineering company, said profit this year will rise at least 75 percent.

The German government predicts economic growth of 2.6 percent this year after a record 3.6 percent expansion in 2010.

The country will regain its place as the world’s second- biggest goods exporter in 2011 after being overtaken by the U.S. last year due to exchange-rate movements, the Ifo economic institute said on April 19.

“In times of investment catching up in the emerging world, infrastructure renewals in the western world and a general shift of energy policies toward alternative and renewable energies, German industry simply offers the right mix,” said Carsten Brzeski, senior economist at ING Group in Brussels.

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