Tag: news

Authored by Arvind Subramanian and Josh Felman via Project Syndicate,

After decades of strong and steady growth, China has developed a reputation for economic resiliency, even as it piles up ever more domestic debt. But the prospect of declining exports, alongside a weakening currency, could derail its debt-defying trajectory.

From Argentina to Turkey and from South Africa to Indonesia, emerging markets are once again being roiled by financial turbulence. But let us not lose sight of the biggest and potentially most problematic of them all: China.

Over the past few decades, China’s growth has appeared to violate certain fundamental laws of economics. For example, Stein’s Law holds that if something cannot go on forever, it will stop. Yet China’s debt keeps on rising.

Indeed, according to the International Monetary Fund, Chinese corporate, government, and household debt has increased by about $23 trillion in the last decade alone, and its debt-to-GDP ratio has risen by around 100 percentage points, to more than 250%. That is orders of magnitude above the level at which financial crises normally occur.

To be sure, some of China’s debt has been used to expand its industrial base and infrastructure. But much of it has also gone toward sustaining money-losing public enterprises and endless investments in superfluous public facilities and housing.

China’s domestic imbalances point to another economic law that it has managed to break. For any normal country, the build-up of extensive surplus capacity would lead to sharp declines in investment and GDP growth. And that, in turn, would produce financial distress, followed by a crisis if the warning signs were ignored. But China has had a different experience. Its GDP growth has slowed, but investment remains robust, and there is no strain on its banking system.

A common explanation for China’s apparent invulnerability is that it has large pools of domestic savings and enormous foreign-exchange reserves (over $3 trillion), which can be spent down to head off financial panics. And because the government’s balance sheet is still strong enough to bail out unviable financial firms, it can address any emerging sources of stress in that crucial sector.

Another common explanation for China’s resilience is political. Highly centralized decision-making allows for swift, concerted action, such as official clampdowns on foreign-exchange outflows. And in such a uniquely controlled – and controllable – society, the normal social stresses that arise from economic disruptions are eminently manageable.

Plausible as these arguments are, it is time to revisit them. China’s economic exceptionalism is now being threatened by a perfect storm of existing stresses – namely, the domestic debt build-up – and new complications, including US trade barriers, the geopolitical pushback against China’s Belt and Road Initiative (BRI), and tightening monetary conditions, particularly in the United States.

After the 2008 financial crisis, China shifted its economic model away from exports and toward internal sources of growth. But such a rebalancing requires ever more debt and investment, thus creating greater risks of collapse. As a result, the government has had to tread carefully, providing only moderate dollops of stimulus to the economy as needed. There is no how-to manual for managing this balancing act. Policy interventions that seem moderate in the moment could turn out to have been excessive. At some point, Stein’s Law will assert itself.

First among the emerging threats to Chinese growth is US trade policy. So far, only about $50 billion worth of Chinese exports have been affected by the Trump administration’s tariffs. But in July, Trump announced a new round of tariffs targeting an additional $200 billion worth of Chinese goods, representing about 15% of total exports to the US. Reflecting its growing vulnerability, China’s reactions to Trump’s continued threats have been notably accommodative.

A second threat to external demand comes from the exhaustion of China’s mercantilist policies. In the 1990s and 2000s, China developed an exceptionally large export industry in part by allowing its currency to become undervalued. More recently, however, it has perpetuated this approach through other means, namely the BRI, with which it finances other countries’ purchases of Chinese goods and services. Call this Chinese Mercantilism 2.0.

The problem is that Mercantilism 2.0 is now under attack, both politically and economically. Politically, recipients of Chinese loans – from Sri Lanka to Malaysia to Myanmar – have been expressing objections to the BRI and its odor of neo-imperialism. Economically, the onerous terms of BRI financing have resulted in alarming debt build-ups in at least eight countries, according to the Center for Global Development.

Malaysia, for example, has already had to cancel $22 billion worth of Chinese-backed projects. Sri Lanka has had to turn to the IMF for help, owing to the impact of excessive Chinese imports on its external accounts. And Pakistan may soon be forced to do the same. As more countries become wary of the BRI, they will borrow and import less from China.

Meanwhile, the steady rise in US interest rates is creating a third shock. As US rates exceed Chinese rates, capital will flow out of China, as it has from other emerging markets this year. China’s leaders will thus be faced with the classic emerging-market dilemma. If they allow the renminbi to weaken, they could aggravate capital flight in the short term and invite accusations of currency manipulation from the US. But if they want to prop up the currency, they may have to spend down another trillion dollars in reserves, as happened in 2015.

Alternatively, the government could reimpose draconian capital controls. But that would stifle external demand, undermine economic management more broadly, and discredit the country’s claim to global economic leadership (including internationalization of the renminbi).

Amid this perfect storm of economic challenges, there are also growing questions about whether Chinese President Xi Jinping has as strong a grip on events as he would like everyone to think.

Xi would do well to remember not just Stein’s Law, but also Rüdiger Dornbusch’s Law, which holdsthat, “The crisis takes a much longer time coming than you think, and then it happens much faster than you would have thought.”

Sooner or later, Chinese exceptionalism will give way to the laws of economics.

The world should prepare itself. The consequences could be severe – and unlike anything experienced in recent history.

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President Trump’s trade war with China is expected to last much longer than initially thought — extending into the second half of 2019, experts state. The Main reason: neither Washington nor Beijing want to appear politically weak at home, and both are prepared to absorb economic pain; furthermore, Trump is convinced he is winning the trade war and will keep pushing until he is forced to reverse by the stock market.

According to an Axios report, President Trump’s trade war could affect companies employing some 11 million blue-collar workers, as the threat of an imminent trade escalation could strike by the end of the week.

The chart below depicts companies affected by Trump’s dangerous trade policies are mostly concentrated in rural, deeply red, deindustrialized regions of the country, with political consequences for the Trump administration in 2018 and beyond. Axios said the map tracks the geographical impact of both current and threatened retaliation. The darker a region, the higher the concentration of affected industries there.

Tit-for-tat has become the norm for China, as both countries dig in for a deepening trade war that is already causing many experts to warn about a global slowdown. To date, Beijing has imposed a 25 percent tariffs on $50 billion of American products. It has also threatened to respond to the newest round of US tariffs with a proposed tax on $60 billion of US goods, by strategically targeting Trump’s base in rural America just in time for the US midterm elections.

As for the 11-million blue-collar workers, employment in rural, deindustrialized regions in the US can be exceptionally vulnerable to shifts in the global economy, said Mark Muro, a senior fellow at the Brookings Institution. “In a small county, a single meat packing establishment can provide hundreds of jobs and make up a large share of that county’s total employment.”

The question then is whether the pain threshold of those 11 million workers affected will be triggered and, more importantly, how they will vote in November.

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Just when the world may have thought stability could be returning to Syria after rapid Syrian Army and Russian advances over the summer, it appears we are once again on the path of an eventual major showdown between US forces and Iran inside Syria.

Washington defense officials are pointing to ways that Iran continues to “defiantly” spread its military clout beyond its borders even as its economy is in a tailspin and under possibly the most aggresive sanctions regimen in history. 

A new Wall Street Journal report outlines what could be the start of a dramatic White House pivot towards escalation against Iranian and pro-Tehran forces in Syria like Hezbollah. This follows the Washington Post dropping an exclusive bombshell Thursday night based on top White House policy planning sources that President Trump has approved a plan for complete 180 policy shift in the region involving “an indefinite military and diplomatic effort in Syria”.

The WSJ reports, based on US defense sources: 

Tehran signed a long-term security pact with Syria in August, and has kept up the flow of arms and financial support to proxy forces around the region, according to U.S. officials and a person close to Lebanon’s Hezbollah militia.

It’s such activities that Washington has hoped, but failed to curtail after President Trump pulled the US from the 2015 nuclear deal last May and renewed sanctions targeting everything from defense to automobile manufacturing in Iran. 

But it appears that while economic turmoil guts Iran domestically, mostly impacting middle class families and common citizens on everything from having their savings wiped out to being unable to find diapers on store shelves, the guns continue to flow from Tehran to its proxies in the region as in the words of the WSJ it’s “signaling that it will buck U.S. efforts to roll back its military presence in the Middle East, moving to cement foreign alliances and continuing to project power abroad despite sanctions that have helped put intense pressure on its economy.”

A top Iran analyst at the International Crisis Group, Ali Vaez, for example told the WSJ, “It is an absolutely misguided perception that the Iranians will retreat from the region if they have economic problems.” And he underscored: “Whenever they come under increased pressure, they feel the need to double down.”

During a meeting with his military leadership on Sunday, Iran’s Supreme Leader Ayatollah Ali Khamenei reportedly said that Iran must urgently boost its personnel and buy more equipment, though downplayed the threat of direct war with the US. 

In Syria and Lebanon, one Middle East defense official was quoted by the WSJ as saying “Not much has changed,” in terms of Iran’s significant financial support to Hezbollah and Shia militias. “Wages are paid, training and funding is the same,” the official said. 

Meanwhile a week ago a new Reuters report based on regional and US defense sources alleged that  Iran has transferred ballistic missiles to Shia proxy forces in Iraq — a story which Tehran has officially denied, calling it propaganda to gem up support for military action. 

Responding to the story, Secretary of State Mike Pompeo said on Twitter that he was “deeply concerned” about the reports. “If true, this would be a gross violation of Iraqi sovereignty,” he said, noting that “Baghdad should determine what happens in Iraq, not Tehran.”

But this WSJ constitutes perhaps a rare admission, and lends credence to Iranian officails’ claims that it is not looking for confrontation in the region with the United States or Israel: 

Iran has exercised some restraint in confronting the U.S., according to analysts who noted that it has stopped harassing U.S. ships in the Persian Gulf and hasn’t tested a medium-range missile since July 2017.

While Tehran has rebuffed the Trump administration’s demands that it withdraw from Syria, it has pulled its forces out of the southwestern areas near the Israeli border at the behest of Russia, which sought to accommodate Israeli concerns.

However Washington analysts quoted by the WSJ write this off as “strategic patience” not an intent to withdrawal or play nice.

“Iran might have decided to slow down. But it’s a passing phase,” according to the analyst. 

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During Thursday’s Supreme Court confirmation hearing for Judge Brett Kavanaugh, New Jersey Democratic Senator Cory Booker held the proceedings hostage with a dramatic display over the release a 12-page email conversation between Kavanaugh and several other people with the subject “racial profiling.” 

The email in question was part of a massive Monday night document dump from a Bush administration lawyer, hours before Kavanaugh’s confirmation hearings began. 

The Democratic Senator huffed and puffed and blew hot air all over the chamber – claiming “this is the closest I’ll get to an “I am Spartacus’ moment” – adding “I am right now before your process is finished, I am going to release the email about racial profiling and I understand the penalty comes with potential ousting from the Senate.”

Booker’s bloviating frustrated other Senators – as Senate Judiciary Chairman Chuck Grassley (R-IA) asked him: “How many times you going to tell us that?” 

Dramatic moment when Booker pledges to release committee confidential documents whether Republicans agree or not and Cornyn threatens to to try to expel him from the Senate

“Bring it,” Booker says

(via @atrupar)pic.twitter.com/0WMOrUAdl5

— Judd Legum (@JuddLegum) September 6, 2018

Sen. John Cornyn (R-TX) admonished Booker as well, telling Booker – a 2020 Democratic hopeful: “Running for president is no excuse for violating the rules of the Senate,” adding “This is no different from the senator deciding to release classified information. … That is irresponsible and outrageous.”

This was Booker’s moment, where he would reveal Judge Kavanaugh as a conservative racist… except Booker apparently didn’t read, or understand the email.

After Booker released the emails, pundits and politicians alike rushed to digest the 12-page “bombshell” – only to discover that booker chose an incredibly stupid hill to die on.

In the 2002 email discussing airline security after the 9-11 terrorist attacks, Kavanaugh wrote that he “generally favored” race-neutral security measures, adding that his colleagues would need to “grapple” with “the interim question of what to do before a truly effective and comprehensive race-neutral system is developed and implemented” in order to prevent another terrorist attack. 

Kavanaugh wrote that the “interim question” is of “critical importance to the security of the airlines and American people in the next 6 months or so, especially given Al Qaeda’s track record of timing between terrorist incidents.”

As the Washington Examiner noted Thursday, the emails were a “total dud,” as they “don’t show Kavanaugh cheerleading racist tactics. Quite the opposite, actually.”

As Booker considers his 2020 run for President, he might consider having competent attorneys review and translate any complicated emails with dog-whistle titles before he cuts off his nose to spite his face.

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Submitted by Chris Whalen, Chairman of Whalen Global Advisors LLC in New York and publishes The Institutional Risk Analyst blog.

It is axiomatic among investors that rising interest rates are good for banks in terms of enhancing earnings.  But this is not necessarily true.  In fact, banks make money on widening interest rate and credit spreads, namely the different between the cost of money and the return on loans and investments.  Rising rates can be a mixed blessing.

In the 1980s, sharply higher interest rates during the term of Federal Reserve Chairman Paul Volcker essentially destroyed the housing finance sector in the US. Fixed rate mortgages and rising interest expenses led to widespread insolvencies in the savings & loan sector that cost US taxpayers hundreds of billions in losses.  Today the situation facing banks in the US is equally dire yet is largely unrecognized by the financial markets and policy makers.

Since the 2008 financial crisis, the Fed, ECB and Bank of Japan have suppressed the cost of funds, providing an enormous subsidy to bank equity holders and debtors at the expense of individual savers and bond investors.  In 2015, for example, the cost of funds for the $15 trillion in US bank assets fell to just $11 billion per quarter.  Prior to 2008, that number for quarterly interest expense was close to $100 billion.  In Q2 ’18, the US banking industry reported net interest income of $161 billion vs a cost of funds of just $27 billion.  The latter figure showing interest expense is almost doubling every 12 months.

With the Fed now tightening policy, both by raising the target for short-term interest rates and by allowing its balance sheet to shrink, US banks are facing the prospect of rising interest expense and shrinking net interest margins.  At the end of the second quarter of 2018, the larger US banks saw their cost of funds rising by more than 55% year-over-year while interest earnings were increasing by about 1/10th that amount.  By Q4 ’18, interest expense will be around $40 billion per quarter and rising faster in dollar terms than interest earnings for all US banks.

Based upon projections by Whalen Global Advisors, net interest income for all US banks will cease growing by year end and will be visibly declining in Q1’19.  In the event, the superficial narrative parroted by Wall Street pundits that rising interest rates are good for banks and other leveraged investors will be shown to be a complete nonsense.  Bank profits since 2008 have been supported by cheap funding, not robust asset returns, a situation that is rapidly changing.  Will Chairman Powell wake up before we run the good ship Lollipop aground?

Indeed, one reason that the ECB is reluctant to follow the example of their counterparts in the US by raising interest rates is because EU banks could never withstand such a change in funding costs.  As one ECB official told this writer in June, “we intend to reinvest the proceeds of quantitative easing indefinitely.” BTW, the decision by Chinese conglomerate HNA to exit its incredible equity stake in Deutsche Bank now begs the question with respect to DB and the broader question of prudential supervision in Europe.

Adding to the dilemma facing Fed Chairman Jerome Powell and his colleagues on the Federal Open Market Committee is the fact that the trillions of dollars worth of securities purchased by the Fed, ECB, BOJ and other central banks since 2008 has effectively capped asset returns.  Central bank action to lower interest rates drove the return on earning assets for US banks down from well over 1% to just 70bp last year.  The gross spread, before funding costs, of the top 100 US banks is just 4%.  Margins for loans and securities are brutally tight.

As interest expenses for banks rise at double-digit rates, asset returns are barely moving, as illustrated by the sluggish response of the benchmark 10-year Treasury to Fed rate moves.  For the largest US banks, gross yields on their loan portfolios are below 3%, a reflection of the still tight credit spreads visible in the bond and debt markets.  Competition for assets is intense, effectively making it impossible for banks to grow their profit margins on loans even as short-term rates rise.

So long as the Fed and other central banks retain their nearly $9 trillion in securities, the effective return on loans and securities will be muted.  Central banks do not hedge their positions or even trade regularly, thus there is no selling pressure on long-dated securities.  While the FOMC under Chair Janet Yellen was perfectly content to manipulate long-term interest rates downward via “Operation Twist,” when the Fed purchased long-term securities and sold shorter duration bonds, now the Fed sits by and does nothing as the Treasury yield curve threatens to invert. 

The strange asymmetry in Fed interest rate policy threatens the soundness of the US banking industry and, with it, the growth prospects of the US economy.  Just as a mismatch between rising interest rates and fixed-rate mortgages destroyed the S&L industry in the 1980s, US banks today face a market environment where funding costs are rising, but the returns on loans, securities and other assets are not increasing commensurately.  Indeed, the dearth of duration in the market continues to put downward pressure on spreads.

Simply stated, banks in the US are about to get caught in an interest rate squeeze of gigantic proportions.  In order to avoid this approaching calamity, the Fed needs to start outright sales of longer term securities, essentially the reverse of Operation Twist.  They might also have a chat with the Treasury about issuing longer dated paper, as we recently discussed in The Institutional Risk Analyst. 

Even sales of long-dated swaps and futures would be helpful to manage the transition back to “normal” that Chairman Powell has professed to be the goal of the US central bank.  Given Powell’s previous statements in 2012 about the duration of the Fed’s bond portfolio, one wonders what he is waiting for when it comes to managing this dangerous situation.

By law the Fed is responsible for managing interest rates and employment, but in fact the yardsticks used by the American political class to measure the job performance of Chairman Powell and his colleagues on the FOMC are the debt and equity markets. Should the Fed continue its “do nothing” approach to monetary policy normalization, then we are likely to see an inverted yield curve, then a selloff in global equity markets led by financials and finally shrinking profits in the US banking system early next year.  These three eventualities may very well ensure that 2019 is a recession year in the US.

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As Amazon’s market capitalization surged yesterday, it became the 3rd company in history to top the trillion-dollar level.

While 3rd (after PetroChina and Apple) is not bad, CEO Jeff Bezos is on his own in first place in terms of global net worth – almost lapping the next richest person. Bezos epic horde is $70 billion more than Bill Gates and almost double that of Warren Buffett.

Bezos net worth, according to Bloomberg, stands at around $167.7 billion as of last night’s close (up $67 billion or almost 70% year-to-date).

Here are six ways to put that $67 billion gain into context (via Bloomberg):

• It’s more than the entire market capitalization of FedEx Corp.

• Bezos’s gain this year alone would make him the seventh-richest person on Earth, ahead of Mexico’s Carlos Slim and Alphabet Inc.’s Larry Page and Sergey Brin.

• It’s about the equivalent of Walt Disney Co.’s blockbuster bid for most of the assets of 21st Century Fox Inc.

• His wealth has increased by an average of about $8 million an hour in 2018.

• It’s roughly 10 times Amazon’s total net income since it went public in 1997.

• The 499 other billionaires on the Bloomberg ranking have added a net combined $8.3 billion to their fortunes this year.

But, Pine Capital’s Taylor Mann has succeeded in putting Bezos’ stunning total personal wealth in context?

The Amazon CEO’s fortune is over 2 million times the net worth of the median US household…

That is twice as high as during the so-called ‘Gilded Age’.

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Russia’s defense ministry has confirmed another US intercept of its aircraft as two of its long-range bombers flew in international airspace over the Arctic Ocean and near Alaska. 

Two American F-22 jets were reported as approaching and then shadowing a pair of Russian TU-95MS nuclear-capable bombers in an incident also confirmed by North American Aerospace Defense Command (NORAD). 

A NORAD spokesman said the bombers were detected flying near the Aleutian Islands, describing to the Free Beacon on Friday that “Two Alaskan-based NORAD F-22 fighters intercepted and visually identified two Tu-95 ‘Bear’ long-range bomber aircraft flying in the Alaskan Air Defense Identification Zone, south of the Aleutian Islands.”

The NORAD spokesman would not disclose how far the Russian bombers were from the west coast of Alaska, citing security reasons, but confirmed the F-22’s shadowed the bombers until they left NORAD’s identification zone. “At no time did the Russian bombers enter Canadian or United States sovereign airspace,”  the official said. 

The Russian Defense Ministry put out its own statement on Friday, which reads: “The Russian Air Force’s Tu-95MS strategic bomber aircraft have carried out scheduled flights over neutral waters in Arctic Ocean as well as the Bering and Okhotsk Seas.” And indicates that “The aircraft were escorted by two US Air Force F-22 fighter jets on certain legs of their route”. 

Previously this year in May there was a similar incident where American fighter jets intercepted Russian TU-95’s off the Alaskan coast at somewhat close range, but it was reported at the time that the American jets didn’t come closer than 100 meters, and shadowed the bombers for up to 40 minutes. 

According to the Russian Defense Ministry its long-range bombers frequently carry out what it describes as “routine patrols” over the Arctic and the Atlantic, and the Pacific Ocean, but that the Russian bombers operate “in strict compliance with international regulations without violating foreign borders.”

But its possible this week’s incident wasn’t merely routine patrolling as the Free Beacon notes that it “coincided with large-scale military exercises now underway in the Russian Far East called Vostok-18 and were likely part of the exercises that have been underway since late August.”

As part of the exercises, on official speculated, the bombers could have been practicing cruise missile strikes on U.S. missile defenses in Alaska. They are capable of carrying nuclear warheads, specifically the nuclear-tipped KH-55 long-range cruise missile with a max range of up to 1,841 miles.

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This about summarizes the true state of Turkish politics today: a Turkish filmmaker was given a lengthy prison sentence after being convicted Friday for producing a film that included a scene depicting President Tayyip Erdogan with a gun pointed at his head as his family lay dead all around him.

The filmmaker, Ali Avci, had been arrested last year immediately after the release a trailer for his new movie, called “Awakening”, based on the failed military putsch that captured world headlines in 2016, in which over 250 people were killed, and in which Erdogan was nearly overthrown. At the time Erdogan had to vacate his residence and office and Skype messages to his supporters while temporarily deep in hiding. 

Avci was given a stiff six year prison sentence for producing the scene, and further he was convicted on charges of membership in a terrorist group. Six years of hard time is a massive sentence in most any country for making a film, but this seems par for the course in Erdogan’s Turkey, who just consolidated his AKP party’s iron grip over the country’s main institutions during a June election. 

A new Reuters report describes the scene in question:

The trailer caused public uproar with sequences showing Erdogan’s family, including his son-in-law, Finance Minister Berat Albayrak, shot dead, and an army officer pointing a gun at the back of the president’s head as he prayed.

An Istanbul court sentenced Avci to 6 years and three months in jail for belonging to the network of U.S.-based Muslim cleric Fethullah Gulen, deemed a terrorist organization by Turkey. Gulen denies Turkey’s accusation that he masterminded the coup attempt.

The powerful opposition figure Fethullah Gulen is still reportedly living in exile under US protection in Pennsylvania. Turkish intelligence has been notorious for attempting to nab some of his high profile followers in European countries of late. 

Meanwhile Pastor Andrew Brunson’s trial continues as the American citizen remains under house arrest while facing terrorism charges, which has sparked a now months-running bitter fued between NATO allies Washington and Ankara.

According to state media, the newly sentenced filmmaker who portrayed Erdogan’s execution was said by the court to have been engaged in “public perception management in line with the core goals of the terrorist organization” through his movie.

Avci denied the charges and pointed to the political nature of the film, echoing Erdogan’s own words that confirmed he was the ultimate target of the failed putsch, which also involved air strikes on the presidential palace in Ankara. Such a film’s popularity could prove deeply embarrassing for Erdogan, something the aggressive prosecution and film’s suppression is seeking to prevent. 

“If I was trying to make terrorist propaganda, I would have shown Erdogan making plans to flee, instead of the praying scene,” Avci told the court, which remained unmoved. 

Currently international monitoring groups have estimated that some 50,000 Turkish citizens remain locked up after mass “political arrests” and are still pending trial. After the 2016 coup attempt, about 150,000 state workers including teachers, judges and soldiers were suspended.

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