Category: simonblack

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July 28, 2014
Kharkiv, Ukraine

It was a different world in 1983.

Michael Jackson invented the Moonwalk. Return of the Jedi opened in theaters across the world. IBM released its most advanced personal computer yet– the XT, with a standard 10 megabyte hard drive.

And after nearly a decade of eratic swings and collapses, the Hong Kong government pegged its currency (the Hong Kong dollar) to the US dollar at a rate of 7.80 HKD per USD.

This was a big move for Hong Kong. The Hong Kong dollar had originally been backed by silver until 1935 when, facing a shortage of precious metals, they pegged it to the British pound.

This made sense in 1935 as the British pound sterling was still (barely) the world’s top reserve currency.

But things changed. In 1972, Hong Kong broke from the pound and adopted a new peg to the US dollar.

This didn’t last either. After just two years, the US government’s rising debt and inflation forced Hong Kong to abandon the US dollar peg.

At that point Hong Kong was well-known and stable… so why bother pegging the currency at all? The HKD floated freely in the marketplace, just like any other currency.

It went well for them at first. But by the early 1980s, the Hong Kong dollar had become much weaker due to jitters over the island’s reunification with China.

Finally, in 1983, they re-established a peg with the US dollar. And at the time, this probably made a lot of sense.

In 1983, Fed Chairman Paul Volker had established tremendous international credibility, both for the US dollar as well as the Federal Reserve. And most of all, Hong Kong was in need of a strong anchor.

But 31 years later the world is entirely different.

Michael Jackson is no longer with us. The world has sat through three completely lame Star Wars prequel movies. Even the cheapest mobile phone has more storage capacity than the IBM XT.

And both the Fed’s and America’s credibility have waned.

Today Hong Kong is one of the world’s richest economies. When compared with the US, nearly every objective fundamental about Hong Kong’s economy is stronger.

Its fiscal balances are higher. The government runs a budget surplus. Government debt is a rounding error. It’s a night and day difference. There’s no reason why these two currencies should be linked.

Theoretically, Hong Kong’s currency should be much stronger than the peg allows. But its purchasing power is being artificially supressed.

This means that residents of Hong Kong pay more for products and services than they should, including basic staples like food (90% of which is imported).

But after three decades, things are starting to get interesting.

Just recently the Hong Kong dollar hit the upper limit of its allowable range– exactly 7.7500. And the Hong Kong Monetary Authority has had to spend billions of dollars to defend the peg.

The reasons are unclear, though it’s entirely possible that investors are attacking the peg, similar to what happened to the pound back in the 1990s. We could be in the early stages of such an assault.

Even if not, it’s time for a change.

These currency pegs are not set in stone; Hong Kong has changed its own peg several times. And the basic fundamentals which led them to the US dollar in 1983 have changed completely.

The US is no longer the undisputed superpower it once was. The US dollar is dragging them down. Hong Kong is easily strong enough to stand on its own.

Bottom line, there’s no longer any benefit in maintaining the peg. Yet the costs (inflation, asset bubbles) are too high. This will eventually right itself.

For the last several years, we’ve been recommending that our readers hold Hong Kong dollars– especially if you normally hold US dollars.

The currency is still pegged to a very narrow band, so the most it would fluctuate is 1.27%.

But if the Hong Kong government revalues the Hong Kong dollar, the gain could easily be 30% or more if they simply revalue to the level of the renminbi.

Given the limited downside risk, this is a very safe bet to make.

The best way to do it? Open a bank account in Asia.

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July 25, 2014
Prague, Czech Republic

Less than four weeks after starting his new job, Panama’s President Juan Carlos Varela already has a serious challenge to deal with: empty grocery shelves.

This is largely a self-inflicted wound that was bound to happen.

Fresh on the heels of his victory in May, the then President-elect announced that one of his first orders would be to regulate prices for staple food products.

He followed through on his promise, establishing price controls on certain brands of roughly two dozen items like chicken, rice, eggs, and bread.

And within a matter of weeks, many grocery store shelves are already empty, at least for the regulated items.

It’s not quite Venezuela or Cuba where it can be downright impossible to buy a roll of toilet paper. But it’s more proof that price controls almost always backfire.

The larger issue here is why the Panamanian government is controlling prices to begin with. The answer is simple: inflation.

According to the Panamanian government, the price of basic foods rose 4.1% from April 2013 to April 2014.

Over the last five years, in fact, food prices have risen more than 24%.

And when average wages are little more than a few hundred dollars a month, a 24% increase in food prices really hurts.

Now, inflation isn’t a particularly unusual phenomenon in Central America, or in developing countries in general.

But what sets Panama apart is that the country is dollarized.

In its entire 111-year history as a sovereign nation, in fact, Panama has never issued its own currency.

Locals and foreigners alike pay US dollars for goods and services across Panama just as you would in Houston, Jacksonville, or Las Vegas.

This means that the country is subject to all the whims and consequences of US monetary policy; when the Fed conjures money out of thin air, the negative effects are quickly exported to Panama.

Yet while it suffers all of the downside of quantitative easing, Panama enjoys very little of the upside.

Of the jobs that the Fed claims they have created by printing $3.7 trillion over the last few years, zero of those have ended up in Panama.

Not to mention, the Panamanian government doesn’t have an endless supply of foreigners lining up to buy its debt.

So to get a true sense of US dollar inflation… and where it’s headed in the Land of the Free… one only need look at dollarized countries like Panama.

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July 24, 2013
Barcelona, Spain

Ten dark suited men entered the premises of FBME bank in Cyprus on Friday afternoon and took it hostage.

It must have looked like a scene from the Matrix. And given the surrealism of how this conflict is escalating, maybe it was.

The men were from the Central Bank of Cyprus (CBC). And they commandeered FBME because an obscure agency within the US government recently issued a report accusing the bank of laundering money.

It just so happens that FBME… and Cyprus in general… is where a lot of wealthy Russians hold their vast fortunes.

Bear in mind, there has been no proof that any crime was committed. There was no court hearing. No charges were read. It wasn’t even the government of Cyprus who accused them of anything.

There was just a generic report penned by some bureaucrat 10,000 miles away.

Funny thing—when HSBC got caught red-handed laundering funds for a Mexican drug cartel last year, the US government gave them a slap on the wrist. HSBC got off with a fine.

Yet when the US government merely hints that FBME could be laundering money, the bank gets taken over at gunpoint.

Welcome to warfare in the 21st century. It’s not about battleships and ground troops anymore.

This time the adversaries are battling each other using what ultimately affects everyone: money.

And on this battlefield the US doesn’t really have many options.

• US banks still form the nucleus of the global financial system, but this is quickly being replaced.

• Just last week the BRICS nations met in Fortaleza, Brazil to launch the origins of a brand new, non-US financial system.

• The US is still the largest economy in the world, but will likely lose this status to China by the end of the year.

• The US dollar is still the most widely used currency in global trade, but even America’s closest allies (Canada, Western Europe) recognize that the time has come to move beyond the dollar.

So while the US is still running around and barking at others, it is quickly losing its capacity to bite.

Their only tactic is to haphazardly attack Russian interests wherever they can.

They’re sanctioning Russian companies. They’re trying to torpedo international support for Russia. And now they’ve resorted to plundering Russian assets held in other sovereign nations.

Imagine you’re Qatar. Or China. Or Kuwait. Or Singapore. Or anyone else who holds substantial amounts of US debt.

All of these countries understand the lesson loud and clear: when the US doesn’t like you, they will do everything they can to make your life difficult.

Does this inspire confidence? If you’re holding hundreds of billions of dollars of US Treasuries, does this really improve your level of trust in the US?

Probably not.

By terrorizing Russian interests, the Obama administration is begging the rest of the world to reconsider their misplaced trust in the United States.

All these foreign countries really have to do if they want to retaliate is start dumping their US Treasuries. Or simply stop rolling over when the notes mature.

That will cause catastrophic consequences in the United States. Interest rates will soar, inflation will kick in, and the government will be even closer to default than it already is.

Inexplicably, Mr. Obama is practically begging the world to do this. It’s tremendously arrogant.

It’s like the economic warfare equivalent of Napoleon pompously leading his overstretched, exhausted army into Russia.

And neither Napoleon nor Obama gave the slightest consideration to the big picture consequences.

At $17.6 trillion in debt, the US is trying to wage economic war without any ammunition. It’s not something that is going to work out well for them.

I’m off to Ukraine this weekend; stay tuned for further dispatches from the front lines.

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July 23, 2014
Barcelona, Spain

Sadly today I am reporting to you yet another development that seems as if we are all living within the pages of Ayn Rand’s seminal work Atlas Shrugged.

You may recall from the book that John Galt, the enigmatic protagonist, started off as a young engineer at the Twentieth Century Motor Company.

When the owner of the company died, the heirs decided to run the business according to the new enlightened principles of the time.

Primarily, they let all the workers vote on how the factory was supposed to be run and how much everyone should be compensated.

And it was soon decided that “everybody in the factory would work according to his ability, but would be paid according to his needs.”

Naturally, bright hard-working employees soon left; they found themselves working around the clock for the benefit of others who felt entitled to contribute as little as possible.

John Galt was among the first out the door.

And not long after, the once successful company went bust. No surprise.

Unfortunately this is no longer fiction. Because in the Land of the Free, the United States Congress is striving to make Atlas Shrugged a reality.

Their latest brainchild is to set up a new government bank, stuff it full of taxpayer funds, and loan the money to American workers for the exclusive purpose to help them form collectives and buy the companies they work for.

It’s called the United States Employee Ownership Bank Act.

And, straight from the bill, they aim to provide “loan guarantees, direct loans, and technical assistance to employees to buy their own companies. . .”

The goal of this legislation, curiously, is to “preserve and increase employment in the United States” which is still problematic six years after the global financial crisis.

Since September 2008, the US government has increased its debt level over 50% to $17.6 trillion.

The US Federal Reserve has increased its balance sheet four-fold, conjuring $3.5 trillion out of thin air.

All of this was supposed to create jobs. And with each of these being a failed policy, Congress is now descending into outright socialism.

To be fair, people throw around the word socialism a lot. They’ll say “Obama’s a socialist” or something like that. Often it’s taken to exaggeration.

But this legislation– the government effectively sponsoring the communal takeover of private business– is textbook socialism: private property and the means of production owned by the community.

Socialist Yugoslavia actually tried the exact same thing: worker-owned cooperatives. And the consequent failure was absolutely epic.

But politicians never let pesky things like truth get in the way of a bad idea.

It’s time to wake up smell the reality. This isn’t about panic. It isn’t about doom and gloom. It’s about facts, not fear.

Any rational, thinking person has to look at this and ask a simple question: where is this trend headed?

The evidence is pretty clear. And more and more people are starting to realize it.

People all over the world are thinking: “This is not the country I grew up in. And I don’t like the trend.”

It’s unfolding right in front of our very eyes for anyone with the intellectual courage to pay attention.

Whether it happens today, tomorrow, or five years from now is irrelevant. It’s the TREND that is so important to pay attention to.

And with that simple premise in mind, does it make sense to hold everything you’ve worked your entire life to build in a place with such a negative trend?

Your livelihood. Your savings. Your retirement. Your family’s security.

Rational people look at facts objectively and have a plan B. What’s yours?

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July 22, 2014
Andorra

Leopold Kohr was a rather obscure Austrian economist from the early 20th century who spent the better part of his career railing against the ‘cult of bigness’.

Kohr’s fundamental premise was simple: Big doesn’t work. Big corporations. Big governments. Big countries. There are just too many problems from size.

Think about ancient Rome. As the empire expanded, Rome’s imperial government had to create layers and layers of bureaucracies. Municipal levels, provincial levels, regional levels, etc.

They had to maintain a massive standing army to secure their constantly-growing borders. Tax collection was a nightmare. Infrastructure constantly needed expansion and maintenance.

It was all so costly, and absolutely required that Rome run an unwieldy, behemoth government.

History tells us that large governments almost invariably lead to waste, corruption, and overextension of power. It’s the large governments that rattle the sabers and constantly threaten warfare.

It’s large governments that maintain police states, that spy on their citizens, and commandeer nearly every personal choice imaginable with regulatory agencies that tell us how to educate our children and what we can/cannot put in our own bodies.

As Kohr theorized, bigness often leads to tyranny.

Moreover, it all ends up costing far more than a nation can afford… which is why big governments historically rack up even bigger debts.

Most of today’s big, established ‘rich’ countries are in exactly the same boat that Kohn predicted: heavily in debt. Militant. Aggressive. Tyrannical.

If you look at the more financially successful nations today, i.e. those with solvent governments who do not indebt future generations to drop bombs by remote control drones, they’re nearly all small.

Hong Kong has some of the lowest tax rates in the world. And yet the local government is awash with so much cash that they frequently send tax refunds back to local residents.

Singapore is in a similar position; the city-state has zero net debt, a strong defense force, incredibly low tax rates… yet they still manage to funnel excess tax revenues back into the economy, often as tax breaks or business incentives.

Here in Andorra is another example.

The personal income tax hasn’t even been implemented yet, but it technically only goes as high as 10%. Local property taxes are a joke– a friend was telling me she pays 70 euros a year to the local municipality.

Corporate income tax tops out at 10%. There are no estate or inheritance taxes. No wealth tax. No capital gains tax.

Yet this place remains one of the most civilized counties on the planet, and is tremendously affordable to boot.

(It doesn’t hurt that Andorra is gorgeous– postcard perfect. And it gets about 300 days of sunshine per year with some of the best skiing a human being could possibly ask for.)

Smallness is one of the key reasons why these places thrive.

The Andorran government would never be able to afford some massive police state or wage wars in foreign lands. They can’t afford bureaucratic regulatory agencies or obscene surveillance programs.

And the place is way too small for politicians to be able to hide. If the Prime Minister does something stupid, he’ll have 20 neighbors standing in his front yard the next morning taking him to task for his incompetence.

Large countries lack this sense of community and accountability. Everything gets lost in the bureaucracy and size.

It’s this very size now that is causing many of the largest economies in the world to collapse under their own weight.

In fact, all over Europe we’re seeing independence movements, from Scotland to Catalonia. There’s even been serious discussion raised about breaking California apart into six separate states.

This seems radical to most people. But when you look at the evidence objectively, smaller is about the only way an organized state can really work.

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July 21, 2014
Andorra la Vella, Andorra

Russians aren’t exactly known for having a great sense of humor. But the language is full of bizarre, often hilarious expressions like “perebrasyvanie kakashkami”.

Literally translated this means “throwing shit”. And it applies right about now—when a bunch of people is standing around blaming one another for something that has gone heinously wrong.

“Heinously wrong” is somewhat of an understatement.

The MH17 disaster is so bad that it’s made people forget about the roving army of fanatics that has taken over half of Iraq and parts of Syria in their quest to build a global caliphate.

This is much bigger. And there’s so much pent up tension between rising powers right now, there’s serious risk of it turning into a much greater conflict.

It seems ironic that the world was in a similar situation exactly a hundred years ago.

After the assassination of Archduke Franz Ferdinand in Sarajevo, Austria-Hungary issued a series of ultimatums to the Kingdom of Serbia, and ultimately declared war on July 28, 1914.

Tensions in Europe and around the world were at boiling point. The primacy of the British and other European colonial powers was waning, as recently formed unitary states of Germany and Italy were on the rise.

With so many rising powers, it was inevitable that conflict would ultimately ensue. Even if Franz Ferdinand’s assassination wouldn’t have happened, some other tinder would have lit the fire.

Similar conditions exist today.

Just like a century ago when waning British power invited a power struggle among rising nations, waning US power is creating conflict with Russia, China, etc.

A century ago, they settled it on the battlefield. Everyone knew war would eventually come to Europe. But the great miscalculation was they presumed it would be just another 19th century limited war.

It was anything but.

The great war brought brutal mass killings, bombings, heavy artillery, gassing, etc. And it changed warfare forever.

This time around, the way we conduct war is different. Similarly, leaders are miscalculating, thinking that they can scare their opponents with warships and fighter jets.

But modern warfare isn’t fought with boots on the ground. In 2014, cyberwar and economic war looms.

And this type of war is something that will affect literally every person who is plugged in to the global financial system.

I invite you to explore more with me on this critically important topic in today’s podcast. You can give it a listen here:

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July 21, 2014
London, England

[Editor’s note: This missive was penned by Tim Price, Director of Investment at PFP Wealth Management in the UK and frequent Sovereign Man contributor.]

They call them ‘junk bonds’ for a reason. They now constitute an offence against linguistic decency: ‘high yield’ no longer even is. Consider the chart below:

(The index in question is a benchmark for the broad high yield bond market.)

Not for nothing did the Financial Times report at the weekend that “Retail investors are getting increasingly nervous about high-yield bonds”.

In the entire history of the UK Gilt market, yields have never been as low. This suggests that Gilt buyers at current levels are unlikely to enjoy an entirely blissful investment experience.

Just to round up this analysis of bond investor hyper-exuberance, consider this last chart, which puts interest rates (in this case, the UK base rate) in their historical context:

(*The Bank Rate has comprised variously the Bank Rate, Minimum Lending Rate, Minimum Band 1 Dealing Rate, Repo Rate and Official Bank Rate.)

There is one (inverse) correlation in investment markets that is pretty much iron-clad. If interest rates go up, bond prices go down.

This is entirely logical, since the coupon payments on bonds are typically fixed. If interest rates rise, that stream of fixed coupon payments loses its relative attractiveness.

The bond price must therefore fall to compensate fixed coupon investors. So now ask yourself a question: in what direction are interest rates likely to go next ?

The bond environment, ranging from high yield nonsense to government nonsense, is now fraught, littered with uncertainty and unexploded ammunition, and waiting nervously for the inevitable rate hike to come (or bracing for a perhaps messy inflationary outbreak if it doesn’t).

There are clearly superior choices on a risk-reward basis; we think Ben Graham-style value stocks are the logical and compelling alternative.

“By sacrificing quality an investor can obtain a higher income return from his bonds. Long experience has demonstrated that the ordinary investor is wiser to keep away from such high- yield bonds. While, taken as a whole, they may work out somewhat better in terms of overall return than the first-quality issues, they expose the owner to too many individual risks of untoward developments, ranging from disquieting price declines to actual default.”

– Ben Graham, ‘The Intelligent Investor’.

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July 17, 2014
Malaga, Spain

Like a lot of kids who grew up in the 80s, my parents enrolled me in organized basketball when I was around 9 or 10 years old.

We weren’t really any good… just a bunch of kids from the Nintendo generation who would have rather been playing Jordan vs. Bird in our living rooms instead of dribbling through the real thing.

In all honesty I have to say we went two straight years without winning a single game. It must be some sort of record for the sorriest team ever assembled.

But there was this one kid… his name was Robbie… who thought he was some kind of basketball virtuoso.

I mean, this guy really thought he was Michael Jordan even though he sucked just as much as the rest of us.

But this self-delusion led him to believe that he was our team leader (we all hated him).

And Robbie had obviously watched a lot of movies because he used to throw out these lame motivational lines all the time like, “Alright boys, we’ve got ‘em right where we want ‘em…” when we’d be down 24 to 6.

And he was serious.

Despite a long, painful, losing track record unblemished by even a single success, and faced with overwhelmingly more powerful and skillful opponents, Robbie still managed to believe that he was in control of the game, and of the other players.

It was astounding. Robbie never let reality get in the way of his delusions.

Sure, there’s something to be said for optimism and playing your heart out to the bitter end.

But Robbie had taken clear denail of obvious facts and elevated it to an artform.

Judging by what I’ve just read, I’m thinking Robbie might have grown up and gone to work for the IMF.

Remember, the IMF was formed to be a critical component of the new dollar-dominated global financial system that was created after World War II.

The US has far and away the most voting power with a 17.69% share, so nothing really happens at the IMF unless Uncle Sam approves it.

This might have made sense back in the 1950s. Or even the 80s when Robbie was hogging the ball.

But things have changed. Today, the US is barely the world’s largest economy. It is far and away the world’s biggest debtor. And it constantly punishes the world with destructive monetary policy that weakens the entire system.

Nearly every other nation on the planet for YEARS has been pestering the IMF to catch up to reality.

Think about it– the combined GDPs of the Brazil, Russia, India, China (plus South Africa, known as BRICS nations) is more than the US and Europe combined.

They have 40% of the world’s population, at least 20% of its output, and on a net basis, almost none of its debt.

Yet they have almost no say over the financial system that rules them all. It’s absurd.

They warned the US and Europe for years: “Reform, or we will create our own system to compete with you.”

Now they’ve followed through on their word.

As I reported to you a few days ago, BRICS leaders met in the beautiful city of Fortaleza, Brazil earlier this week to form their new development bank and draft a reserve agreement.

In doing so, they have put the IMF on a path to total irrelevance and taken a huge step towards launching a brand new financial system.

In the summit’s press release, they stated:

“We remain disappointed and seriously concerned with the current non-implementation of the 2010 International Monetary Fund (IMF) reforms, which negatively impacts on the IMF’s legitimacy, credibility and effectiveness. ”

In response, the IMF has released a very brief statement congratulating the BRICS nations and saying that they will be “delighted” to work together.

You have to admire them for trying to put a brave face on their looming irrelevance.

But this is really just more self-delusion and total denial of reality: the IMF, and the entire dollar-based financial system it represents, are finished.

The most powerful economies in the world have just aligned against them, and the IMF is ‘delighted’.

It reminds me of Robbie: “we’ve got ‘em right where we want ‘em.”

Back in reality, anyone paying attention can look at the score and know exactly how this game is going to end.

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