Archives for March 2014

No Increase in Wealth Inequality for Top 1% Since 1960

Courtesy of Mish.

For all the ranting about the top 1% by the Economic Policy Institute and others, a US Berkeley study by Emmanuel Saez and Gabriel Zucman on The Distribution of US Wealth, Capital Income and Returns since 1913 shows no increase in wealth inequality for top 1% since 1960.

All of the increase in wealth inequality is not in the top 10% or top 1%, but rather the top .1% or top .01%. Here are some charts to consider.

click on any chart for sharper image

Wealth Has Been Always Concentrated

Top 10%

Top 1% Led by Surge of Top 0.1%

Little Recovery for the Merely Rich (Top 1% Minus Top 0.1%)


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Economic consequences of income inequality


Economic consequences of income inequality

Courtesy of Michael Pettis 

A lot of things have happened in China since my last entry – in the FX markets, in the banking system, in the announcements of default, and in the continuing lowering of growth expectations – but for all the turmoil, as I see it nothing has happened that was unexpected and that has not been discussed many times on this blog. For that reason I decided to post a rather long essay (sorry) on income inequality and on how I think we can best think about the impact of income inequality on the global economy.

This is a loaded topic, and I suspect I am going to get a lot of responses claiming that my essay is totally brilliant or totally nonsensical based, mainly, on the political orientation of readers. This entry, however, is not intended to be political. Very few things in economics are good or bad in themselves, but rather can be good under certain conditions or bad under others. I want to try to tease out as logically as I can the conditions under which rising income inequality can be good or bad for the economy.

That is all I am trying to do. My logic may be faulty and my assumptions may be wrong, and I invite readers to challenge either, but none of this should be seen as moral or immoral. Income inequality may very well be one or the other for very solid social, political or even religious reasons, but I am interested here only in the logical economic outcomes of income inequality.

Digging deeper into the model I use to understand income inequality also allows me to dig deeper into the sources of global imbalances – the two are tightly interlinked – and how these imbalances have driven much of what has happened around the world in the past decade. This model rests on an understanding of how distortions in the savings rates of different countries have driven the great trade and balance-sheet distortions with which we are wrestling today, just as they have in most previous global crises, including those of the 1870s, the 1930s, and the 1970s. Rising income inequality is key to understanding this model.

It turns out that it is actually not that hard to work through at least one of the major economic consequences of rising income inequality. I would argue that from an economic point of view the income inequality discussion is mainly a discussion about savings, and when you introduce into the economy a systematic tendency to force up the savings rate, the economy must respond in what are only a limited number of ways.

As I will show, some of these responses require an unsustainable increase in debt, and so are temporary. There are, it turns out, two sustainable responses to a forced increase in the savings rate in one part of the economy. The first is an equivalent increase in productive investment (this, I think, is the heart of the supply-side “trickle down” theory). The second is an increase in unemployment.

Much of what I am going to argue is not new, and is merely a revival of the old “underconsumption” debate. Before jumping into the argument I want to start by quoting the remarkable former Fed Chairman (1932-48) Marriner Eccles, who may well have been the most subtle economist of the 20th Century, from his memoir, Beckoning Frontiers (1966):

As mass production has to be accompanied by mass consumption, mass consumption, in turn, implies a distribution of wealth – not of existing wealth, but of wealth as it is currently produced – to provide men with buying power equal to the amount of goods and services offered by the nation’s economic machinery. Instead of achieving that kind of distribution, a giant suction pump had by 1929-30 drawn into a few hands an increasing portion of currently produced wealth. This served them as capital accumulations.

But by taking purchasing power out of the hands of mass consumers, the savers denied to themselves the kind of effective demand for their products that would justify a reinvestment of their capital accumulations in new plants. In consequence, as in a poker game where the chips were concentrated in fewer and fewer hands, the other fellows could stay in the game only by borrowing. When their credit ran out, the game stopped.

The key point here is that all other things being equal, rising income inequality forces up the savings rate. The reason for this is pretty well understood: rich people consume a smaller share of their income than do the poor. The consequence of income inequality, Eccles argued, is an imbalance between the current supply of and current demand for goods and services, and this imbalance can only be resolved by a surge in credit or, as I will show later, by rising unemployment.

Rising income inequality reduces demand. It does so in two ways. First, it directly forces down the consumption share of GDP, and second, it reduces productive investment by reducing, as Eccles says, “the kind of effective demand for their products that would justify a reinvestment of their capital accumulations in new plants.”

But – and here is where I will presume to add something new to the historical debate about income inequality and underconsumption – there is another very important form of rising income inequality that also forces up the savings rate in a very similar way, and this has been especially important in the past two decades. A declining household share of GDP has the same net impact as rising income inequality.

We have seen this especially in places like Germany and China during the past decade. In both countries policies were implemented which, in order to spur growth and, with it, employment, effectively transferred income from households to producers of GDP.

The main form of this transfer, in the case of Germany, was an agreement around fifteen years ago to restrain wage growth. By keeping wage growth lower than productivity and GDP growth, unit labor costs declined in Germany and German workers became more “competitive” in the international markets. This forced up the German savings rate and converted Germany’s current account from large deficits in the 1990s to the largest surpluses in the world.

In the case of China there were also restraints on wage growth relative to productivity growth – not so much a policy choice, I would argue, but a consequence of the huge number of underemployed rural workers in China – but there were at least two other very important transfers. First, China has had an undervalued currency ever since 1994, which acts as a spur to growth in the tradable goods sector by effectively taxing foreign imports (and notice, by the way, that something similar happens in Germany, which also has an “undervalued” euro in relationship to the “overvalued” euro of countries like Spain, Italy and France). This reduces the real value of household income as a share of GDP.

Second, and most importantly, interest rates in China have been severely repressed during much of this century, perhaps by as much as five to ten percentage points or more. This has acted as a huge transfer from net savers, who are the household sector for the most part, to net borrowers, who consist mainly of manufacturers, infrastructure developers, real estate developers, state-owned enterprises, and government entities.

In both cases, and this is true of other countries, especially if they have large state sectors, one of the consequences of these hidden transfers is that GDP, which is the total production of goods and services, rose faster than household income for many years, meaning that households retained a smaller and smaller share of the total amount of goods and services they produced. Of course as the total share of GDP they retained contracted, it is not a surprise that they alsoconsumed an ever-declining share of GDP.

The squeezing of the household sector

Notice how this affects total savings. Even if German or Chinese households kept their savings rates steady (i.e. they consumed and saved the same share of their income as before), their consumption as a share of GDP had to decline in line with the household income share of GDP. Most consumption is household consumption, and so as household consumption declines as a share of GDP, total consumption also tends to decline as a share of GDP, which is just another way of saying that total savings rise as a share of GDP.

This is a point that is often missed. Rising income inequality can have the same impact on savings and consumption as a rising state or business share of GDP. In a country in which the state retains a growing share of GDP, the net impact on savings and consumption is almost identical to that of a country in which income inequality is rising. In both cases consumption tends to decline and savings to rise as a share of GDP.

This tendency for rising income inequality, or a rising state share of GDP, to force up the savings rate can be a good thing. If there is a large amount of productive investment that needs to be funded, and not enough savings to fund this investment, increasing the savings rate can cause an equivalent increase in productive investment, and this increase can create sustainable demand for new jobs. Notice that these new jobs force up the total amount of goods and services produced, so that ordinary workers will see their income increase even as income inequality increases. The rich will do very well, but the rest will do pretty well too.

But what happens if there is already enough savings to fund productive investment? In that case the impact of rising income inequality is very different. To understand why, let us assume a closed economy with a moderate amount of unemployment (until we begin interplanetary trading the world is a closed economy). We can define the total amount of goods and services produced, which we usually refer to as GDP, in two ways.

First, everything that we produce must be absorbed, and the two ways we can absorb it is either by consuming the goods and services we produce, or by investing them today for future consumption. GDP, in other words, is the sum of everything we either consume or invest, or to put it arithmetically:

GDP = Total consumption + Total investment

This is true by definition. Second, because our total income is equal by definition to the sum of all the goods and services we produce, and there are only two things we can do with our income, consume it today or save it for future consumption, GDP is also by definition the sum of savings and consumption, or, to put it arithmetically:

GDP = Total consumption + Total savings

From these two equations it is obvious that in any closed economy savings is always equal to investment. This simple truth, which is true by definition, has very powerful implications.

Let us assume now that something has happened that caused a transfer of wealth in our economy from the poor to the rich, or that caused the household share of income to drop. To make things simpler we will assume that this transfer occurred without changing GDP, so that the total amount of goods and services is unchanged, but now ordinary households retain a smaller share. This transfer of wealth must have an impact on both total savings and total consumption.

At first the impact might seem obvious. Total consumption will decline and total savings will rise. But it is not that obvious. In order to maintain the balance expressed in the two equations, mainly the requirement that savings is always exactly equal to investment, something else must happen. There are only two possible things that can maintain the balance:

  1. Investment must rise in line with the increase in savings.
  2. Savings in fact do not rise, which implies that any increase in savings caused by the transfer of wealth was matched by some other event that caused an equivalent reduction in savings.

I apologize if these sound obvious, but I want to keep the flow of the argument as logical as possible, and so I hope each step follows obviously from the prior step.

Let’s take the first condition. Will investment rise? There are, again to be terribly obvious, only three ways investment can rise.

  1. There can be an increase in productive investment.
  2. Unproductive investment can rise in the form of unwanted inventories.
  3. Other forms of unproductive investment can rise.

What causes investment to rise?

Let’s consider each of these three in turn before we consider our second possibility, that savings in fact do not rise.

1. There can be an increase in productive investment.

This is obviously the best-case scenario. The tendency to increase the savings rate is met by an increase in productive investment that exactly matches the reduction in consumption. The combination of an increase in productive investment and a reduction in consumption keeps total demand constant, so that there is no imbalance (in the aggregate, of course) between the total demand for and the total supply of goods and services produced by the economy. Because the increase in investment is productive, however, over time total goods and services will grow, and, presumably, households will be able to increase their consumption in the future.

How likely is this to be happening in the current environment? It is probably not very likely. It is hard to believe that in rich countries, like the US, there are a lot of productive investments that are neglected simply because there is an insufficient amount of savings to fund them.

I am not saying that every productive investment in the US has already been made, but just that if there are productive investments that remain unfunded, it isn’t because of insufficient savings. It might be because of political gridlock, high levels of uncertainty, or something else. Of course it could also be because interest rates are too high, in which case rising income inequality would, presumably by increasing the total amount of savings, cause interest rates to drop. In that case there might indeed be an increase in total productive investment.

But here is where we run into the problem signaled by Eccles. Because the purpose of investment today is to increase consumption tomorrow, if the increase in income inequality is expected to be permanent, the desired amount of productive investment is actually likely to decline. This is because, to quote Eccles again, lower expected consumption would reduce “the kind of effective demand for their products that would justify a reinvestment of their capital accumulations in new plants.”

2. Unproductive investment can rise in the form of unwanted inventories.

This, as I understand it, is the process Keynes eventually described after his famous 1930 debate with Ralph Hawtrey. The process is quite easy to explain. As income inequality rises, total consumption tends to decline.

Because there is no equivalent increase in productive investment, the economy finds itself producing more goods and services that it can absorb, and the balance piles up as unwanted inventory, which is a form of unproductive investment. Of course manufacturers are unwilling to pile up infinite inventory levels so this process must eventually stop. Rising inventory levels, in other words, can only be a temporary counterbalance to rising income inequality.

3. Other forms of unproductive investment can rise.

The third way for investment to rise is if the additional savings are used to fund other forms of unproductive investment. Perhaps the tendency for savings to rise without an equivalent increase in productive investment forces down interest rates, with suddenly-cheap capital leading to speculative behavior. Charles Arthur Conant wrote about this extensively at the turn of the last century:

For many years there was an outlet at a high rate of return for all the savings of all the frugal persons in the great civilized countries.  Frightful miscalculations were made and great losses incurred, because experience had not gauged the value or the need of new works under all conditions, but there was room for the legitimate use of all savings without loss, and in the enterprises affording an adequate return.

The conditions of the early part of the century have changed. Capital is no longer needed in the excess of the supply, but it is becoming congested. The benefits of savings have been inculcated with such effect for many decades that savings accumulate beyond new demands for capital which are legitimate, and are becoming a menace to the economic future of the great industrial countries.

Conant’s point was that “congested” capital would end up in speculative investments that were not productive – vast tracts of empty apartment buildings, or spectacular but mostly empty airports, railroad lines, super highways and other infrastructure, or increases in manufacturing capacity even in industries that are experiencing overcapacity, or perhaps in a very expensive sporting event – but would nonetheless seem profitable because of the expectation that asset prices would continue to rise. These investments, whose low productivity will result in debt rising faster than debt-servicing capacity, can go on for many years, to the point where the implicit losses would have to be recognized, but this is clearly not a sustainable solution to excess savings because it requires limitless debt capacity.

Needless to say this seems to have been a pretty good description of recent investments in places as far apart as Arizona housing tracts, Dublin apartments, extravagant but unused Spanish airports, Chinese ghost cities, or Chinese solar manufacturers. We have seen a lot of this before the global crisis of 2007-08, and the seemingly obvious conclusion it that the tendency to increase the savings rate beyond the productive needs of the economy was balanced at least in part by a surge in speculative and unproductive investments.

These three are, logically, the only three ways we can balance the tendency for an increase in savings to be matched with a corresponding increase in investment. Either productive investment rises because productive investment had been constrained by insufficient savings, or unproductive investment rises, either in the form of unwanted inventory or in another form. The first is our best-case scenario, although for the reasons I have noted it is unlikely to describe conditions today, especially in capital-rich countries like the US. The second and third ways are unsustainable because they actually destroy value by increasing debt faster than they increase debt-servicing capacity.

What prevents savings from rising?

I said however that there is a second perfectly obvious way we can maintain the balance between savings and investments even if there is a substantial wealth transfer from ordinary households (either to the rich, or to the state sector). It is possible that total savings in fact do not rise, which implies that any increase in savings caused by the transfer of wealth was matched by some other event that caused an equivalent reduction in savings.

As far as I can work out there are really only three logical ways a transfer of wealth is consistent with no change in the total savings and consumption shares of GDP.

  1. The wealthy or the state consume as much as ordinary households.
  2. Ordinary households increase their consumption rate and reduce their savings rate.
  3. Unemployment rises.

Again, let us consider each of the three so that we can list the possible outcomes.

1.      The wealthy or the state consume as much as ordinary households.

Clearly this hasn’t happened and is unlikely to happen in the future. Both common sense and all historical precedent suggest that except perhaps over very, very long time periods, consumption does not rise linearly with income and households consume a far greater share of their income than the state sector can. This might not be true of income inequality between countries, by the way, but that shouldn’t matter.

2.      Ordinary households increase their consumption rate and reduce their savings rate.

This, which is what happened in the United States and peripheral Europe, is one of those brutally obvious points that so many commentators and economists have failed to grasp. I think the mechanism is fairly easy to understand and has already been much discussed, for example well over 100 years ago by John Hobson who showed how rising income inequality can cause both higher savings and lower opportunities for productive investment. The difference, he argued, poured into speculative stock, bond and real estate markets or was exported abroad to finance foreign demand for home products.

As money poured into stock, bond and real estate markets, either at home or abroad, it caused these markets to soar, making everyone feel richer. The consequence was that although ordinary households saw their share of total GDP decline, rising asset prices nonetheless made them feel wealthier, and encouraged them to maintain or increase their consumption.

Higher savings generated by the rich or the state, in other words, were matched by lower savings (or rising debt, which is the same thing) among ordinary households. Of course this can only be sustained if asset prices rise forever, but assets are locked into a circular process in which rising asset prices cause rising demand and rising demand justifies higher asset prices.

It takes rising debt to combine the two processes, so it is only a question of time before we reach debt capacity constraints, in which the system has to reverse itself, which it did in the developed word as a consequence of the 2007-08 crisis. This process, in other words, is the default reaction to a forced increase in the savings rate in one part of the economy, but it is not sustainable because it requires a permanent rise in consumer debt.

3.      Unemployment rises.

There is another way you can force down the savings rate, and this is by closing down factories and firing workers. As workers are fired, their income drops to zero. Their consumption, however, cannot drop to zero, and so they dip into their savings, borrow from friends and relatives, receive unemployment compensation, or otherwise find ways to maintain at least some minimum level of consumption (crime, perhaps, or remittances).

Of course savings is just GDP minus consumption, and so as their production of goods and services drops relative to their consumption, by definition the national savings rate declines. This balances out the higher savings generated by rising income inequality.

If the savings rate in one part of the economy rises, without an equivalent rise in investment the only way for the economy to balance is for savings elsewhere to decline, and this can happen either in the form of a (usually credit-backed) consumption binge, or in the form of rising unemployment. The first is unsustainable.

Once we understand this it is pretty easy to explain much of what has happened in the global economy over the past decade or two. As an aside, it may seem strange to many to think that excess savings is not a good thing. We are used to thinking of thrift as good for us, and even more thrift as better, and this belief is embedded with so much moral certainty that we react with repugnance to anyone who suggests otherwise. Bernard Mandeville’s Fable of the Bees was famously hated in the early 18th Century for suggesting that if we all saved everything we would all be destitute, and John Hobson, in his “Confessions of an Economic Heretic” tells how his teaching assignment was rejected because of

the intervention of an Economic Professor who had read my book and considered it as equivalent in rationality to an attempt to prove the flatness of the earth. How could there be any limit to the amount of useful saving when every item of saving went to increase the capital structure and the fund for paying wages? Sound economists could not fail to view with horror an argument which sought to check the source of all industrial progress.

But excess thrift is a much more serious problem than insufficient thrift. There are two reasons besides moral outrage why we get confused about the value of savings. First, and obviously, because more savings is good for individuals, we assume that it must be good for society. It shouldn’t take long to see why this is simply wrong.

Second, most economic thinking is implicitly about the US or the UK (most economic theory comes from economists trained in one or the other country). Because these countries have had a problem in the past several decades with excessive consumption and insufficient savings, we assume that these are universal problems. We want global savings to rise because we want US savings to rise, because what is good for the US must be good for the world, right?

The global imbalances

Before using this model to examine recent history I think it would be useful to summarize. If the savings rate rises in any part of a closed economic entity, like the global economy, it must be counterbalanced by at least one other change that allows the savings and investment balance to be maintained. Either the investment rate rises, in the form of productive, or unproductive, investment, or the overall savings rate does not rise because it declines in some other part of the economy.

We are left with the table below that shows the six ways that an increase in savings caused by rising income inequality or a rising state share of GDP must be counterbalanced. Each counterbalance is shown to be sustainable or unsustainable.


Counterbalance Condition Sustainability
Increase in productive investment This might happen if total desired investment had been constrained by insufficient savings Sustainable
Rising inventories If factories maintain production even as sales decline, inventories will automatically rise Not sustainable
Increase in speculative investment If there is excess capital beyond productive investment, it will flow into non-productive investments Not sustainable
Linear change in consumption If consumption rises with income, income inequality need not create a demand shortfall Sustainable but a seemingly impossible outcome
Increase in credit-financed consumption If households feel wealthier thanks to rising asset prices, they will embark on a consumption binge funded eventually by debt. Not sustainable
Increase in unemployment If production of goods and services exceeds the demand, factories will fire workers until supply and demand once again balance Sustainable

From this table the problem of income inequality is obvious. There are only two sustainable solutions to the problem of a structural increase in the savings rate. Either we must see an increase in productive investment – which is unlikely except in specific cases in which desired productive investment has been constrained by lack of capital – or we must see an increase in unemployment. Nothing else is sustainable.

There are intermediate steps, but because these require debt to grow faster than debt-servicing capacity, they can only continue until debt levels are so high that the market becomes unwilling to allow them to continue to rise. These intermediate steps are easy to understand. At first, in order to keep unemployment from rising, the excess savings can fund a surge in speculative investment or a surge in consumption, or both, with the latter kicked off by the wealth effect that is often a consequence of a surge in speculative investment.

This is exactly what seems to have happened to the global economy. As savings were force up structurally, whether because of rising income inequality or a declining household share of GDP, the system responded in ways that were sustainable (increases in productive investment) and in ways that were unsustainable (rising inventory in China, increases in speculative investment in the US, China, and Europe, and increases in credit-financed consumption in the US and southern Europe). At some point excessive debt eliminated all the unsustainable ways, and we were forced into accepting the remaining sustainable way, which is an increase in unemployment.

I should add here that this model does not tell us where the increase in unemployment must occur, but history tells us much of what we need to know. In the early stages of the adjustment unemployment usually occurs in the countries that saw the fastest increase in debt, typically the countries with excessively low savings. But as these countries begin to intervene directly or indirectly in trade, the unemployment shifts to the countries with structurally high savings rates – Germany and China, in the current case.

This shouldn’t surprise us. If the global problem is insufficient demand, countries that have excess demand (deficit countries) can increase their share of demand simply by intervening in trade. Countries with excess supply (the surplus countries) have to hope that they are allowed to continue to force their excess savings onto the rest of the world or else supply and demand cannot balance domestically.

It is easiest to see this process in Europe. Following the convention I have used before, I will simplify things by assuming that Europe consists of only two countries, Germany and Spain. Here, as I see it, is the sequence:

  1. Beginning around the turn of the century, and in order to increase German employment, German labor unions, corporations, and the government agreed voluntarily to restrain wage increases in order to make Germany more competitive in the international markets. This had a double effect. First, the household share of income declined. Second, as unit labor costs dropped, German rentiers and business owners saw their share of total income rise. The net effect was that the share of GDP retained by ordinary German households declined partly because non-households (businesses and the state) retained a growing share of total income and partly because within the household sector the rich retained a growing share.
  2. Both effects caused consumption to decline as a share of GDP, or, to put it another way, caused the German savings rate to rise (and notice this had nothing to do with rising thrift among German households). Higher German savings had to be counterbalanced, either within Germany or within Spain.
  3. They were not balanced within Germany. German investment rates did not rise to match the increase in savings (in fact I think investment actually declined), nor did consumption among ordinary German households surge. If Germany had been a closed economy, a rise in unemployment would have been, in that case, inevitable. Instead, Germany exported the excess savings to Spain, which under the conditions of the euro Spain was not able easily to reject (tariffs or currency depreciation). Because capital exports are just the obverse of a current account surplus, this meant that after spending much of the 1990s in deficit, Germany’s excess production, caused not by a surge in production but rather a decline in consumption, was resolved by the country’s running a current account surplus.
  4. This resolved Germany’s problem, but only by forcing the savings imbalance onto Spain. Because savings exceeded investment in Germany, investment had to exceed savings in Spain.This meant either that productive and unproductive investment in Spain had to increase, or that savings had to decline. Martin Wolf makes this point when he argues that the expansion in Germany’s tradable goods sector forced an equivalent contraction in Spain’s tradable goods sector, so that in order to prevent unemployment (temporarily, as it turned out) Spain had to embrace cheap capital which unleashed both a speculative investment boom and a consumption boom.
  5. And both happened. There was some increase in Spain’s productive investment, but the lowering of Germany’s unit labor costs relative to Spain made the Spanish tradable goods sector uncompetitive, reducing desired investment in the tradable goods sector. It was difficult, in other words, for productive investment in Spain to rise enough to account for the surge in German savings.
  6. As asset prices in Spain soared, thanks to the surge in capital inflows, this made Spaniards feel wealthier. There were two obvious consequences of soaring asset prices. Excessively cheap and easily available money poured into non-productive investments – apartment buildings and bloated infrastructure, for the most part. It also funded a consumption binge, and the Spanish savings rate dropped sharply.
  7. But neither of these is sustainable. The debt backing unproductive investment and soaring consumption could only continue if there was unlimited debt capacity. Clearly there was a limit to the debt, and the global crisis in 20007-08 put an end to the party.
  8. This exhausted all the ways an increase in German savings could balance save one – a rise in unemployment. Not surprisingly, unemployment soared almost immediately, but of course it did so in Spain. If Spain leaves the euro, Spanish unemployment will decline sharply, but total unemployment will not, which means that German unemployment will rise.

The Fable of the Bees

Where does this leave us? Until we see a significant downward redistribution of income in Germany we don’t have many options. If Spain were to leave the euro, this would solve its unemployment problem, but only by forcing unemployment back onto Germany.

Many analysts have argued that Spain could have done the same things over the past fifteen years that Germany did and so would not have suffered, but I hope this analysis shows why this solution – so called “austerity” – is completely wrong. If Spain has also taken steps to force up its savings rate by cutting wages, it would only force up the global savings rates even further and, with it, once debt capacity constraints were reached, unemployment – perhaps not in Spain, but elsewhere. The solution to excess savings, in other words, is not for low-saving countries to cut back on consumption. This will only increase global unemployment.

What is very clear from this analysis is that there are really only three sustainable solutions to the global crisis in demand. Either the world has to embark on a surge in productive investment, or we need to reduce the income share of the state and of the rich, or we must accept that unemployment will stay high for many more years.

The first is possible, but with so much excess manufacturing capacity and excess infrastructure in many parts of the world, and with significant debt constraints, we need to be very careful about how we do this. Certainly countries like the United States, India and Brazil lack infrastructure, but they do so largely because of political constraints, and it is unreasonable to assume that any of these countries will soon embark on an infrastructure-building boom.

Even if they do, the amount of excess savings is likely to be huge, and without a significant redistribution of income to the middle classes and the poor, it is hard to see how we can avoid high global unemployment for many more years. Because trade war is the form in which countries assign global unemployment, I would expect trade relations to continue to be very difficult over the next few years, as countries with high unemployment and low savings intervene in trade, thus forcing the savings back into countries with excess savings.

So what are the policy implications? Clearly Europe, the US, China, Japan, and the rest of the world must take steps to reduce income inequality. Just as clearly countries like China and Germany must take steps to force up the household income share of GDP (in fact polices aimed at doing this are at the heart of the Third Plenum reform proposals in China). Because it will be almost impossible to do these quickly, as a stopgap countries with productive investment opportunities must seize the initiative in a global New Deal to keep demand high as the structural distortions that force up the global savings rate are worked out.

But redistributing income downwards is easier said than done in a globalized world, especially one in which countries are competing to drive down wages. The first major economy to attempt to redistribute income will certainly see a surge in consumption, but this surge in consumption will not necessarily result in a commensurate surge in employment and growth. Much of this increased consumption will simply bleed abroad, and with it the increase in employment.

Less global trade, in other words, will create both the domestic traction and the domestic incentives to redistribute income. In a globalized world, it is much safer to “beggar down” the global economy than to raise domestic demand, and so I expect that there will continue to be downward pressure on international trade.

Until we understand this do not expect the global crisis to end anytime soon, except perhaps temporarily with a new surge in credit-fueled consumption in the US (which will cause the trade deficit to worsen) and more wasted investment in China (which, because it is financed with cheap debt, which comes at the expense of the household sector, may simply increase investment at the expense of consumption). These will only make the underlying imbalances worse. To do better we must revive the old underconsumption debate and learn again how policy distortions can force up the savings rate to dangerous levels, and we may have temporarily to reverse the course of globalization.

I will again quote Mariner Eccles, from his 1933 testimony to Congress, in which he was himself quoting with approval an unidentified economist, probably William Trufant Foster. In his testimony he said:

It is utterly impossible, as this country has demonstrated again and again, for the rich to save as much as they have been trying to save, and save anything that is worth saving. They can save idle factories and useless railroad coaches; they can save empty office buildings and closed banks; they can save paper evidences of foreign loans; but as a class they cannot save anything that is worth saving, above and beyond the amount that is made profitable by the increase of consumer buying.

It is for the interests of the well-to-do – to protect them from the results of their own folly – that we should take from them a sufficient amount of their surplus to enable consumers to consume and business to operate at a profit. This is not “soaking the rich”; it is saving the rich. Incidentally, it is the only way to assure them the serenity and security which they do not have at the present moment.


After I sent out the first version of this essay, as I expected, I got some very heated responses, nearly all of which completely ignored the argument and focused on issues that were not relevant. If you disagree with my argument, there are only three ways you can do so. You can prove that my assumptions are wrong. You can prove that my logic is faulty. Finally, you can claim that my argument is irrelevant. You would argue, in that case, that the most important benefits or costs of income inequality do not lie in the realm of economics and have to do with social, political, or religious values or with the structure of incentives in our society.

The latter are all perfectly valid points, but they are separate from my argument. To make it easier for anyone to disagree with me in a way that is relevant or consistent, I will summarize my argument as simply, as possible, listing very specifically the propositions from which I begin and the logical sequence of the argument. The only way anyone can possibly show that I am wrong is by attacking my propositions or by finding an illogical step in my reasoning. Nothing else is valid.

Before starting let me explain some of the responses I have received that were usually irrelevant. People on the “right” focus on either of the following conclusions: 

a)    an increase in the state share of GDP leads to unemployment, in which case they call the argument right,

b)    an increase in income inequality leads to a rise in unemployment, in which case they call the argument wrong,

c)    increase in income inequality leads to a rise in productive investment, in which case they call the argument right (this whole essay, remember, is exactly the same “supply-side” argument provided by Arthur Laffer).

People on the “left” focus either on the following: 

d)    an increase in the state share of GDP leads to unemployment, in which case they call the argument wrong, 

e)    an increase in income inequality leads to a rise in unemployment, in which case they call the argument right,

f)      an increase in income inequality leads to a rise in productive investment, in which case they call the argument wrong.

The problem is that you cannot agree with just the part you like. Either the entire argument is true or it is false. In fact all of these conditions can be true but are likely to be more or less important under different conditions. One of the great follies of contemporary debate, it seems to me, is that certain policies are considered to be intrinsically and always wealth-enhancing, or intrinsically and always wealth-destroying, depending on your political beliefs, whereas I would argue that these policies, and in fact many others (free trade, unionization, free banking, currency regimes, state intervention, deficit financing, etc) can be wealth-enhancing under certain conditions and wealth-destroying under others. Rather than close the door to debate we should try to figure out the conditions under which they are one or the other, and guide policy according to the relevant conditions.

I start with three propositions, from which everything else follows:

  1. The rich in any economy save a greater share of their income than do the poor. This is an assumption that can be proven or disproven empirically. The fact that some countries are rich and others poor may complicate things, but this only means that income inequality inside a country matters, whereas income inequality between countries might or might not matter.
  2. In every closed economy savings is equal to investment. This is true by definition because the demand side of an economy consists of consumption and investment, while the supply side (how we allocate total production of goods and services) consists of consumption and savings. Because demand and supply always balance, savings is always equal to investment.
  3. No one has infinite debt capacity. I don’t know if this is an assumption or if it is true by definition, however no one has ever disputed it.

Here is the argument, which can only be logically true or logically false:

1. From Proposition 1, if income inequality rises, the savings rate must rise.

2. From Proposition 2, if savings in one part of the economy rises, we must see one or both of the following: 

a)  investment must rise, or

b)  savings in another part of the economy must decline.

3.  If investment rises, one or both of the following must be true:

a)    productive investment rises

b)    non-productive investment rises

 4.  If savings in another part of the economy declines, one or both of the following must be true:

a)    the “non-rich” increase their consumption

b)    unemployment rises.

You might question whether there are indeed only two ways for savings in another part of the economy to decline, but these are the only two ways I can think of. If there is another way, it would interesting to see how it would affect the argument.

This leaves us with the following. If income inequality rises, we must see one or more of four possible outcomes, which I list as 3a, 3b, 4a, and 4b. Unless we discover any other possible outcome, these are the only ways to balance an increase in income inequality.

Let us focus on 3a and 3b:

  1. If productive investment rises, we all get wealthier, both rich and poor (this is what the supply-siders mean by “trickle down”). The process is clearly sustainable.
  2. If non-productive investment rises, wealth declines. Once wealth declines to some limit (it could be zero but it could also be, and is likely to be, much higher than zero) the process can be maintained only by rising debt, but from Proposition 3 there is a limit to rising debt, so this process is not sustainable.

Now let us focus on 4a and 4b:

  1. If some of the non-rich increase their consumption, they eventually draw their savings down to their minimum level (which might be zero, but doesn’t have to be), at which point they have to borrow to consume. But again, from Proposition 3 there is a limit to rising debt, so this process is not sustainable.
  2. If unemployment rises, total savings decline, although because it might also cause investment to decline, unemployment might have to rise a great deal, which is what happened in countries like Spain once debt-fueled consumption and debt-fueled non-productive investment came to an end in 2008. This is, unfortunately, sustainable.

The conclusion, which I believe follows inevitably from the three initial propositions, is that a rise in income inequality can lead temporarily to an increase in non-productive investment or to an increase in debt-fueled consumption, but in both cases they are unsustainable. A rise in income inequality can also lead to a rise in productive investment or a rise in unemployment, neither of which is unsustainable (unemployment in the long run might be unsustainable, but of course this does not invalidate the argument).

This means that rising income inequality must eventually lead to more productive investment or to more unemployment. There is no other conclusion. Can this argument be attacked? Of course it can. If you disagree with any one of the three initial propositions, then even if the argument is completely logical, the conclusion may be wrong. Alternatively, if you disagree with any of the logical steps, then even if the three initial propositions are correct, the conclusion can be wrong. These, of course, are the only ways in which the conclusion can be wrong.

Inevitably some one will discover that Keynes and Krugman said many of these things, in which case the essay is the work of the devil and innocent young people should not be allowed to read it, or that it agrees with things that Laffer and Friedman have said, in which case ditto. In fact an awful lot of economists in the past 200 years and on every part of the political spectrum have agreed with some or all of this model, mainly because it is just basic economics. There should be no guilt by association here, please.

Attention Deficit


Attention Deficit

Courtesy of James Howard Kunstler

   Apparently someone at the US State Department put out the fire in John Kerry’s magnificent head of hair, because he has stopped declaiming (for now) on the urgent need to start World War Three over Russia’s annexation of the Crimean peninsula. In my lifetime, there has never been a more pointless and unnecessary international crisis than the current rumble over Ukraine, and it’s pretty much all our doing.

     After all, we kicked it off by financing the overthrow of Ukraine’s elected government. How do you suppose the US would feel if Moscow engineered the overthrow of the Mexican government? Perhaps a little insecure? Perhaps even tempted to post some troops on the border?

     Since the end of the Cold War, the US has engaged in a nonstop projection of power around the world with grievous results in every case except in the breakup of Yugoslavia. The latest adventures in Iraq and Afghanistan, have been the most expensive — at least a trillion dollars — and mayhem still rules in both places. In fact, news reports out of Kabul on NPR this morning raised doubts that the scheduled elections could take place later this week. The country’s so-called Independent Election Commission has been under rocket attack for days, the most popular hotel for foreign journalists was the site of a massacre two weeks ago, and the Taliban remains active slaughtering civilians in the lawless territory outside of the Afghan capital.

     Of course, even those dreadful incidents raise the rather fundamental question as to why anything about Afghanistan really matters to the USA. How many years will it take for us to get over the fact that Osama bin Laden ran a training camp for jihadists there? Right now you can be sure that somewhere between Casablanca and East Timor there are training camps for religious maniacs and thousands more casual meet-ups among aggrieved young men with testosterone boiling in their brains and nothing else to occupy their time but playing with guns. Are we going to invade every land where this goes on?

      One part of our ever-evolving reality is that the global economy is in the process of cracking up. Despite the claims of one Tom Friedman at The New York Times, Globalism was not a permanent installation in the human condition. Rather, it was a set of transient economic relations brought about by special circumstances in a particular time of history — namely, a hundred years of cheap energy and about fifty years of relative peace between the larger nations. That’s all it was. And now it’s dissolving because energy is increasingly non-cheap and that is causing a lot of friction between nations utterly addicted to high flows of cheap oil and gas.

     The friction is manifesting especially in the realm of money and finance. The high energy addicted nations have been trying to offset the rising cost of their addiction, and the absence of conventional economic “growth,” by borrowing ever more money, that is, generating ever more debt. This ends up expressing itself in “money printing,” that range of computerized banking activities that pumps more and more “liquidity” into “advanced” economies. The result of all that is the mis-pricing of just about everything (including especially the cost of borrowing money), and an increasingly antagonistic climate of currency war as all players vie for the supposed advantages of devaluation — most particularly the ability to dissolve their own sovereign debts via inflation.

      The finer points of all that are debatable as to eventual consequences but we can easily draw some larger conclusions about the macro trends. The global orgy of cheap goods and bubble finance is ending. Nations and indeed regions within nations are going to have to find a new way of making a living on the smaller scale. This is sure to include new arrangements for governance. The breakup of nation states is well underway and is moving from the margins inward to the political center — from the hopeless scrublands of overpopulated nations that will never “develop” to the increasingly sclerotic giants.

     The USA is exhibiting pretty severe signs of that sclerosis in the demented behavior of its leaders in episodes such as the current unnecessary manufactured fiasco over Ukraine to the physical deterioration of our towns, roads, bridges, and all the plastic crap we managed to smear over the mutilated landscape to the comportment of our demoralized, mentally inert, drugged-up, tattoo-bedizened populace of twerking slobs.

     In short, it is self-evident that Russians have an abiding interest in the Crimea and we have none, while both the material and cultural life of the US is in a shambles and much more worthy of our own attention.

Ukraine’s Boomerang Aid

Ukraine’s Boomerang Aid

with Thom Hartmann from RT’s The Big Picture.


As If 194 Hedge Fund Suddenly Cried Out In Terror, And Were Suddenly Silenced

Courtesy of ZeroHedge. View original post here.

Submitted by Tyler Durden.

Another day, another disaster for GM. Moments ago, on top of the already previously reported, numerous recalls by the car marker bailed out by the US government at a loss (but with so many votes for Obama that who's counting), here is the latest.


And the punchline:


Alas, as a result, hedge fund hotels may experience sudden loss of P&L, because as we reported previously GM just happens to be the most widely held hedge fund stock in the US currently, with some 194 brand name hedge fund holders according to Goldman Sachs, more than even Apple.

So what happens when the hedge fund hotel decides to exit only to realize that the name of the hotel is California? The answer will present itself quite soon.


High Frequency Trading Hits 60-Minutes Scrutiny; Trading or Skimming?

Courtesy of Mish.

In the wake of a 60-Minutes report on High Frequency Trading, numerous people have sent dozens of links. Let's take a look at a few of them.

CBS Video

High-Speed Traders Rip Investors Off

Michael Lewis says High-Speed Traders Rip Investors Off.

The U.S. stock market is rigged when high-frequency traders with advanced computers make tens of billions of dollars by jumping in front of investors, according to author Michael Lewis, who spent the past year researching the topic for his new book “Flash Boys.”

“The United States stock market, the most iconic market in global capitalism, is rigged,” Lewis, whose books “Liar’s Poker” and “The Big Short” highlighted Wall Street excesses, said during the interview. The new book comes out today. “It’s crazy that it’s legal for some people to get advance news on prices and what investors are doing,” he said.

The author’s comments follow New York Attorney General Eric Schneiderman’s decision to investigate privileges marketed to professional traders that allow them to place their computers within feet of exchanges and buy access to faster data streams. Officials at the U.S. Securities and Exchange Commission and Commodity Futures Trading Commission have also said market rules may need to be examined.

Dominating Volume

High-frequency traders account for about half of share volume in the U.S., a statistic that shows their pervasiveness and hints at the obstacles faced by proposals to rein them in. Exchanges rely on HFTs for profits as well as liquidity, with electronic market makers all but eliminating the old system of human floor traders who oversaw the buying and selling of equities. While critics such as Lewis see a Wall Street plot, proponents say the new system is faster and cheaper.

One of the heroes of Lewis’s book is Brad Katsuyama, who left Royal Bank of Canada in 2012 to form a new market, IEX Group Inc., along with other former traders from the Toronto-based bank. David Einhorn’s Greenlight Capital Inc. hedge fund invested in the platform, which started trading in October and was established to minimize the influence of predatory strategies, Goldman Sachs Group Inc. has endorsed IEX and is the venue’s biggest broker.
Ticket Prices


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Why The Most Popular Chart In The Profit Margins Debate Is A Complete Disaster

Why The Most Popular Chart In The Profit Margins Debate Is A Complete Disaster

Courtesy of  

Fattening profit margins have enabled U.S. corporations to generate record profits despite modest revenue growth in the wake of the financial crisis.

Now, everyone wants to know if and when these margins will contract.

The bulls generally argue that margins have been in a secular uptrend thanks to technology, increasing overseas exposure, and lowering interest and tax expenses among other things. Any contraction would be cyclical and short-term.

The bears take a step back and come from more of a big picture standpoint. They argue that margins will revert to a mean largely for mean reversion's sake. The most vocal and prominent profit margin bear is probably John Hussman, whose work has been supported by James MontierAlbert EdwardsJeff Gundlach, and even Business Insider's Henry Blodget.

There are many ways to characterize and measure profit margins

The profit margin chart most frequently cited by the bears is corporate profits after tax as a percentage of GDP (CPATAX/GDP). Here's Hussman's version:


As you can see from the blue line, Hussman's ratio has blown out, and it looks like gravity is soon to catch up.

Unfortunately, this chart "is an illusory result of flawed macroeconomic accounting," argues Jesse Livermore of Philosophical Economics in a must-read blog post. Basically, he explains, this ratio assumes that overseas profits have a profit margin of infinity. He explains (emphasis added):

The expression CPATAX/GDP contains an obvious distortion.  CPATAX is a “national” term–it refers to the after-tax profit of all U.S. resident corporations, whether that profit is earned domestically, or from operations in a foreign country.  GDP, in contrast, is a “domestic” term–it refers to the total gross output (and therefore the total gross income) produced (and earned) inside the United States, whether that income is earned by U.S. residents or by foreign entities.

Notice that if a U.S. corporation earns a profit from affiliate operations abroad, the profit will be added to the numerator of CPATAX/GDP, but the costs will not be added to the denominator, as they should be in a “profit margin” analysis.  Those costs, the compensation that the U.S. corporation pays to the entire foreign value-added chain–the workers, supervisors, suppliers, contractors, advertisers, and so on–are not part of U.S. GDP.  They are a part of the GDP of other countries.  Additionally, the profit that accrues to the U.S. corporation will not be added to the denominator, as it should be–again, it was not earned from operations inside the United States.  In effect, nothing will be added to the denominator, even though profit was added to the numerator.

Because nothing is added to the denominator, these foreign earnings effectively come with an infinite profit margin.

Of course, the opposite happens for foreign companies operating in the U.S.:

Similarly, if a foreign corporation earns a profit from operations inside the United States, both the costs and the profit will be added to the denominator of CPATAX/GDP, but the profit will not be added to the numerator.  That profit–which accrues to the foreign corporation operating domestically, and is part of U.S. GDP–is not part of CPATAX.

…So, in effect, CPATAX/GDP will fall as if the sale had occurred at a 0% profit margin.  No profit on positive revenue.

So, one type of profit wrongly increases the ratio and the other wrongly decreases it.  One inevitably asks: By how much do these two types of profits offset? It turns out that the distortion is quite significant:

Over the last 50 years, U.S. company profit earned abroad has increased by a much larger total amount than foreign company profit earned in the U.S.  The difference has become especially significant in the last 10 years, as foreign sales have boomed.  At present, U.S. company profit earned abroad is around $665B, whereas foreign company profit earned in the U.S. is only around $250B–a difference of around $400B.

So it's clear that CPATAX/GDP is being wrongly inflated. This differential has been trending higher for decades. Here's Livermore's chart:


All of this red you see above represents the massive distortion to the CPATAX/GDP ratio everyone loves to pass around.

This is not to say that the bears' argument is totally dead. Livermore — using National Income and Product Accounts (NIPA) data — advances his preferred profit margin chart in his lengthy post and acknowledges that margins are indeed stretched. Just not by that much.

To be clear, the current profit margin is still elevated, but it’s not as wildly elevated as the CPATAX/GDP and CPATAX/GNP charts suggest.  It currently sits 48.7% above its average from 1947 to 2013, and 54.7% above its average from 1947 to 2002. Importantly, it’s roughly in line with the highs of the 1940s and 1960s, rather than 25% above them, as in the earlier charts.

Here's what Livermore calls "the only accurate NIPA chart of net profit margins for the macroeconomy, and the only NIPA chart that anyone should be citing in this debate."


net profit margin

[Philosophical Economics]

The bottom line here is that the bears have been over-relying on a fundamentally flawed measure that has been exaggerating how far profit margins have come.


“The Stock Market is Rigged!”

Yes it is, but let's keep this in perspective. 

“The Stock Market is Rigged!”

Courtesy of 
Yes, I’m excited about Michael Lewis’s new book Flash Boys coming out this week but no, I don’t get worked up about high frequency trading anymore.

I’m going to tell you a quick story and then you won’t either.

Once upon a time in the late 1700′s, there were two types of sonofabitches trading the earliest version of securities in Lower Manhattan: There were the auctioneer sonofabitches and there were the merchant sonofabitches.

The auctioneers were all-powerful and totally destructive at times. They presided over trade, which took place outside under a Buttonwood Tree on Wall Street. What the auctioneers did that was most maddening to the rest of the participants in these protozoic markets was charge exorbitant commissions and allow for securities to trade in a lawless fashion, without regard for fairness of any kind.

Meanwhile, the cutthroat speculators were growing to be quite fed up with this arrangement so they did what all would-be conspirators do – they met in secret to plot an overthrow. In March of 1792, twenty four of these merchant sonofabitches snuck into the Corre’s Hotel, which occupied what is now 68 Wall Street (which has since been absorbed into 40 Wall Street, aka the Trump Building), for their clandestine sitdown.

Screen Shot 2014-03-30 at 9.33.22 PMTwo months later, they hatched their scheme, signing a document called the Buttonwood Agreement (at left), named for the tree they’d been wheeling and dealing under each day. The accord meant that all twenty four signers were bound to trade securities only amongst each other, to deny entry into their clique to outsiders who’d not been accepted by the membership and to fix commissions on trades at a set amount (.25% of face value for all shares of stock or similar instrument). This banding together made these twenty four large-scale merchant sonofabitches into the de facto monopoly that controlled all trade and it sent the other sonofabitches, the auctioneers, out of business.

And then a constitution for the exchange was written. And then 73 years later in 1865 the buttonwood tree came crashing down during a thunderstorm – the first Flash Crash, incidentally ;)


The two-dozen sonofabitch signers of the Buttonwood Agreement had the whole game on smash, they formed the nucleus around which the New York Stock Exchange would eventually coalesce. 

And once they’d seized control of all securities trading on The Street, chasing out anyone who didn’t want to play by their rules, they ran that shit like a powdered-wig mafia. If you were on the other side of their trades, even unknowingly, you were done.

The bottom line is this – there have always been insiders, unscrupulous dealers and some participants with unfair advantages over others. HFT is just the latest in a long line of shenanigans and the moment you outlaw it or modify it or babysit it out of existence, there’ll be a new broad-daylight robbery format waiting right behind it.

As we see from the events of 222 years ago this spring, the stock market hasn’t become rigged, IT STARTED OUT RIGGED. 

Get over it.


Sorry Michael, didn’t mean to steal your thunder. The book is here:

Flash Boys: A Wall Street Revolt

Damn the Bubbles, More Printing Ahead; Property Bubbles and the Perils of Easy Money

Courtesy of Mish.

Damn the Bubbles, More Printing Ahead

Fed Chair Janet Yellen was tooting her own horn today. Yahoo! Finance reports Yellen strongly defends easy Fed policies, cites U.S. labor slack

Federal Reserve Chair Janet Yellen gave a strong defense of the central bank’s easy-money policies on Monday, saying its “extraordinary” commitment to boosting the economy, especially the still struggling labor market, will be needed for some time to come.

In her first public speech since becoming Fed chair two months ago, Yellen cited the struggles of three American workers in backing the policies of low interest rates and continued bond-buying. She said there remains “considerable” slack in the economy and job market, a sign that further monetary stimulus can still be effective.

“I think this extraordinary commitment is still needed and will be for some time, and I believe that view is widely shared by my fellow policy-makers at the Fed,” Yellen said at a community reinvestment conference.

Property Bubbles and the Perils of Easy Money

Meanwhile, China Defaults Sow Property Cash Crunch Concern.

The specter of default in China’s trust loans market is deepening the distress of property developers that also borrowed in dollars.

Part of China’s $7.5 trillion shadow-banking system, trust financing has been key to fueling the nation’s 10 percent annual growth rate in the past decade by providing easy credit to companies considered too risky by banks. After trust loans to the property, solar, coal and other industries tripled in the past three years to 10.9 trillion yuan ($1.8 trillion), bondholders are becoming increasingly alarmed as the government reins in lending, housing demand cools and the economy slows.

Defaults Unavoidable

Cracks are already starting to appear. Closely held Zhejiang Xingrun Real Estate Co. collapsed earlier this month, less than two weeks after Shanghai Chaori Solar Energy Science & Technology Co. defaulted on its debt.

While China Credit Trust Co. was bailed out in January, Premier Li Keqiang has said some defaults may be unavoidable as the government shifts policy to tighten credit.

Home prices have soared 60 percent since the government provided 4 trillion yuan of fiscal stimulus in 2008 to bolster the economy after the financial crisis, prompting companies to borrow heavily to speed construction. Now, as China abstains from providing further stimulus for the economy, thousands of apartment buildings across the country sit empty.

Home Prices Up 60% Since 2008

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“Buy me anything but America”


“Buy me anything but America”

Last year it was US stocks and anything else could GTFO. In December, I rhetorically asked whether investors would take all of the wrong lessons away from 2013 and go on to make the same mistake they always make in the presence of a hot asset class…

Investors are now preparing for the coming Battle of 2014 by exaggerating the posture and behavior that’s worked for 2013. This is called the Recency Effect – believing the environment we’ve just been in is somehow a permanent one, extrapolating the just-was to construct an outlook for the soon-to-be.

They do it every year.

Many will throw away the portfolio playbook that didn’t give them the best of all possible results this year.Diversification is broken. They’ll move their chips into position solely on black, after all the roulette wheel just landed on black the last ten times – it’s practically a can’t-lose proposition.

At this time of year I’m more interested in whatever hasn’t worked.

Now, of course, I say “rhetorically” with a twinkle in my eye, I knew full-well that they definitely were taking the wrong lessons away and acting on them. The outflows from emerging markets to start this year were the only proof I’d needed – more money was yanked away from EM stock funds in the first five weeks of 2014 than during all of 2013!

But a funny thing happens once this process of hindsight investment gets underway – trends can reverse quickly and violently, smacking those of us who endlessly extrapolate them right upside the head.

My friends Justin and Paul at Bespoke Investment Group have picked up on an interesting new counter-trend, something that’s sure to delight contrarians, mean reversionists and the globally-oriented investor should it persist.

Too soon to tell if it will, but worth considering:

The below matrix perfectly illustrates the nature of the change in fortunes for global equity markets since the Fed meeting: US equities slightly down, foreign markets up, and US rates markets rallying in the long end…In global markets, every major country ETF we track outperformed the US this past week, led higher by Brazil, China and India as EM markets have come roaring back.  Commodities have also outperformed, with the exception of precious metals.


[Table from Bespoke]

If this is the start of something new, investors who’ve been chasing US stocks higher for the last two years to the exclusion of nearly everything else are going to have to find a new playbook.


ETF Performance Matrix: Post Fed, Rotation Out Of US (Bespoke Investment Group)

Read Also:

“Why Bother?” Will investors take the wrong lessons from 2013? (TRB)


Inflation Is Coming, What to Do

Inflation Is Coming, What to Do

By Jeff Clark, Senior Precious Metals Analyst

We’ve all heard of the inflationary horrors so many countries have lived through in the past. Third-world countries, developing nations, and advanced economies alike—no country in history has escaped the debilitating fallout of unrepentant currency abuse. And we expect the same fallout to impact the US, the EU, Japan, China—all of today’s countries that have turned to the printing press as a solution to their economic woes.

Now, it seems obvious to us that the way to protect one’s self against high inflation is to hold one’s wealth in gold… But did citizens in countries that have experienced high or hyperinflation turn to gold in response? Gold enthusiasts may assume so, but what does the data actually show?

Well, Casey Metals Team researcher Alena Mikhan dug up the data. Here’s a country-by-country analysis…


Investment demand for gold grew before Brazil’s debt crisis and economic stagnation of the 1980s. However, it really took off in the late ‘80s, when already-high inflation (100-150% annually) picked up steam and hit unsustainable levels in 1989.

Year Inflation Investment
1986 167.8% 20.0
1987 218.5% 42.8
1988 554.2% 61.5
1989 1,972%* 86.5
1990 116.2%** -74

Source: The International Gold Trade by Tony Warwick-Ching, 1993;
*Measured from December to December
**Year-end rate

During this period, investment demand for bullion skyrocketed 333%, from 20 tonnes in 1976 to 86.5 tonnes in 1989.

And notice what happened to demand when inflation began to reverse. Substantial liquidations, showing demand’s direct link to inflation.


Indonesia was hit by a severe economic crisis in 1998. The average inflation rate spiked to 58% that year.

Year Inflation Investment
demand (t)
1997 6.2% 11.5
1998 58.0% 22.5
1999 24.0% 11.0
2000 3.7% 8.5

Sources: World Gold Council,

Gold demand doubled as inflation surged. It’s worth pointing out that investment demand in 1997 was already at a record high.

Also, total demand in 1999 reached 120.8 tonnes (not just demand directly attributable to investment), 18% more than in pre-crisis 1997. But overall, once inflation cooled, so again did gold demand.


While India has a traditional love of gold, its numbers also demonstrate a direct link between demand and rising inflation. The average inflation rate in 1998 climbed to 13%, and you can see how Indians responded with total consumer demand. (Specifically investment demand data, as distinct from broader consumer demand data, is not available for all countries.)

Year Inflation Consumer
demand* (t)
1996 8.9% 507
1997 7.2% 688
1998 13.1% 774
1999 4.8% 730

Sources: World Gold Council,
*Includes net retail investment and jewelry

Gold demand hit a record of 774.4 tonnes, 13% above the record set just a year earlier. In fairness, we’ll point out that gold consumption was also growing due to a liberalization of gold import rules at the end of 1997.

When inflation cooled, the same pattern of falling gold demand emerged.

Egypt, Vietnam, United Arab Emirates (UAE)

Here are three countries from the same time frame last decade. Like India, we included jewelry demand since that’s how many consumers in these countries buy their gold.

Year Egypt Vietnam UAE
Inflation Consumer
demand (t)
Inflation Consumer
demand (t)
Inflation Consumer
demand (t)
2006 6.5% 60.5 7.5% 86.1 10% 96.0
2007 9.5% 68.5 8.3% 77.5 14% 107.3
2008 18.3% 76.8 24.4% 115.8 20% 109.5
2009 11.9% 58.4 7.0% 73.3 1.6% 73.9

Sources: World Gold Council,

Egypt saw inflation triple from 2006 to 2008, and you can see consumer demand for bullion grew as well. Even more impressive is what the table doesn’t show: Investment demand grew 247% in 1998 over the year before. Overall tonnage was relatively modest, though, from 0.7 to 2.5 tonnes.

Vietnam and the United Arab Emirates saw similar patterns. Gold consumption increased when inflation peaked in 2008. Again, it was investment demand that saw the biggest increases. It grew 71% in Vietnam, and 27% in the United Arab Emirates.

And when inflation subsided? You guessed it: Demand fell.


Prime Minister Shinzo Abe’s plan to kill deflation pushed Japan’s consumer price inflation index to 1.2% last year—still low, but it had been flat or falling for almost two decades, including 2012.

Year Inflation Consumer
demand (t)
2012 -0.1% 6.6
2013 1.2% 21.3


In response, demand for gold coins, bars, and jewelry jumped threefold in the Land of the Rising Sun.


One of the biggest investment sectors that saw increased demand, interestingly, was in pension funds.


Unlike many of the nations above, citizens from this country of the former Soviet Union do not have a deep-rooted tradition for gold. However, in 2011, the Belarusian ruble experienced a near threefold depreciation vs. the US dollar. As usual, people bought dollars and euros—but in a new trend, turned to gold as well.

We don’t have access to all the data used in the tables above, but we have firsthand information from people in the country. In the first quarter of 2011, just when it became clear inflation would be severe, gold bar sales increased five times compared to the same period a year earlier. In March alone that year, 471.5 kg of gold (15,158 ounces) were purchased by this small country, which equaled 30% of total gold sales, from just one year earlier. Silver and platinum bullion sales grew noticeably as well.

The “gold rush” didn’t live long, however, as the central bank took measures to curb demand.


Argentina’s annual inflation rate topped 26% in March last year, which, according to Bloomberg, made residents “desperate for gold.” Specific data is hard to come by because only one bank in the country trades gold, but everything we read had the same conclusion: Argentines bought more gold last year than ever before.

At one point, one bank, Banco Ciudad, even tried to buy gold directly from mining companies because it couldn’t keep up with demand. Some analysts report that demand has continued this year but that it has shown up in gold stocks.

What to Do—NOW

History clearly shows there is a direct link between inflation and gold demand. When inflation jumps, or even when inflation expectations rise, investors turn to gold in greater numbers. And when gold demand rises, so does its price—you can guess what happens to gold stocks.

With the amount of money the developed countries continue to print, high to hyperinflation is virtually inevitable. We cannot afford to believe in free lunches.

The conclusion is inescapable: One must buy gold (and silver) now, before the masses rush in. The upcoming inflationary storm will encompass most of the globe, so the amount of demand could push prices far higher than many think—and further, make bullion scarce.

Your neighbors will soon be buying. We suggest beating them to the punch.

Remember, gold speaks every language, is highly liquid anywhere in the world, and is a proven store of wealth over thousands of years.

But what to buy? Where? How?

We can help. With a subscription to our monthly newsletter, BIG GOLD, you’ll get the Bullion Buyers Guide, which lists the most trustworthy dealers, thoroughly vetted by the Metals team, as well as the top medium- and large-cap gold and silver producers, royalty companies, and funds.

Get ALL EIGHT of Casey’s monthly newsletters for one low price, at a huge 55% discount.

It’s called the Casey OnePass and lets you profit from the huge variety of investment opportunities we here at Casey Research are seeing in our respective sectors right now—from precious metals to energy, technology, big-picture trend investing, and income investing. Click here to find out more. But hurry—the Casey OnePass offer expires this Friday, April 4.

The article Inflation Is Coming, What to Do—NOW was originally published at

“The Market Is Rigged” – Michael Lewis Explains How HFTs “Screw” Investors Every Day

Courtesy of ZeroHedge. View original post here.

Submitted by Tyler Durden.

It was almost excatly five years ago to the day, on April 10, 2009, that Zero Hedge – widely mocked at the time by "experts" – began its crusade against HFT and the perils of algorithmic trading (which of course were validated a year later with the Flash Crash). In the interim period we wrote hundreds if not thousands of articles discussing and explaining the pernicious, parasitic and destabilizing role HFT plays in modern market topology, and how with every passing day, markets are becoming increasingly more brittle, illiquid and, in one word, broken. Or, as Michael Lewis put it most succinctly, "rigged." With Lewis' appearance last night on 60 Minutes to promote his book Flash Boys, and to finally expose the HFT scourge for all to see, we consider our crusade against HFT finished. At this point it is up to the general population to decide if this season's participants on Dancing with the Stars or the fate of Honet Boo Boo is more important than having fair and unrigged markets (obviously, we know the answer).

For those who missed it, here it is again. In the video below, Lewis explains how an extra millisecond allows high-frequency traders to exploit computerized trading in the U.S. stock market. By "beating" investors to exchanges, Lewis argues that high-frequency traders can buy stocks and quickly sell them back at higher prices.


Billions have been spent by Wall Street firms and stock exchanges to gain the advantage of a millisecond. "Is it a scam?" 60 Minutes correspondent Steve Kroft asks. Bigger, Lewis says.


Lewis further explains, video below, how ordinary investors are affected and argues that high-frequency traders have created instability in the stock market — for everyone.


A reoccurring metaphor Lewis uses in his book "Flash Boys" is one of "prey and predators."According to Lewis, the prey is "anybody who's actually an investor in the stock market."




Unlike in the West, being a kleptocratic crook in China is now becoming a higher risk proposition. One gets the sense that as the credit monster collapses in China, and as auntie’s wealth management product is shown to be a loss, out will come the pitch forks. Seizures, arrests and even executions will become the order of the day.  

It is not too difficult to understand how these kleptocrats stuffed an estimated $1 to 4 trillion into overseas banking accounts, which I’ve dubbed “the ratline.” In the real estate part of the equation, first corrupt local officials seize the land of farmers. The windfall extraction occurs when the land is effectively rezoned for constructing ghost buildings and cities. Then, in an greatly expanded version of the U.S. savings and loan fraud of the 1980s, cronies in Chinese banks make shady loans to “developers.” In turn, the developers throw up pie-in-the-sky projects. It’s a facade to collect fees and soft dollars, leaving the largely unsecured debt to be dealt with by other cronies and friends in government. The end result of this loot and extraction is aptly described by David Stockman in ”China’s Monumental Ponzi.

The story around the Zhou racket is illustrative: “Chinese authorities have seized assets worth at least $14.5bn from family members and associates of retired domestic security chief Zhou Yongkang, who is at the centre of China’s biggest corruption scandal in more than six decades, according to Reuters news agency. More than 300 of Zhou’s relatives, political allies, proteges and staff have also been taken into custody or questioned in the past four months.”

As some examples, such as Li Peiying, are executed and the Chinese economy implodes, it is even more imperative for kleptocrats to get their ill-gotten gains and banal personas into the global offshore ratlines.

In recent years, one of those ratlines was in Canada, but that country has grown weary of the inflated, high-end real estate bubble prices and the behavior endemic of kleptocratic criminals and decided to pull the plug [see South China Morning Post] on its investor visa scheme. More than 45,500 waiting in the queue will need to seek other destinations aka refuge.

One of those new locales is the U.S., where wealthy Chinese are lined up for green cards. One of the planted promotional ploys that these Chinese kleptocrats are using is a scam making the rounds that they “are investing in Detroit.”  To the average American, that sounds like a prospect for urban renaissance. However, the reality indicates this is a falsehood and a red herring [see NPR's "Chinese Investors are Not Snatching Up Detroit Property"].

Until recently, details surrounding the secretive Chinese offshore ratline story have been widely speculated upon but remained largely unknown. Files obtained by the International Consortium of Investigative Journalists (ICIJ) reveals that nearly 22,000 offshore clients with addresses in mainland China and Hong Kong appear in a cache of 2.5 million leaked files.

Among them are some of China’s most powerful men and women — including at least 15 of China’s richest, members of the National People’s Congress and executives from state-owned companies entangled in corruption scandals.

ICIJ has the details on a number of Chinese ratliners in its highly revealing article. In my view, this investigative journalism is right up there with Edward Snowden’s revelations. In some cases, these corrupt players are already serving jail time in China as their loot sits in offshore accounts. The case of Zhou Zhengyi is illustrative.

Pricewaterhouse Coopers, UBS and other western banks and accounting firms play a key role as middlemen in helping Chinese ratline clients set up trusts and companies in the British Virgin Islands (BVI), Samoa and other offshore centers. ICIJ report states: “Tax Justice Network, an advocacy group, says BVI offshore entities have been linked to ‘scandal after scandal after scandal’ — the result of a corporate secrecy regime that creates an ‘effective carte blanche for BVI companies to hide and facilitate all manner of crimes and abuses.”

The BVI, in turn, ties in as a money source for international banking cartels operating out of the City of London in particular.  That cozy arrangement between Chinese kleptocrats and offshore bankers thereby germinates other loots and speculative bubble-blowing activities. Who says crime doesn’t pay.

For more from Russ, subscribe to Winter Actionables here. 

David Stockman: Why We Are Plagued With Drivel Masquerading As Financial Reporting

Courtesy of ZeroHedge. View original post here.

Submitted by David Stockman via Contra Corner blog,

Bubbleberg News LP: Why We Are Plagued With Drivel Masquerading As Financial Reporting

One of the evils of massive over-financialization is that it enables Wall Street to scalp vast “rents” from the Main Street economy. These zero sum extractions not only bloat the paper wealth of the 1% but also fund a parasitic bubble finance infrastructure that would largely not exist in a world of free market finance and honest money.

The infrastructure of bubble finance can be likened to the illegal drug cartels. In that dystopic world, the immense revenue “surplus” from the 1000-fold elevation of drug prices owing to government enforced scarcity finances a giant but uneconomic apparatus of sourcing, transportation, wholesaling, distribution, corruption, coercion, murder and mayhem that would not even exist in a free market. The latter would only need LTL trucking lines and $900 vending machines.

In this context, the sprawling empire known as Bloomberg LP is the Juarez Cartel of bubble finance. Its lucrative 320,000 terminals and profit-rich $10 billion in revenue are not purely a testament to the extraordinary inventive genius of Michael Bloomberg The Younger. In fact, Bloomberg’s 1981 invention owed a huge debt of gratitude to Richard Nixon and Milton Friedman. It was they who destroyed the Bretton Woods regime of anchored money and global financial discipline that made “Bloombergs” necessary.

Let me explain. Under the fixed exchange rate regime of Bretton Woods—ironically, designed mostly by J.M. Keynes himself with help from Comrade Harry Dexter White—there was no $4 trillion daily currency futures and options market; no interest rate swap monster with $500 trillion outstanding and counting; no gamblers den called the SPX futures pit and all its variants, imitators, derivatives and mutations; no ETF casino for the plodders or multi-trillion market in “bespoke” (OTC) derivatives for the fast money insiders. Indeed, prior to Friedman’s victory for floating central bank money at Camp David in August 1971 there were not even any cash settled equity options at all.

The world of fixed exchange rates between national monies ultimately anchored by the solemn obligation of the US government to redeem dollars for gold at $35 per ounce was happily Bloomberg-free for reasons that are obvious—albeit long forgotten. Importers and exporters did not need currency hedges because the exchange rates never changed. Interest rate swaps did not exist because the Fed did not micro-manage the yield curve. Consequently, there were no central bank generated inefficiencies and anomalies for dealers to arbitrage. Stated differently, interest rate swaps are “sold” not bought, and no dealers were selling.

There were also natural two-way markets in equities and bonds because the (peacetime) Fed did not peg money market rates or interpose puts, props and bailouts under the price of capital securities. This means that returns to carry trades and high-churn speculation were vastly lower than under the current regime of monetary central planning. Financial gamblers could not buy cheap S&P puts to hedge long positions in mo-mo trades, for example, meaning that free market profits from speculative trading (i.e. hedge funds) would have been meager. Indeed, the profit from “trading the dips” is a gift of the Fed because the underlying chart pattern—mild periodic undulations rising from the lower left to the upper right–is an artifice of central bank bubble finance.

And, in fact, so are all the other distincitive features of the modern equity gambling halls—index baskets, cash-settled options, ETFs, OTCs, HFTs. None of these arose from the free market; they were enabled by central bank promotion of one-way markets—that is, the Greenspan/Bernanke/Yellen “put”. The latter, in turn, is a product of the hoary doctrine called “wealth effects” which would have been laughed out of court by officials like William McChesney Martin who operated in the old world of sound money.

In short, Wall Street’s triumphalist doctrine—claiming that massive financialization of the economy is a product of market innovation and technological advance—is dead wrong. We need “bloombergs” not owing to the good fortune of high speed computers and Blythe Master’s knack for financial engineering; we are stuck with them owing to the bad fortune that Nixon and then the rest of the world adopted Milton Friedman’s flawed recipe for monetary central planning.

fin profits chart

Needless to say, the parabolic rise in financial sector profits from about 1.25% of GDP prior to Camp David to 4.25% of GDP today—call it a round $500 billion per year—is only the tip of the ice-berg. What lies beneath, according to the Commerce Department numbers crunchers, is “value-added” of some $3.75 trillion in the FIRE sector (finance, insurance and real estate), which generates the aforementioned accounting profits and consists primarily of compensation.

Here the uplift is even more dramatic. The FIRE sector’s 800 basis point gain from 14% of GDP in 1970 to 22% at present rounds to about $1.4 trillion. That’s the bloat from financialization—which is to say, the infrastructure of bubble finance. Embedded in that bloat is everything from the running cost of fund-of-funds and family offices (i.e. private chefs, ”investor” conferences at tony resorts etc.) to the vast network of bankers, brokers, appraisers, title insurers, settlement lawyers and escrow agents that tend the home mortgage churning machine.

In the latter case, the untoward impact of financialization on the world of George Bailey’s Savings and Loan can not be gainsaid. Back then, people took out mortgages and paid them off a bit at a time over 30 years owing to the fact that there was no basis for today’s serial “mortgage refi”. On the free market, mortgages would either carry floating rates or have embedded call protection on fixed rates.

Moreover, the basis for today’s serial refi would not exist. Interest rates would have no directional trend in an environment where they represent the market clearing price, balancing the supply of savings and the demand for loanable funds.

By contrast, the artificial downward-sloping trend in mortgage rates in recent decades has been an intentional outcome of the Fed’s interest rate rigging policies designed to goose housing prices and spur homebuilding. During the 55 months that elapsed between Lehman’s failure and April 2013, for instance, the Freddie Mac reference rate for 30-year mortgages dropped almost linearly from 6.5% to 3.3%.

As it happened, this massive inducement to home-borrowing did not generate much lift in the home-building sector because the stock of residential homes is massively over-built from the first housing bubble. But it did generate a substantial “refi” wave owing to the sheer math of mortgage finance. Indeed, Bernanke-Yellen regime have made no bones about their alleged success in driving down the 10-year treasury benchmark rate and thereby reflating the housing market.

In truth, the monetary politburo induced nothing more than another round of mortgage churn among a small sub-set of existing homeowners. There are approximately 115 million households in the US—40 million of which are renters and 25 million own their homes free and clear. Yet even among the 50 million households with mortgages, upwards of 25 million are still under-water or do not have enough positive equity to cover transactions costs and meet today’s more stringent loan-to-value requirements.

So at the end of the day, the refi churn machine has arbitrarily conferred debt service relief on a randomly selected sub-set of perhaps 10-20% of households—many of which have engaged in serial refi for several decades now. This serves no evident principle of public policy based on need or merit. But that doesn’t matter to the monetary central planners. Their only goal is to stimulate GDP as measured by the government stat mills—even if what they are measuring is more bloat from financialization.

In fact, that’s about all the Fed’s housing stimulus is now generating. For nearly 40 years, household mortgage borrowing did stimulate measured GDP. During that span the ratio of debt/wage and salary income was ratched-up by periodic Fed reflations from a pre-1970 level of about 80 percent to a peak of 210% by 2007.

But now that ”peak” debt has been reached and the household leverage ratio has fallen back slightly to about 180%, what the Fed’s ministrations produce is only a tepid amount of GDP from financialization; that is, we get a dollop of GDP from the pointless churning of home mortgages—a financial engineering process that does not create new wealth, but simply siphons existing wealth into activity among loan brokers, appraisers and real estate attorneys that the BEA is pleased to call GDP.

.FIRE economy

Indeed, the elephant in the room lurking behind the rising FIRE line in the graph above is the nation’s current $59 trillion in credit market debt. At 3.5 turns of GDP it represents a vast aberration of bubble finance, and compares to a healthy ratio of 1.5 turns that prevailed for more than a century before 1971.

These two extra turns of combined household, business, finance and government debt are not simply statistical curiosities. It represents $30 trillion of incremental debt that not only weighs heavily on the stagnating incomes of borrowers, but also represents a vast inventory of loans, bonds, hypothecations, re-hypothecations, derivatives and securitizations. It goes without saying that this immense inventory must be constantly tended, serviced, repackaged, extended, pretended and re-sliced and re-diced. Juggling the debt and chasing the “assets” which it funds and hypothecates is what financialization does.

As is well-known, the “Bloombergs” at the center of the bubble finance casino are so immensely profitable that they generate the equivalent of a drug lords’ surplus— which, in turn, funds the extensive apparatus of financial information and news production that comprise the Bloomberg empire. But at the end of the day, Bloomberg News LP is only a vertically integrated representation of the entire infrastructure of bubble finance. Reuters, the Financial Times, CNBC, Dow-Jones/News Corp and Inside Mortgage Finance are all part of the food-chain by which the bloated financial sector maintains and services itself.

It is not surprising, therefore, that the scribes and pundits employed by the bubble infrastructure cannot see beyond it; that CNBC can find an endless supply of fund managers who are buying the dips and following the Fed’s promise to keep interest rates lower longer and stock prices rising higher forever; that a corrupt financial market in which all interest rates are pegged and rigged by the Fed is taken for granted as the natural order of economics; that government borrowing to stimulate and support the economy is viewed as essential regardless of its future consequences; that arbitrary central banking targets like 2% inflation as an instrument of optimum GDP growth or the bogeyman of “deflation” are embraced uncritically as axiomatic; or that economic absurdities such as zero money market interest rates for seven years running are rarely even noted.

In short, the vast infrastructure of bubble finance bends, shapes and curates the daily narrative so thoroughly that the denizens of the stage set do not even notice its vast artificiality. Its just one day at a time, and one more fix by the monetary and fiscal authorities to keep the bubble inflating, or at least stable.

In that context comes the monetary insanity of Abenomics and the economic freak-show of Japan Inc. After 20 years of relentless borrowing and money printing, it teeters on the edge of an economic abyss, shackled with massive public debt, a shrinking/ aging population, a rapidly depleting savings pool, comically low interest rates on its public debt and a truly horrid fiscal posture—namely, it will need to borrow 50% of every dime its spends in the year ahead, even with the long-overdue rise of consumption taxes beginning in April.

Now comes a Bloomberg scribe, Matthew Klein, offering to essay on the upcoming baby-step toward fiscal sanity in Japan. The headline says it all:

Japan Is Taxing Itself Into Trouble

And then there follows more of the mindless narrative:

On April 1, Japan’s national sales tax will rise to 8 percent from 5 percent. Unless wages rise by an equal amount, the effect will be a drop in consumer spending…. Even if this isn’t enough to push the economy into recession, raising the sales tax is a bad move that will undermine Prime Minister Shinzo Abe’s agenda for the world’s third-largest economy….If anything, the government should be cutting taxes now

Young Matthew also notes that the Japanese people have not been astute enough to recognize what Wall Street and London gunslingers intuitively understood. That is, with the BOJ expanding its balance sheet at three times the rate relative to GDP of the Fed’s mad money printing, stock prices would soar and wealth effects would be had by all:

For instance, Japanese have been large net sellers of Japanese stocks ever since the big rally that began in the fall of 2012. Foreign investors have more faith in Abenomics than the people with the most at stake.

Then there is the news that victory over ”deflation”  is in sight. Never mind that there has never been any sustained consumer price deflation in Japan, and that the current index of about 99.0 stands almost at the very spot it occupied 21 years ago in March 1993—with only tiny undulations during the intervening years:

A more encouraging bit of news is the rise in consumer prices, excluding food and energy. This measure of inflation has accelerated to 0.7 percent annually — its fastest pace since 1998, although still slower than the official target of 2 percent…..

On the drivel meanders. Nowhere is it noted that Japan’s scheduled consumption tax rise is a bitter, chronically deferred, end-of-the line fiscal necessity; that sustained 2% inflation would destroy its monstrous $10 trillion government bond market; and that Abenomics has already manifestly failed.

By trashing the Yen, Abenomics has imported massive commodity inflation onto an island that has no hydrocarbons, industrial raw materials or even operational nuke plants. Consequently, real wages are falling at an even faster rates than before and the massive debt burdens created by decades of bubble finance push the world’s largest retirement community toward its final demise.

This bit of tommyrot was published under Bloomberg Views—perhaps suggesting that it represents opinion, not hard news. But that’s just the trouble. The vast infrastructure of bubble finance generates an overpowering consensus of opinion that is utterly blind to the very bubble in which it resides.

Have the Mega Banks Put the U.S. on Course for Another Crash? The Answer May Reside in Nomi Prins’ New Book

Courtesy of Pam Martens.

“All the Presidents’ Bankers: The Hidden Alliances that Drive American Power” by former Wall Street veteran, Nomi Prins, is a seminal addition to the history of continuity government between the White House and Wall Street from the days of Teddy Roosevelt and the Panic of 1907 right up through the Panic of 2008 and the Presidency of Barack Obama. (Don’t be intimidated by the 69 pages of footnotes; while meticulously researched, this is a captivating read for anyone seeking clarity on why Wall Street can collapse, get bailed out by the taxpayer, cause a Great Recession and still call the shots in Washington.)

The hefty hardcover deserves instant classic status for two reasons: like no other tome before, it explains through original archival material why the mega Wall Street banks are coddled by Washington and have been allowed to survive a century of public looting – because they are considered an essential financial component of the U.S. war arsenal.

The book also brings into crisp perspective the history of mega banks like JPMorgan Chase and Citigroup, their variously esteemed and despised titans of yesteryear, and why the country is reliving the mistakes of 1929 today.

Prins makes us all insiders as we read the private notes from Presidents scribbled to the historic Wall Street figures of their day. There is enlightening detail provided of the lead up to the 1929 stock market crash and the Great Depression. The foundation was laid, brick by brick, stone by stone, in a manner so identical to the lead up to the 2008 Wall Street crash that it gives one pause as to whether we have yet seen the worst of the aftermath.

The early warning signs were there, just as they were in 2007. Prins writes: “…home prices had softened in 1926, car sales dropped in 1927, and construction would level off in 1928. Inequality had increased dramatically, threatening economic stability. The whole system was buckling.”

And, of course, there was a bubble, over-leverage and Fed involvement. Prins explains: “Even before the bubble of the mid-1920s, there existed signs of trouble brewing in the land of plentiful credit extensions. In November 1923, the Federal Reserve began increasing its holdings in government securities (such as Treasury bonds) by a factor of six, from $73 million to $477 million, in what could be considered the first instance of ‘quantitative easing.’ This keeps rates low, not by setting them explicitly but by forcing the price of bonds up, which has the net effect of driving rates down.”

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E-Money Digital Payments Sweep Africa, Head for Europe and India


It may not be via bitcoins, and it won't be, but the wave of monetary payments. "mobile money," made by cell phones is spreading throughout the world. M-Pesa is a first step.  

Courtesy of Mish.

An interesting, but inaccurate headline appeared on the Financial Times today: Africa’s digital money heads to Europe.

A close look reveals this has little to do with "digital money" per se, but rather with monetary payments made by phone. Nonetheless, the wave is about to spread.

The mobile payment system that has revolutionised business and banking in sub-Saharan Africa is to come to Europe as Vodafone seeks to spread the popular digital currency outside emerging markets.

Vodafone has acquired an e-money licence to operate financial services in Europe, with plans to launch M-Pesa (which means mobile money in Swahili) in Romania as a first step to potential expansion in the region.

M-Pesa has become so popular in parts of Africa that it is now a virtual currency, offering a secure means of payment for people who do not have easy access to banking services. A mobile phone text message is all that is needed to pay for everything from bills and schools fees to flights and fish, and means that the mobile phone can double as an office for the continent’s smaller entrepreneurs.

Vodafone now hopes to win over an estimated 7m Romanians who mainly use cash.

Michael Joseph, Vodafone director of mobile money, said that the European e-money license would allow Vodafone to operate M-Pesa in other markets, although he indicated that the focus would be on central and eastern Europe.

“There are one or two [countries] we are looking at but [these are] unlikely to be in western Europe in the next year or so,” he said, adding that countries with a large migrant population such as Italy were potential markets.

In Kenya, where M-Pesa launched in 2007, the platform is so widely used that a third of the country’s $44bn economy washes through the system, sold by 79,000 agents nationwide. It has since been extended to Tanzania, Egypt, Lesotho and Mozambique.

More recently, M-Pesa has been introduced in India, where Vodafone is seeing rapid growth given the large numbers of people without bank accounts. More than 1m people have registered in India, although Vodafone expects that will accelerate if revised regulations being considered by the Reserve Bank of India ease restrictions on such money platforms.

Romanian M-Pesa customers will be able to transfer as little as one new Romanian leu (0.22 euro cents) up to 30,000 lei (€6,715) per day.

“The majority of people in Romania have at least one mobile device, but more than one-third of the population do not have access to conventional banking,” Mr Joseph said….


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Michael Lewis on HFT: “It’s All A Scam”; Here’s the Cause and Effect

Courtesy of Larry Doyle.

Major props to renowned writer Michael Lewis for using his enormous platform to direct light on the scam that has come to define our equity markets under the construct of high frequency trading.

As Lewis states, the scam is not only restricted to HFT activity but rather the market as a whole has become a scam. Powerful words and worth the minute to listen to the video clip below.

But let’s go deeper than that.

I very much look forward to picking up a copy of Lewis’ book when it comes out tomorrow. Yet, based on what we learned this evening on 60 Minutes, the expose laid out has largely been known for the better part of the last 5 years thanks to industry insiders Joe Saluzzi and Sal Arnuk at Themis Trading, Eric Hunsader at Nanex, and the widely followed blog Zero Hedge.

While the scam within the markets is caused by high frequency trading, let’s make no mistake that the HFT activity itself is more an effect driven by other causes. I do not doubt that many individuals and firms both inside the industry and out might now look to take on the mantel of reformists so as to alleviate some pressure brought about by Lewis’ book. Yet, in my opinion, the effect of HFT very much stems from the following causes:

1. self-regulation on Wall Street as overseen by the meter maids at FINRA allowing the large Wall Street banks to answer to nobody but themselves
2. captured regulators both within the aforementioned self-regulator and the SEC
3. the Wall Street oligopoly that allows the banks and exchanges to hoard information (such as equity orders) if even for just milliseconds to generate profits in the multi-billions of dollars
4. equity exchanges that have adopted a for-profit model overseen by captured regulators

HFT is receiving current attention thanks to Lewis’ book and 60 Minutes, but other forms of market manipulation and investor abuse have been ongoing within the currency, commodity, interest rate markets, and elsewhere. What is the right way to go about addressing all of these scams? Certainly the large, powerful, well financed interests on Wall Street will fight tooth and nail to maintain the status quo. Real change never comes from addressing the effects or symptoms. To bring truly corrective measures so as to eradicate corruptible practices such as HFT, the causes need to be aggressively addressed and exposed. From there, the effects can be amended and corrected in due course.

So, how do we address the causes? Just as I lay out in Chapter 12 of my book, In Bed with Wall Street: The Conspiracy Crippling Our Global Economy, we need to bring enormous public pressure on Congress by exposing the real corruption in the system (as I stated the other day on Bloomberg) so that we can pursue the following:

1. end the self-regulatory model on Wall Street
2. implement a Financial Regulatory Review Board to oversee a sole financial regulator housed within the SEC
3. BREAK UP THE ‘TBTF’ banks by reinstituting Glass-Stegall.

Thank you Michael Lewis and 60 Minutes. Get on board and let’s bring real transparency not just to HFT but to corrupted regulators and public officials who have ushered in this scam and so many more.



Courtesy of Dangerous Minds

By Amber Frost 

You might remember my post from a while back on Hunter S. Thompson’s truly weird Apple computer commercial, but I think I’ve found something to top it. Apple’s branding strategy has usually been to flatter those who fancy themselves “outsiders” or “rebels”—basically everyone in the entire world. But with this 1989 attempt to woo Generation Xers, the company took a more subtle approach, with a pamphlet illustrated by Matt Groening.

At the time, Groening had plenty of underground cred with his uber-angsty comic strip, “Life in Hell.” As the name suggests, the theme of his work was much more along the lines of “surviving post-modern desperation” than “hot blonde chucking a sledgehammer at Big Brother.” But Gen Xers had a reputation (whether earned or not) for capitulating to the daily grind, and Groening’s nervous, insecure art probably felt like a perfect fit for engaging with disaffected young people preparing themselves for the job market.

The brochure was passed out in college bookstores and in between the pages selling computers as the newest college necessity, Groening’s cartoons provided a few funny, self-effacing prototypes of disoriented students. I’m sure they kept prospective customers’ attention. Groening also did a couple of posters for Apple, including one titled “Bongo’s Dream Dorm,” a fantasy of college life for his “Life in Hell” lead character. Shortly after, The Simpsons took off, and Groening’s been free to mock Apple’s “culture of innovation” ever since.











Via Vintage Zen

Look Out! Massive Treasury Paydowns Are Almost Here

Lee Adler, in the Professional Edition of the Wall Street Examiner, gives reasons that, barring other factors, support continued bullish action in the stock market for the next two or three months. ~ Ilene

Look Out! Massive Treasury Paydowns Are Almost Here

Courtesy of Lee Adler

Withholding tax collections continue to be very strong suggesting lighter than expected Treasury supply and huge paydowns of outstanding Treasury debt in April that should boost both stocks and bonds. [Strong tax collections increase cash in the US Treasury, allowing for lower than forecast levels of new supply (treasuries that the Treasury sells). This is bullish for stocks. It could also mean larger than expected paydowns in April, also bullish.] 
The coming week begins the month of no supply and lots of redemptions, with huge paydowns going back to holders of expiring weekly bills and CMBs. My initial guesstimate is for a paydown of $18 billion, assuming a 4 week bill size of $30 billion, same as last week’s. It could be more or less, but should be a paydown in any case. After that, it gets even easier over the balance of [the month] with massive debt paydowns coming as tax revenues flow in to the Treasury on April 15. 
[Paydown money] comes back into the accounts of dealers and other players. That could be tinder for a final blowoff in stock prices. 
Net new supply [of treasuries] in May and June is forecast to be modest at a combined total of $96 billion for the two month period. With the Fed still pumping nearly twice that amount into the accounts of primary dealers, on the basis of this data only, there’s no reason to turn bearish. Something else would need to go wrong. 

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So Far, So Meh

So Far, So Meh

Courtesy of 

Just wanted to revisit something I did on January 5th for a moment, from my year-opening post “You Are Here“. In it, I tried to come up with the most likely scenario for 2014 and I hit upon the 1994 analogy as my top guess:

1. The 1994 – A flattish, low volatility market in 2014 as the two opposing forces of reduced stimulus and slightly better-than-expected economic growth fight each other to a draw. Stocks go nowhere in the end with little gyration to speak of. Incidentally, this would be the outcome that frustrates the most players – all the passive index johnny-come-lately’s who require a rising tide don’t get it, all the long/short hedge funds and vol-starved traders don’t get their desert oasis in this scenario either. Bear in mind that many of us are beginning to use 1994 as our analog here and for good reason – it’s a mid-bull market year shortly after recession with a pickup in earnings but with interest rates beginning to rise as well. In ’94, you got 20% growth in S&P earnings but a flat market because rising rates led to a 25% compression in PE multiples. That particular rate hike cycle involved the Fed Funds Rate rising 300 basis points and it took place over 14 months. Once it was completed, in early 1995, the S&P 500 was off to the races for the next five years. I wouldn’t fall out of my chair if we went through something similar now as rates normalize and stocks digest huge gains. Consolidation is terrific and I certainly would much prefer to correct through time rather than through price any day of the week.

So far, this is pretty much what’s transpired as we come to the close of Q1. Rates haven’t exactly risen but expectations for rate hikes certainly have. Volatility has been minimal and stocks have largely done nothing – frustrating all but the most nimble.

As it stands, the US stock market looks to finish the first quarter of 2014 flat. See indices below, data via Morningstar through the close on Friday 3/28:

Screen Shot 2014-03-30 at 10.10.42 AM


On a price basis, the S&P 500′s gain is cut in half to just 50 basis points this year – and the composition of sectors that got it there ought to be quite troubling for the “new secular bull market” crowd. See chart below, via State Street SPDRs:

Screen Shot 2014-03-30 at 10.13.54 AM


Now let’s keep it real – sector leadership, in and of itself, is not at all predictive of what’s to come most of the time. The beginning of 2013 started off with a bang and the big leadership groups were also consumer staples, telecoms and utilities. If that caused you to sell, you missed one of the greatest years for stocks of all time – by mid-year consumer discretionaries, techs and industrials were more than happy to take the baton and power us higher. Anytime someone’s spinning a narrative around which sector is leading that particular day, change the channel – it’s a loser of a thesis.

Let’s talk about what’s happening right now…

Sometimes markets are fairly simple and intuitive: This year the economic data has been mixed and inconclusive, those betting on acceleration have so far been unrequited. The tapering of Fed stimulus has kept stock price multiple growth in check after a 20% + jump in PE ratios last year. Buyback activity has maintained its pace from the end of last year but the growth rate of new repurchase announcements has leveled off. Earnings have been good, not great, but margins are maxed out (9.5%!). Revenue growth will be the new buzzword as the Q2 season gets underway (institutional investors have begun to display and vocalize a clear preference for return ON capital versus financial engineering after five years of management caution). A lack of major catalysts ahead favors the “sell the rips” camp but, absent some major dislocation, it’s hard to see what could drive the unbiased observer to get crazy-bearish here – Ukraine? Mid-terms? Please.

A month-by-month look at how we’ve arrived at a flat-on-year outcome will be be instructive as well:

The January selloff (roughly 6% peak to trough) was largely driven by profit-taking and the massive rebalancing being executed by millions of investors and their advisors with tens of trillions under management – trimming gains on stocks and adding to bonds was a no-brainer at the year’s beginning. There was no news other than the weather, which sucked, to have precipitated the selling. This is a good reminder that compiling lists of major risks is entirely unnecessary because dips happen on no news also.

The February bounce was incredible. Participation ramped up, internals were fantastic and virtually everything began to climb back to the December 31st closing highs. We gained back 7% from the bottom for a total gain of 4.3% on the month, basically a rally in a straight line as the early, over-eager shorts who jumped on the January slide were barbecued once again. For old times’ sake :)

March was a motherf***er for just about everyone. On the one hand, you have the “popular” momentum stocks down enormously from their peaks – Twitter, Amazon, Netflix, Facebook, Tesla, Chipotle all smashed. On the other hand, JNJ and Microsoft were still breaking out to all-time or decade highs by month’s end, as though the carnage in the Cool Kids sectors was a distant ship’s smoke on the horizon (see what I did there?). In the meanwhile, the most popular sector for speculators in recent years – biotechnology – has just been absolutely pummeled. The Nasdaq Biotech Index was down 7% over the past week and 13% for the month. It’s worth noting that biotech stocks have doubled from 10% to almost 20% of the once-defensive healthcare sector in the last two years and they now represent 15% of the Nasdaq Composite’s market cap weighting. In other words, what was once a relatively obscure and idiosyncratically volatile corner of the market is now more influential on the bigger picture.

These cross-currents and contretemps are all quite jarring for even veteran market-watchers who need to come up with an explanation for this action. What does it all mean? 

Probably nothing. The easiest explanation is the simplest: Uninspiring economic progress, possibly driven by weather, collides with a slightly expensive stock market as investors digest massive gains from the year before. End of story.

Now what?

2014: A Brave New Dystopian “1984” World

Courtesy of ZeroHedge. View original post here.

Submitted by Tyler Durden.

While many have pointed out that the Middle-East/Far-East are drifting to a more "Orwellian" world and the West is a more "Huxleyan" environ, the merger of the two dystopias is seemingly growing each day. As The Guardian previously noted, Huxley's dystopia is a totalitarian society, ruled by a supposedly benevolent dictatorship whose subjects have been programmed to enjoy their subjugation through conditioning and the use of a narcotic drug – the rulers of Brave New World have solved the problem of making people love their servitude. On the Orwellian front, we are doing rather well – as the revelations of Edward Snowden have recently underlined. We have constructed an architecture of state surveillance that would make Orwell gasp.

The most striking parallel of course is that both men foresaw the future as totalitarian rather than democratic and free.

Both Big Brother’s world and the Brave New World are ruled by authoritarian elites of a basically socialist/communist nature, whose only real purpose is the maintenance of their own power and privileges.

We discussed this a year ago but it seems an opportune time – with the world's brainwashing and control accelerating – to revisit the two


Decades ago they saw it all coming…

As The Guardian so appropriately summed up,

Huxley's dystopia is a totalitarian society, ruled by a supposedly benevolent dictatorship whose subjects have been programmed to enjoy their subjugation through conditioning and the use of a narcotic drug – soma – that is less damaging and more pleasurable than any narcotic known to us. The rulers of Brave New World have solved the problem of making people love their servitude.

Which brings us back to the two Etonian bookends of our future. On the Orwellian front, we are doing rather well – as the revelations of Edward Snowden have recently underlined. We have constructed an architecture of state surveillance that would make Orwell gasp. And indeed for a long time, for those of us who worry about such things, it was the internet's capability to facilitate such comprehensive surveillance that attracted most attention.

In the process, however, we forgot about Huxley's intuition. We failed to notice that our runaway infatuation with the sleek toys produced by the likes of Apple and Samsung – allied to our apparently insatiable appetite for Facebook, Google and other companies that provide us with "free" services in exchange for the intimate details of our daily lives – might well turn out to be as powerful a narcotic as soma was for the inhabitants of Brave New World. So even as we remember CS Lewis, let us spare a thought for the writer who perceived the future in which we would come to love our digital servitude.

And Chris Hedges' infamous comparison of the two frightening visions of the future



The two greatest visions of a future dystopia were George Orwell’s “1984” and Aldous Huxley’s “Brave New World.” The debate, between those who watched our descent towards corporate totalitarianism, was who was right. Would we be, as Orwell wrote, dominated by a repressive surveillance and security state that used crude and violent forms of control? Or would we be, as Huxley envisioned, entranced by entertainment and spectacle, captivated by technology and seduced by profligate consumption to embrace our own oppression? It turns out Orwell and Huxley were both right. Huxley saw the first stage of our enslavement. Orwell saw the second.


We have been gradually disempowered by a corporate state that, as Huxley foresaw, seduced and manipulated us through sensual gratification, cheap mass-produced goods, boundless credit, political theater and amusement. While we were entertained, the regulations that once kept predatory corporate power in check were dismantled, the laws that once protected us were rewritten and we were impoverished. Now that credit is drying up, good jobs for the working class are gone forever and mass-produced goods are unaffordable, we find ourselves transported from “Brave New World” to “1984.” The state, crippled by massive deficits, endless war and corporate malfeasance, is sliding toward bankruptcy. It is time for Big Brother to take over from Huxley’s feelies, the orgy-porgy and the centrifugal bumble-puppy. We are moving from a society where we are skillfully manipulated by lies and illusions to one where we are overtly controlled. 



The corporate state does not find its expression in a demagogue or charismatic leader. It is defined by the anonymity and facelessness of the corporation. Corporations, who hire attractive spokespeople like Barack Obama, control the uses of science, technology, education and mass communication. They control the messages in movies and television. And, as in “Brave New World,” they use these tools of communication to bolster tyranny. Our systems of mass communication, as Wolin writes, “block out, eliminate whatever might introduce qualification, ambiguity, or dialogue, anything that might weaken or complicate the holistic force of their creation, to its total impression.”


The result is a monochromatic system of information. Celebrity courtiers, masquerading as journalists, experts and specialists, identify our problems and patiently explain the parameters. All those who argue outside the imposed parameters are dismissed as irrelevant cranks, extremists or members of a radical left. Prescient social critics, from Ralph Nader to Noam Chomsky, are banished. Acceptable opinions have a range of A to B. The culture, under the tutelage of these corporate courtiers, becomes, as Huxley noted, a world of cheerful conformity, as well as an endless and finally fatal optimism. We busy ourselves buying products that promise to change our lives, make us more beautiful, confident or successful as we are steadily stripped of rights, money and influence. All messages we receive through these systems of communication, whether on the nightly news or talk shows like “Oprah,” promise a brighter, happier tomorrow. And this, as Wolin points out, is “the same ideology that invites corporate executives to exaggerate profits and conceal losses, but always with a sunny face.” We have been entranced, as Wolin writes, by “continuous technological advances” that “encourage elaborate fantasies of individual prowess, eternal youthfulness, beauty through surgery, actions measured in nanoseconds: a dream-laden culture of ever-expanding control and possibility, whose denizens are prone to fantasies because the vast majority have imagination but little scientific knowledge.”


Our manufacturing base has been dismantled. Speculators and swindlers have looted the U.S. Treasury and stolen billions from small shareholders who had set aside money for retirement or college. Civil liberties, including habeas corpus and protection from warrantless wiretapping, have been taken away. Basic services, including public education and health care, have been handed over to the corporations to exploit for profit. The few who raise voices of dissent, who refuse to engage in the corporate happy talk, are derided by the corporate establishment as freaks.



The façade is crumbling. And as more and more people realize that they have been used and robbed, we will move swiftly from Huxley’s “Brave New World” to Orwell’s “1984.” The public, at some point, will have to face some very unpleasant truths. The good-paying jobs are not coming back. The largest deficits in human history mean that we are trapped in a debt peonage system that will be used by the corporate state to eradicate the last vestiges of social protection for citizens, including Social Security. The state has devolved from a capitalist democracy to neo-feudalism. And when these truths become apparent, anger will replace the corporate-imposed cheerful conformity. The bleakness of our post-industrial pockets, where some 40 million Americans live in a state of poverty and tens of millions in a category called “near poverty,” coupled with the lack of credit to save families from foreclosures, bank repossessions and bankruptcy from medical bills, means that inverted totalitarianism will no longer work.



The noose is tightening. The era of amusement is being replaced by the era of repression. Tens of millions of citizens have had their e-mails and phone records turned over to the government. We are the most monitored and spied-on citizenry in human history. Many of us have our daily routine caught on dozens of security cameras. Our proclivities and habits are recorded on the Internet. Our profiles are electronically generated. Our bodies are patted down at airports and filmed by scanners. And public service announcements, car inspection stickers, and public transportation posters constantly urge us to report suspicious activity. The enemy is everywhere.



“Do you begin to see, then, what kind of world we are creating?” Orwell wrote. “It is the exact opposite of the stupid hedonistic Utopias that the old reformers imagined. A world of fear and treachery and torment, a world of trampling and being trampled upon, a world which will grow not less but more merciless as it refines itself.”

Watching Aldous Huxley describe the world we have now a stunning 60 years ago is horrific…

h/t Kirk

Though, in our view, Emmet Scott summed up the present in relation to Huxley and Orwell's prophecies best:



The most striking parallel of course is that both men foresaw the future as totalitarian rather than democratic and free. Neither presumably believed their vision of the future to be inevitable, though it is equally clear that each saw aspects of mid-twentieth century life which clearly pointed in the totalitarian direction. Thus 1984 and Brave New World may be seen as warnings against what might be if the trends identified by the two authors persisted. What these trends were and why the authors saw them leading towards totalitarianism is an important question and one that will be addressed presently.


The totalitarian states described by Orwell and Huxley differed in most details, though there were also many correspondences. Both Big Brother’s world and the Brave New World are ruled by authoritarian elites of a basically socialist/communist nature, whose only real purpose is the maintenance of their own power and privileges.

China Accelerates Bad Debt Writeoffs; Reflections on “Policies to Counter Economic Volatility”

Courtesy of Mish.

Financial stress related to Ponzi financing and other bad debts in China is readily visible in numerous places. One result is China’s Big Banks Double Bad-Loan Write-Offs.

China’s biggest banks more than doubled the level of bad loans they wrote off last year, in a sign that financial strains are mounting as growth in the world’s second-largest economy slows.

The five biggest Chinese banks, which account for more than half of all loans in the country, removed Rmb59bn ($9.5bn) from their books in debts that could not be collected, according to their 2013 results. That was up 127 per cent from 2012, and the highest since the banks were rescued from insolvency, recapitalised and publicly listed over the past decade.

The sharp acceleration in write-offs is the latest indication of the turbulence now buffeting China’s financial system. The bond market suffered its first true default in March, two high-profile shadow bank investment products were spared from collapse by last-minute bailouts earlier this year, and a small rural lender suffered a brief bank run last week.

Data also point to a deeper economic downturn in the first quarter than expected, putting China on track this year for its slowest growth since 1990.

The deterioration has fueled expectations that Beijing will act soon to shore up the economy. “Increasing downward pressure on the economy should not be neglected,” Li Keqiang, China’s premier, said last week. “We have policies in store to counter economic volatility.

Anecdotes from China

There was an interesting post on the Motley Fool titled Random China Observation, by “GoCanucks” who was in China for a month on family business. He talks about the property bubbles and the readily apparent stress. He concluded …

The bubble is so obvious (admittedly it felt that way 3 years ago), but when I asked my friends “what if”, the common answer is “the government won’t allow it to happen”. And every time I hear that phrase, I can’t help thinking of the following quote from Michael Lewis’s essay on Irish RE bubble: “Real-estate bubbles never end with soft landings.”

Policies to Counter Economic Volatility

Yes indeed, central banks have “policies in store to counter economic volatility”, and they use them. It was those policies in the wake of the dotcom bust that led to an even bigger debt bubble and subsequent housing crash.

The Bernanke Fed created the biggest equity and corporate bond bubble in history in the wake of the housing crash.

China has acted at every turn to counter the slightest unwanted slowdown, while maintaining ridiculously high growth targets. Those growth targets led to Ponzi financing of cities that are vacant, the world’s largest mall (yet devoid of customers), airports and trains that go unused.

These kinds of malinvestments are the direct result of “policies to counter economic volatility”, yet China’s premier, the Fed, the Bank of Japan, the People’s Bank of China, the ECB, the Bank of England, the Bank of Canada,  the Reserve Bank of Australia, etc, all arrogantly believe they can “counter economic volatility” without consequences.

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The US Is #1 (In Global Income Inequality)

Courtesy of ZeroHedge. View original post here.

Submitted by Tyler Durden.

Widening income disparity has been a feature of many advanced and developing economies for the past few years and has myriad investment implications. As we noted yesterday, the USA is at levels of income disparity not seen since the roaring 20s (and by some counts worse) but how does that stack up to the rest of the world? Fed fans will be proud to say that once again USA in Number 1… in global income inequality.

Consumer-facing businesses are naturally among the most directly exposed to shifts in income distribution, while new revenue opportunities in welfare areas, such as education, should emerge as policy focus increases on solutions to ease income inequality. On the other hand, steps taken by governments to restore more equitable income distribution can foster new risks for corporates, in the form of higher taxes, restricted access to global goods, talent and capital.

As Goldman notes,

Where has income inequality changed?

In most countries it has widened over the past two decades, and in a few it has narrowed from high levels (Latin America). But global income inequality between people of different countries has narrowed, as China’s and India’s middle-class income growth has outpaced the West’s.

What has caused this?

Globalisation and technology have been two drivers: wages for highly skilled labour expanded as demand exceeded supply, while lower skilled labour has been arbitraged globally, damaging middle incomes in DMs.

What are the investment opportunities?

Providers of education and broader welfare, and consumer-facing companies that are favourably exposed to changes in real growth for different income levels (trading down to discounters) and ongoing income growth for higher earners (prime residential real estate, high-end retail and luxury)

The investment risks?

Restricted people, capital and goods flow; higher taxes, either indirect or direct for individuals and corporates. An exodus of talent from countries with less opportunity can have long-term negative consequences too.

Unequal income, unequal risks

There are also numerous risks that arise from responses to wide income and wealth disparity, both at a micro and macro level. There is an element of self-fulfilling prophecy here – the very high focus on inequality means it becomes a very important issue and policy challenge. And in democracies, voters can force the hand of the government to act.

A minimum wage, or incorporating limits on pay, are perhaps the most direct way of shrinking the range of income distribution in an economy, given that they apply a floor or a cap to incomes.

If globalisation is seen as one of the causes of widening income inequality then it is possible that deglobalisation is seen as a solution to it. i.e. limiting the flows of goods, people and capital across borders. This would be damaging to many industries and companies, particularly those that have invested much capital in global assets and facilities.

Taxation is the most commonly used means of redistribution and there is much debate here around its effectiveness and fairness.

Social Unrest

A sweeping look at longer-run history tells us that income disparity has been much higher in earlier societies. England in the early 19th century had a GINI of around 50% as a consequence of the industrial revolution, while if we look further back, Holland had even greater inequality (estimated at 55%) prior to the Dutch Revolt in the 16th century. Today, South Africa is the only country with a population of more than 10 mn with a GINI co-efficient higher than that. But, in terms of assessing where sustained and rising inequality may result in social unrest, historical ranges may be less relevant now, as the spotlight of transparency shines brighter thanks to the ubiquity of information and in particular the torchlights of social media.

And the myriad connections and speed of communication means that people can come together quicker and organise themselves more efficiently. Protests can also leap across borders with greater alacrity and the beacons of protest can form a global chain within hours

Of course, it seems Goldman is a little shy of pointing out the true driver of this…


Thank you Ben!

As a reminder, we explained before how Central Banks are among the major culprits…

Submitted by Frank Hollenbeck via the Ludwig von Mises Institute,

The gap between the rich and poor continues to grow. The wealthiest 1 percent held 8 percent of the economic pie in 1975 but now hold over 20 percent. This is a striking change from the 1950s and 1960s when their share of all incomes was slightly over 10 percent. A study by Emmanuel Saez found that between 2009 and 2012 the real incomes of the top 1 percent jumped 31.4 percent. The richest 10 percent now receive 50.5 percent of all incomes, the largest share since data was first recorded in 1917. The wealthiest are becoming disproportionally wealthier at an ever increasing rate.


Most of the literature on income inequalities is written by professors from the sociology departments of universities. They have identified factors such as technology, the reduced role of labor unions, the decline in the real value of the minimum wage, and, everyone’s favorite scapegoat, the growing importance of China.

Those factors may have played a role, but there are really two overriding factors that are the real cause of income differentials. One is desirable and justified while the other is the exact opposite.


In a capitalist economy, prices and profit play a critical role in ensuring resources are allocated where they are most needed and used to produce goods and services that best meets society’s needs. When Apple took the risk of producing the iPad, many commentators expected it to flop. Its success brought profits while at the same time sent a signal to all other producers that society wanted more of this product. The profits were a reward for the risks taken. It is the profit motive that has given us a multitude of new products and an ever-increasing standard of living. Yet, profits and income inequalities go hand in hand. We cannot have one without the other, and if we try to eliminate one, we will eliminate, or significantly reduce, the other. Income inequalities are an integral outcome of the profit-and-loss characteristic of capitalism; they cannot be divorced.

Prime Minister Margaret Thatcher understood this inseparability well. She once said it is better to have large income inequalities and have everyone near the top of the ladder, than have little income differences and have everyone closer to the bottom of the ladder.

Yet, the middle class has been sinking toward poverty: that is not climbing the ladder. Over the period between 1979 and 2007, incomes for the middle 60 percent increased less than 40 percent while inflation was 186 percent. According to the Saez study, the remaining 99 percent saw their real incomes increase a mere .4 percent between 2009 and 2012. However, this does not come close to recovering the loss of 11.6 percent suffered between 2007 and 2009, the largest two-year decline since the Great Depression. When adjusted for inflation, low-wage workers are actually making less now than they did 50 years ago.

This brings us to the second undesirable and unjustified source of income inequalities, i.e., the creation of money out of thin air, or legal counterfeiting, by central banks. It should be no surprise the growing gap in income inequalities has coincided with the adoption of fiat currencies worldwide. Every dollar the central bank creates benefits the early recipients of the money—the government and the banking sector — at the expense of the late recipients of the money, the wage earners, and the poor. Since the creation of a fiat currency system in 1971, the dollar has lost 82 percent of its value while the banking sector has gone from 4 percent of GDP to well over 10 percent today.

The central bank does not create anything real; neither resources nor goods and services. When it creates money it causes the price of transactions to increase. The original quantity theory of money clearly related money to the price of anything money can buy, including assets. When the central bank creates money, traders, hedge funds and banks — being first in line — benefit from the increased variability and upward trend in asset prices. Also, future contracts and other derivative products on exchange rates or interest rates were unnecessary prior to 1971, since hedging activity was mostly unnecessary. The central bank is responsible for this added risk, variability, and surge in asset prices unjustified by fundamentals.

The banking sector has been able to significantly increase its profits or claims on goods and services. However, more claims held by one sector, which essentially does not create anything of real value, means less claims on real goods and services for everyone else. This is why counterfeiting is illegal. Hence, the central bank has been playing a central role as a “reverse Robin Hood” by increasing the economic pie going to the rich and by slowly sinking the middle class toward poverty.

Janet Yellen recently said “I am hopeful that … inflation will move back toward our longer-run goal of 2 percent, demonstrating her commitment to an institutionalized policy of theft and wealth redistribution.” The European central bank is no better. Its LTRO strategy was to give longer term loans to banks on dodgy collateral to buy government bonds which they promptly turned around and deposited with the central bank for more cheap loans for more government bonds. This has nothing to do with liquidity and everything to do with boosting bank profits. Yet, every euro the central bank creates is a tax on everyone that uses the euro. It is a tax on cash balances. It is taking from the working man to give to the rich European bankers. This is clearly a back door monetization of the debt with the banking sector acting as a middle man and taking a nice juicy cut. The same logic applies to the redistribution created by paying interest on reserves to U.S. banks.

Concerned with income inequalities, President Obama and democrats have suggested even higher taxes on the rich and boosting the minimum wage. They are wrongly focusing on the results instead of the causes of income inequalities. If they succeed, they will be throwing the baby out with the bathwater. If they are serious about reducing income inequalities, they should focus on its main cause, the central bank.

In 1923, Germany returned to its pre-war currency and the gold standard with essentially no gold. It did it by pledging never to print again. We should do the same.

Spain Misses 2013 Budget Deficit Target in Spite of Massive Tax Increases; So Much Pain for Virtually No Reward

Courtesy of Mish.

The official results are in. Spain missed its budget deficit target considerably by reasonable reporting, barely by another.

Spain’s Budget Deficit Only Two Tenths Lower in 2013 Despite Massive Tax Increase

Via translation from Libre Mercado please consider Spain’s Budget Deficit Only Two Tenths Lower in 2013 Despite Massive Tax Increase.

Spain’s budget deficit fell from 6.84% of GDP in 2012 to 6.62% of GDP last year.

The budget goal was far less ambitious than previous, but still did not met the commitment to Brussels. The Government has published today the first official public deficit figure for the end of 2013, there will be new reviews in the coming months and a year, but Spain has deviated from the intended target.

Specifically, the government recorded a hole of 6.62% of GDP in 2013 (67.755 billion euros), one tenth of a percentage point above the limit of 6.5% agreed with the European Commission, according to Finance Minister Cristobal Montoro, in a press conference after the Council of Ministers. However, the announced figure does not include the cost of financial aid reported last year (0.46%), so that the actual deficit stood at 7.08% of GDP.

So Much Pain for Virtually No Reward

Via translation from Guru’s blog, paraphrasing a bit because of a difficult translation, please consider So Much Pain for Virtually No Reward, Fire the CEO.

Happy and content as a lark, Montoro proudly announcing that Spain “almost” met the deficit target.

The Spanish public deficit closed at 6.62% of GDP in 2013, slightly more than a tenth above the target of 6.5% agreed with the European Commission (well the first we agreed if I remember correctly was 4.5%)

Are you telling me that this is all we get for so much pain? Well, boys and girls, something has gone badly wrong.

I can tell you this: If I focus on the cold numbers, the deficit fell only 2 billion euros with a gap of almost 68 billion (excluding aid to banks). Please fired the CEO of this company.

Mike “Mish” Shedlock

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