Sheldon Richman Explains the Humanitarian Shortcomings of the Affordable Care Act

Let’s stipulate that most people who favor the
ACA have honorable intentions: they want everyone, including people
in ill health, to have access to good and affordable medical care.
All decent people should want that. Nevertheless, explains Sheldon
Richman, the problem is that in making government policy, unmovable
obstacles often stand between motives and desired results.

View this article.

from Hit & Run http://reason.com/blog/2013/11/03/sheldon-richman-explains-the-affordable
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Guest Post: Preparing For A North Korean Collapse

Submitted by Michael Miner of The Diplomat,

A report by Bruce Bennett and the RAND Corporation has brought attention to one of the most important issues for international politics. Ironically, despite being a region of vital interest within American foreign policy, there has been very little public discussion of what to do in the event of government collapse in North Korea. Bennett’s timely report provides a series of vital contributions to the discussion and further outlines the lack of preparation in political, social, economic and military terms. Yet beyond the critical end game for the Korean peninsula are deeper questions concerning how any international force might respond. Specifically, how can the U.S. and Republic of Korea effectively mobilize regional powers with their differing security and development goals?

International cooperation can alleviate geopolitical tension and inform policymakers while sharpening the tools of statecraft in preparation for engaging the uncertainties of an all but certain crisis on the horizon. The U.S. must begin to consider the requirements of intervention – not to depose a totalitarian regime for the sake of an ideological crusade, but as pragmatic, necessary planning in the event weapons of mass destruction enter the calculus as a credible, serious danger.

Unpredictable North Korean rhetoric offers scant evidence for anticipating or understanding Pyongyang’s tightly managed system of control. Indeed, many revolutionary or transformational periods in history have been poorly anticipated by external actors whom otherwise might have played a more constructive role in their outcome. Invisible factional rivalries, natural or man-made disasters, and blurred lines of sovereign authority are only a few factors that might contribute to the collapse of the totalitarian system. Resulting anarchy involving weapons of mass destruction and the internal struggle for power should prompt the most serious concern. The event of nuclear use, or clear evidence of momentary launch, could escalate to outright conflict and plunge East Asia into a tumultuous period with unforeseen consequences. Yes, nuclear threats and open hostility follow a longstanding pattern of belligerent rhetoric from Pyongyang, but prolonged uncertainty only heightens the risk of miscalculation. A major crisis scenario that destabilizes the North Korean government and its mechanisms of control, no matter how unlikely, should prompt the international community to consider a multilateral framework for intervention.

Any comprehensive framework committed to stabilization and reconstruction must consider cross-cutting principles that can be directed toward achieving the desirable end state of a peaceful Korean peninsula. First, Seoul could lead the process of Korean unification backed by the political legitimacy of a democratic state faced with an imminent threat on its territorial border. A legitimate claim to self defense reinforces the long-term goal of Korean unification under the auspices of a self-sufficient and transparent democratic government, a favorable outcome quickly gaining traction in Beijing. Second, and most important to the international community, stability could be achieved through a unity of effort by regional security partners seeking to move the peninsula from conflict to a manageable level of development. Quelling a potentially transnational civil war involving weapons of mass destruction is a vital interest of regional neighbors and the international community alike. Finally, the incorporation of non-governmental organizations holds the potential to dramatically accelerate the process of modernization and diminish long-term social and economic inequalities that could manifest into political grievances following unification. Toward this end game, and before major reconstruction, any intervening force must achieve minimal levels of stability in terms of physical and human geography.

The first step toward planning a credible response is to consider the absence of a totalitarian regime previously possessing rigid control over territory, weapons of mass destruction, and the civilian population. Working under the assumption that Chinese and South Korean border issues could be mitigated by their respective militaries, and WMD tracked and secured by American military forces working alongside integrated allies, the preeminent question becomes one of human security. Specifically, how to deal with twenty million physically and psychologically scarred individuals as an operational challenge. Regardless of the ongoing struggle for power and stability, these individuals represent a major hurdle for any external force crossing the 38th parallel and constitute the bulk of human terrain. For many, their day-to-day lives reflect a permanent wartime experience, an existence on the edge that has defined families for more than three generations. Devout loyalty to the North Korean system is arguably so ingrained within many citizens, it is difficult to project how the majority of individuals would behave after the cataclysmic event of totalitarian collapse.

There would likely be a profound absence of the overarching stability that has come to define the norm within Pyongyang’s invasive culture of oppression. Beyond fundamental necessities of food, water, shelter and physical security, what unforeseen conditions might an external group encounter among the civilian population? The disintegration, or even transformation, of this familiar norm would potentially compound dangerous social, economic and political inadequacies while pushing individuals past an already desperate state of existence. To paraphrase experts, exposure to an event involving potential death or serious injury to the self or others leads to intense states of fear, helplessness or horror. Under this scenario, an outside group would likely encounter upwards of twenty million individuals suffering from the effects of severe grief and incapacitating post-traumatic stress disorder. These reactions might appear as abnormal reactions to normal stress, but inside the reality of North Korea, it would reflect a normal reaction to abnormal stress. Whether an intervening humanitarian force, or an individual state dealing with refugees fleeing across its border, responsible powers should not overlook such a traumatic moment for geopolitics.

Lessons in Iraq and Afghanistan point to a roadmap for civilian engagement strategies that could be applied though cooperative security action. Provincial reconstruction teams (PRT) represented a concerted effort to utilize joint civil-military teams to provide security and support development efforts during conflict and subsequent reconstruction. There have been three distinct models with varying composition that demonstrated different levels of effectiveness. In particular, the British model placed a high emphasis on civil-military integration and partnerships, in contrast to U.S. and German PRT models led by the military. The British model also had a high level of responsiveness to suggestions made by non-governmental organizations and other civilian organizations that specialized in the regional, cultural and social aspects of the operational environment. This cooperative aspect would be integral for any international force composed of distinct – and potentially rival – powers. Competitive realpolitik might further be dampened by sharing mission responsibilities and incorporating nongovernment organizations from each state involved – especially humanitarian organizations.

A larger variance of the British model could include units from regional security partners tasked with specific operational assignments dependent on capability. South Korea would take the lead in political and cultural affairs with the Ministry of Unification serving as the central governing authority working in tandem with local North Korean elements able to manage districts. The United States and China would be capable for providing major logistical and military support and, in addition to securing any weapons of mass destruction, assist South Korean forces in a shape, clear, and hold strategy with Seoul leading the building phase and directing international support to areas where it is most needed. This would represent an all-encompassing effort led by and for the Korean people to generate conflict-free zones of human development, areas paramount toward long-term stability where additional foreign aid could accelerate the healing process for a nation torn asunder for more than three generations.

Traditional units tasked with reconstruction could focus on adequate sources of fresh water and critical infrastructure. Japanese units with specialist medical and engineering equipment that performed admirably in the past could begin to tangibly mend historical divides between Seoul, Pyongyang and Tokyo. Currency guarantees and mechanisms for market stability could be implemented to address widespread looting, hording, black market trading, and increasing civil violence. North Korean political elites and individuals capable of assuming leadership positions in regional zones of development might be seconded as conduits for resource management. Outside specialist humanitarian units familiar with Korean culture would go a measurable way toward winning hearts and minds, or at least maintaining a sense of normalcy for a nation experiencing social, political, and economic trauma on a massive scale. Additional sociological attaches could only better equip forces to better redress problems as they arise: it could be a force multiplier. Indeed, the most effective force deployed alongside security teams might be a brigade of social scientists able to support field operations, an unconventional approach in many respects, but North Korea is the unconventional state of the modern era.

For the U.S., this reflects not only the reality of resource scarcity and austere military budgets, but is a better approach that draws on the expertise of non-government experts that comprehend social and economic dimensions better than many civil servants and military units spread across a wide assortment of responsibilities. Establishing cultural awareness and mapping the human terrain also creates major operational advantages for American forces. Burden sharing with South Korea, Japan and China not only alleviates stress on the United States, but can efficiently marshal capability without approaching the maximum, national effort often associated with the American way of war. Follow-up development efforts and foreign investment would also be most effectively applied when first directed by and for the Korean people. In concert with a limited military focus on security, these foundational partnerships can develop the capability and flexibility necessary for navigating the dangers of a major crisis on the Korean peninsula.

Nobody should actively seek intervention based solely on the rhetoric of human rights violations or ideological principles. Yet responsible great powers should prepare for the eventuality as seldom has a major crisis occurred with significant warning and the luxuries of foresight. Active stewardship can remedy grievous human rights violations, alleviate regional security concerns, and dampen great power competition. An evolving plan of action can equip the international community to deal with known challenges while simultaneously developing the organizational capacity to marshal an effective response to the unknown dynamics that emerge during a crisis. A credible plan of action might also encourage more responsible behavior by the Kim regime and decrease the likelihood of any major crisis requiring intervention. Zeroing in on the core human security dynamics that impact the day-to-day lives of each individual is the first step toward crafting a more complete picture of the humanitarian crisis in the Hermit Kingdom. Preparing for the unthinkable is not a simple moral imperative, but responsible leadership in the twenty-first century.


    



via Zero Hedge http://feedproxy.google.com/~r/zerohedge/feed/~3/tV_LS8M6DSA/story01.htm Tyler Durden

US Drones Taliban Leader; His Troops Vow Bloody Revenge; Pakistan Government Furious At America

Having done a bang up job in Syria, where Obama nearly started world war III so Qatar could send its natgas to Europe at a lower price than  Gazprom’s, while alienating America’s legacy allies in the region, Saudi Arabia and Israel, and ensuring its enemies see it even weaker in the international arena following Obama’s schooling by Putin, the US president continues to win friends abroad (while spying there, here and everywhere, namely the Pope) with the latest snafu coming from Pakistan, another former ally, where America just droned the leader of the Taliban fighters on Saturday, leaving his body “damaged but recognizable”. 

In response the Taliban – once upon a time another close ally of the CIA and especially their one time leader, Osama bin Laden – quickly moved to replace him while vowing a wave of revenge suicide bombings: because what the US needed right now is even more potential terrorism. But not before the outraged Pakistani government, insulted that the US continues to take whatever liberties on its territory it chooses, summoned the US ambassador, although not for another instance of NSA spying, but due to America’s penchant for delivering not so targeted mass executions around the world by remote control.

From Reuters:

The Pakistani government denounced the killing of Hakimullah Mehsud as a U.S. bid to derail planned peace talks and summoned the U.S. ambassador to protest. Some lawmakers demanded the blocking of U.S. supply lines into Afghanistan in retaliation.

 

The murder of Hakimullah is the murder of all efforts at peace,” said Interior Minister Chaudhry Nisar. “Americans said they support our efforts at peace. Is this support?”

Not really, although if Pakistan had read the Xinhua oped from Friday it would know that already.

Mehsud, who had a $5 million U.S. bounty on his head, and three others were killed on Friday in the militant stronghold of Miranshah in northwest Pakistan.

 

Mehsud’s vehicle was hit after he attended a meeting of Taliban leaders, a Pakistani Taliban fighter said, adding that Mehsud’s body was “damaged but recognizable“. His bodyguard and driver were also killed.

 

He was secretly buried under cover of darkness in the early hours by a few companions amid fears that his funeral might be attacked by U.S. drones, militants and security sources said.

And here is why the US globocop policy of droning anyone it chooses abroad always backfires.

Every drop of Hakimullah’s blood will turn into a suicide bomber,” said Azam Tariq, a Pakistani Taliban spokesman. “America and their friends shouldn’t be happy because we will take revenge for our martyr’s blood.”

Maybe not America, but its leaders who thrive on a culture of constant fear from “terrorism”, even when it is openly provoked, should. Especially when the target is Al Qaeda which is a strategic friend in some cases (Syria), and the worst foe when a Bogeyman is needed:

Mehsud took over as leader of the al Qaeda-linked Pakistani Taliban in 2009. The group’s two previous leaders were killed in attacks by U.S. missile-firing drones. Taliban commanders said they wanted to replace him with the movement’s number two, Khan Said, who is also known as Sajna.

 

Said is believed to have masterminded an attack on a jail in northwest Pakistan that freed nearly 400 prisoners in 2012 and a big attack on a Pakistani naval base.

 

But some commanders were unhappy with the choice and wanted more talks, several militants said, indicating divisions within the Pakistani Taliban, an umbrella group of factions allied with the Afghan Taliban and battling the Pakistani state in the hope of imposing Islamist rule.

 

The Pakistani Taliban killed an army general in September, has beheaded Pakistani soldiers and killed thousands of civilians in suicide bombings. The group also directed a failed attempt to bomb Times Square in New York.

Hopefully all futures attempts to bomb Times Square will likewise be “failed” courtesy of the NSA’s undying vigilance.

And since every US action abroad has an immediate reaction, the Pakistani government has already clarified it will make US strategic intervention in the region that much more difficult:

The Pakistani foreign office said in a statement on Saturday Mehsud’s death was “counter-productive to Pakistan’s efforts to bring peace and stability to Pakistan and the region”.

 

Shah Farman, a spokesman for the government of the northwestern province of Khyber Pakhtunkhwa, said provincial lawmakers would pass a resolution on Monday to cut NATO supply lines into landlocked Afghanistan. A major one passes through the nearby Khyber Pass.

 

The supply lines through U.S. ally Pakistan have been crucial since the latest Afghan war began in 2001 and remain vital as the United States and other Western forces prepare to withdraw from Afghanistan by the end of next year.

Finally, for those wondering just how big the US drone presence in the region is, the answer is: very.

Residents of Miranshah, the capital of the North Waziristan region on the Afghan border, said Pakistani Taliban fighters were converging on the town and firing furiously at drones buzzing high in the sky.

 

About eight drones were seen overhead as well as a larger aircraft that seemed to be an aeroplane or a type of drone that residents said they had not seen before.

 

“We thought it was a C-130 aircraft but it was a special spy plane, bigger in size,” resident Farhad Khan said by telephone from Miranshah. “The militants fired from their anti-aircraft guns to hit it but couldn’t.”

 The good news: for now the US is focusing its droning powers abroad. Hopefully that, too, doesn’t change any time soon.


    



via Zero Hedge http://feedproxy.google.com/~r/zerohedge/feed/~3/F77RxkjqvsM/story01.htm Tyler Durden

How The World Really Works – The Documentary

Renegade Economist’s “Four Horsemen” documentary lifts the lid on how the world really works. “Four Horsemen is a breathtakingly composed jeremiad against the folly of Neo-classical economics and the threats it represents to all we should hold dear.” Free from mainstream media propaganda — the film doesn’t bash bankers, criticize politicians or get involved in conspiracy theories. It ignites the debate about how to usher a new economic paradigm into the world which would dramatically improve the quality of life for billions. Since it is becoming abundantly clear that we will never return to ‘business as usual’, 23 international thinkers, government advisers and Wall Street money-men break their silence and explain how to establish a moral and just society.

 



    



via Zero Hedge http://feedproxy.google.com/~r/zerohedge/feed/~3/ytlfhRyYWlQ/story01.htm Tyler Durden

The 10 Commandments Of Government

Via Doug Ross' Director Blue blog,

I Generally speaking, government always grows — it never shrinks — whether times are good or bad.

 

II In each area it purports to "assist", government attempts to replace individual decision-making with central planning.

 

III In order to implement its grand central plans and solidify its power, government must take from one citizen to give to another; this is, in effect, lawful theft.

 

IV No matter how many times central planning fails, the self-appointed masterminds in government assert that "this time is different" and that with only a few tweaks and more money, their delusional plans will succeed.

 

V Because it uses funds confiscated from taxpayers, self-restraint is no obstacle to government's ambitions.

 

VI Its fundamental misunderstanding of human nature notwithstanding, government must claim to grant "rights", which require it steal the labors of one citizen to give to another (such as food, shelter, employment, and health care).

 

VII No matter how widespread the harm it causes, government will never provide an honest and historical accounting — a report card — of its failures.

 

VIII As more individuals and families are harmed by the failures of central planning, government must find suitable scapegoats, must lie to do so, and therefore must also repress dissent.

 

IX In order to build its network of redistribution and grow a culture of dependency on its services, government must inevitably undermine the family unit, religion, and the notion of God-given rights in order to cow, bribe, or intimidate its citizens.

 

X As government grows ever more powerful, it must also become increasingly oppressive through compulsion and force. To do otherwise would mean government must shrink, and this it cannot do.
 

Any of these characteristics recognizable?


    



via Zero Hedge http://feedproxy.google.com/~r/zerohedge/feed/~3/D3lmajEir_o/story01.htm Tyler Durden

Paul Brodsky: "The Fed Is Holding A Burning Match"

The Fed will have to increase QE (not taper it) because systemic debt is compounding faster than production and interest rates are already zero-bound. Lee Quaintance noted many years ago that the Fed was holding a burning match. This remains true today (only it is a bomb with a short fuse). Thirteen years after the over-levered US equity market collapsed, eleven years following Bernanke’s speech, five years after the over-levered housing bubble burst, and four years into the necessary onset of global Zero Interest Rate Policies and Long-Term Refinancing Operations, global monetary authorities seem to have run out of new outlets for credit. In real economic terms, central bank policies have become ineffective. In other words, the US is now producing as much new debt as goods and services.

Sovereign Shares

Via Paul Brodsky or Kopernik Global Investors,

A few years ago, the smart people at Pimco coined the term "new normal" to help describe the increasingly obvious need for ongoing unconventional economic policy directives in over-leveraged, finance-based economies, and the impact on global production they would have. The Firm later helped promote the concept of a "stable disequilibrium" – a tenuous economic state that, if left in place too long, could lead to deteriorating and wholly a-cyclical economic consequences. This past August, Pimco's Mohamed El-Erian seemed to publicly join his colleague, Bill Gross, in conceding the new normal had further morphed into a state in which global economies and policy makers are going to have to come face to face with the sources of this disequilibria.

In this report, I will narrow this reconciliation theme to what I see as the base source of our increasingly not-so-stable disequilibrium – unsustainable global price levels – and then take a logical next step to make the case for where global wealth will flow – towards direct ownership in resources and the corporate capital structures of businesses with sustainable pricing power.

My conclusion: claims on production and demand-inelastic global resources are now the ultimate sovereign currency, regardless of their provenance, and this is where substantial alpha resides in today's equity markets.

Uneconomic Credit & Monetary Policies

Economies are meant to be naturally-functioning processes that organize societies (think efficient allocation of resources), and financial markets are supposed to exist to help form, distribute and price capital. Today, however, it seems clear that externalities are distorting these functions. Aggressive economic policy interventions are disrupting basic commercial incentives to consume and invest. While such exogenous inputs have greatly influenced such incentives for decades, they seem to be quickly losing their efficacy, as they would ultimately have to in the latter stages of their aggressive applications.

The fundamental disconnect today is unnatural clearing levels — prices of goods, services and assets that do not reflect societies' sustainable needs, wants and preferences.

If left to an economy's natural functioning, goods and service price levels would fall over time as input prices fall, which would occur naturally as the rate of innovation and productivity outpaces population growth. However, a falling general price level is unacceptable to policy makers in finance-based economies where ever-rising prices are needed to service and collateralize ever-increasing debt levels. So, global monetary authorities have sought "price stability," which in practice implies the need for

constant price inflation to offset what would otherwise be naturally-occurring price deflation. Indeed, "price stability" has become a bipartisan, socially acceptable euphemism for consistent policy- administered credit and price inflation — functionally the diminution of a currency's purchasing power.

The graph below of US CPI shows clearly the secular price-inflationary policy of the Fed, and, given the US Dollar's role as the world's reserve currency off which all global resources and currencies are valued and exchanged, the tacit inflationary policy of all global monetary authorities. (I used 1983 as a starting point because it eliminates very high 1970s inflation and marks the beginning of the era of significant financial asset leveraging.)

 

Implicit in the consistently rising slope of CPI inflation on the graph, the purchasing power of $1.00 has declined by about 59% since 1983. To be clear, this means that one who saved a dollar truly RISK-FREE (i.e., under the mattress) over the last thirty years would have about forty-one cents of her original purchasing power today. Most contemporary economists would argue that such analysis is incomplete and misleading because savers have mostly lent their money and received interest on their savings in excess of their purchasing power loss. This is true, but also misleading and incomplete.

Since 1983, implied yields on twelve-month US T-bills have averaged about 5.00% while US CPI has averaged about 2.9%. This suggests a positive average annual real return of about 2.1%. Keeping our logic constant then, the purchasing power of $1.00 invested in T-bills in 1983 and rolled-over every year would have grown to about $1.87 — an overall positive real return on one-year T-bills.

But consider this: T-bills over the last thirty years were never risk-free in aggregate, when adjusted for the inevitable need to reduce the Dollar's purchasing power. The positive gains were gamed from issuing claims on money that did not yet exist in the system. Had there been no exogenous monetary authority willing and able to manage USD credit pricing, it is likely the market would have set real returns on government issued obligations either far higher, as the US Treasury ran up significant deficits, or, less likely, far lower as Treasury would not have been able to run up deficits in the first place. So, the positive real return of "risk-free assets" over the last thirty years was in fact the result of a speculation that had to ultimately end and be reversed — if not nominally then in real terms (i.e., currency devaluation).

Secular Economic Leveraging, De-constructed

Implicit in the ability of virtually everyone in society to have received a positive real return on the money they loaned "risk-free" to the US Treasury, as appeared to occur from the early eighties to very recently, was a false reality based on the misperception that lending generally creates capital — the means for sustainable economic expansion, and that the loans created would ultimately be extinguished. Sustainable capital formation is not complete until the credit and debt created are retired and only the capital remains. As we know, systemic debt has become the economic equivalent of a bad houseguest.

Each dollar loaned by savers demands a dollar of production on the other side, plus production growth equal at least to the interest rate received. This is needed so that the borrower can service and repay the loan. Otherwise, the dollar's PURCHASING POWER cannot be returned to the lender.

For most of the last thirty years, global policy makers overseeing bank credit, led by the Fed, have generally maintained easy credit conditions. (We know this simply because aggregate credit has risen consistently.) Easy credit was accomplished by keeping real returns to "savers" (in the form of interest rates) higher than the potential increase in
sustainable real economic production derived from those savers' loans (to banks as deposits or directly to borrowers through asset-backed securities markets). Think of it this way: the real return on bank deposits and ABS has been consistently higher than the sustainable (debt-adjusted) real return on the collateral they funded. Savers had incentive to lend.

And so secularly easy credit policies served to expand nominal production at the expense of maintaining the sustainable purchasing power of all established major currencies. Securitized market debt created over the last thirty years remains and has been collateralized by asset values that, in turn, rely upon ever- growing further dilution of the very currencies in which they are denominated. Meanwhile, loans to global banks (i.e., deposits and central bank loans) have been woefully unreserved with base money.

At some point, the credit markets would have to seize, and they effectively have. The Fed has become the rate setter for benchmark "risk-free" global interest rates. It is de-levering American banks directly by creating reserves and backstopping foreign banks by promising necessary swap facilities.

Meanwhile, there has been a general misperception that zero-bound short-term interest rates have been promoted by the Fed as economic stimulus. As we have seen, however, Quantitative Easing has had little bearing on production because it helps only institutions not directly productive. Banks produce little, if any, capital directly. Creating new bank reserves for very fractionally-reserved banks only serves to de?

lever their balance sheets. QE also helps fund the US government, which is not directly productive either. Government revenues are derived mostly from taxes on production of the private sector.

Balance sheets of the productive non-financial private sector are not being de-levered by any external body creating new base money. If they are to be de-levered it must be the result of pure economic reasoning — debt-to-asset and/or debt-to-income levels are too high. Indeed, the factors of production have been de-levering, which tells us there remains no commercial incentive (profit-oriented motivation) to borrow. Why? It must be because assets are not cheap enough and potential income from borrowing is not high enough in real terms.

Meanwhile, nominal asset prices are generally rising in over-levered economies where capital production is suffering. Again, consider credit. Zero-bound interest rates imply little, if any, future upside for the value of credit, which in turn provides little prospect of beneficially refinancing debt that collateralizes assets. This implies that asset values must increase in real terms looking forward or else owning them would destroy wealth. Yet, positive real returns for most levered assets are unavailable today as the rate of currency dilution exceeds the rate of production growth. In this environment, the numeraire that defines asset prices and the general price level is unimportant; real value is the thing.

Unencumbered assets are generally more apt to hold their purchasing power value, as are businesses that provide goods and services to customers that do not have to borrow to spend. The currency-adjusted real values of most leveraged assets and sustainably productive assets are not accurately reflected in their relative nominal price levels currently. The former is far too high relative to the latter. It is reasonable to expect savers and investors to begin recognizing how and where wealth must be stored looking forward — in sustainable resources and businesses with sustainable pricing power. Judging by the popular composition of asset sponsorship currently, this thesis requires a change in popular sentiment, the timing of which is difficult to anticipate. However, I see timing as the only risk because a significant change in popular sentiment only has to follow already well-established macroeconomic trends. Fundamentally, it is a case of information arbitrage.

Visualizing the Current Opportunity Set

It is becoming increasingly obvious to a growing number of observers (albeit still a small bunch) that real output — currency inflation-adjusted GDP — cannot be pulled forward through further credit or currency creation. As noted, one who saved for most of the last thirty years by lending to a treasury, municipality, bank (in the form of a deposit), corporation, or to another private borrower (e.g. to a home buyer through the MBS market), would have received a higher rate of interest than the loss of purchasing power of her dollar — a positive real (inflation-adjusted) return. What many savers continuing to make such loans seem to not understand, however, is that by continuing to lend to governments, private borrowers, banks, etc. they are locking-in the likelihood that they will not be repaid with equal purchasing power.

The only market participants with a rational reason to own sovereign or tertiary debt with negative real return profiles today are levered entities able to make a positive nominal spread on their holdings. Banks and other entities that can borrow ten- or twenty-times their equity and take-out 0.25% per bond, and that do not care (or are not forced to care) about the purchasing power of any of the bonds in their arbitrage, have no structural incentive to complain about negative real rates (let alone sell their bonds). What is rational for them is not rational for most savers and investors.

 

The graph above tells an interesting story. Nominal GDP ("NGDP") represents US production growth; Total Credit Market Debt represents the growth of systemic USD-denominated debt; and USD base month growth (USD currency in float and bank reserves supporting systemic USD credit) represents the monetary denominator off which systemic credit and debt exist. In short, the graph shows past and current systemic USD leverage.

The takeaway is that the high line (public credit/debt) is ultimately supported by the integrity of the low line (actual money), while policy makers are wondering how to maintain the trajectory of the middle line (so that the high line does not collapse or they do not have to suddenly create boatloads more base money, which would make the low line rise parabolically). The leverage portrayed here is the basis for the warped general price level, which in turn is the basis for global economic disequilibrium.

To be fair, unlike the "unreserved credit" in the fractionally reserved banking system, much of the credit supporting the high line on the graph is actually collateralized by private sector assets. However, to be even more fair (s), reconciling this debt would require asset sales. To whom would we sell them to maintain their market values and the value of our debt and collateral: each other?

Needless to say, widespread asset liquidation to service and repay outstanding debt, which would drive down asset prices to reflect their un-levered (currency-adjusted) sustainable values, would be a very sub­optimal social, economic and political occurrence. The good news is that, unlike the 1930s, it is an occurrence that need not occur given the ability of monetary authorities in the current (forty year-old)

regime to create infinite base money for all debtors (not just banks). So, it seems reasonable to expect fiscal and monetary authorities with direct access to a printing press to choose inflation over austerity.

And they are. Core Europe can impose austerity on indebted peripherals because, by controlling the ECB's printing press, they control the quantity of Euros. Would American and Japanese politicians and monetary authorities really impose hardship on their own populations when they can drop their currencies from prov
erbial helicopters? Not according to Chairman Bernanke who publicly put forth central bank orthodoxy in 2002 when, as a Fed Governor, he famously noted:

"The U.S. government has a technology, called a printing press (or, today, its electronic equivalent), that allows it to produce as many U.S. dollars as it wishes at essentially no cost. By increasing the number of U.S. dollars in circulation, or even by credibly threatening to do so, the U.S. government can also reduce the value of a dollar in terms of goods and services, which is equivalent to raising the prices in dollars of those goods and services. We conclude that, under a paper-money system, a determined government can always generate higher spending and hence positive inflation."'

Flash forward to today: Japan is overtly destroying the purchasing power of the Yen to target NOMINAL GDP. Meanwhile, Washington is increasing public spending and attendant debt ceilings, and forcing the Fed to continue QE so government can continue subsidizing diminishing economic incentives in the private sector. The point here is that we have a very well-established roadmap and a very well-established inflation trend and yet the public does not seem to get it yet. There is a popular misunderstanding that the great majority of savings and investments are collateralized in currencies that are not being diluted and do not have to be greatly diluted in the future.

The Fed will have to increase QE (not taper it) because systemic debt is compounding faster than  production and interest rates are already zero-bound. My colleague, Lee Quaintance, noted many years ago that the Fed was holding a burning match. This remains true today (only it is a bomb with a short fuse). Thirteen years after the over-levered US equity market collapsed, eleven years following Bernanke's speech, five years after the over-levered housing bubble burst, and four years into the necessary onset of global Zero Interest Rate Policies and Long-Term Refinancing Operations, global monetary authorities seem to have run out of new outlets for credit.

In real economic terms, central bank policies have become ineffective. The graph below divides two lines on the graph above, Total USD Public Credit by US nominal GDP. The high plateau to the right suggests that ever-increasing credit growth is struggling to maintain economic production. In other words, the US is now producing as much new debt as goods and services.

 

The elephant in the room is that while economic policies that target rising nominal GDP may make it easier to service outstanding debt (if NGDP rises from demand growth rather than price inflation), they do not make it easier to repay that debt. Indeed, NGDP growth is mildly positive today while real economic activity, as seen through money velocity (below), is plummeting.

 

By increasing bank reserves through QE, the Fed has been de-levering the formerly almost completely unreserved stock of USD checkbook money (M1, M2, M3) — now about 8:1 checkbook money-to-bank reserves. This is better collateralizing bank assets (i.e., loan books), and that's it. It is not directly economically stimulative.

Perhaps more troubling than the obvious dearth of credit money to feed contemporaneous economic activity is the erroneous perception among most influential economists and policy makers that all is well as long as debt is kept low in relation to an economy's output. Such analysis mixes accounting identities and produces a too-sanguine conclusion. Debt obligations are first claims on checkbook money, which in turn are ultimately claims on base money (bank reserves and currency in float). Debt obligations are not claims on widgets. And so while Debt-to-GDP charts like the one below are often cited by policy makers when analyzing economic sustainability, they miss the point entirely.

 

Beyond confusing accounting identities (a debt is formally a claim on currency rather than a claim on production), Debt-to-GDP ratios also tend to count only federal debt (not including off-balance sheet obligations). Relying on debt-to-GDP metrics demonstrates more concern with the viability of government balance sheets and future government spending than with private sector investment in plant, equipment and labor.

Whether readers believe in big government, small government, efficient government or no government, we should all agree that self-important governments, government economists, and most academic economists trained to comply with government economic policy are ignoring the most basic principle of economics: economies naturally economize.

Within this context, declining rates of private sector investment make sense currently in finance-based economies where businesses and households have natural incentives to husband resources and reduce outlays — to de-lever their balance sheets. It is impossible to de-lever a balance sheet without either increasing assets or decreasing debts. Where is the incentive to take risk, to re-lever and expand? In other words, the productive economy is risk-off. There is diminishing incentive to produce.

Meanwhile, the financial economy is risk-on. The S&P 500 has added $4 trillion of market cap this year on the back of corporate and margin debt. As the graph below shows, the stock market seems to be the chosen outlet for the bank multiplier effect — using bank reserves to collateralize new loans. (This clearly explains widening wealth and income gaps in an environment of widespread malaise.) The takeaway here is that real, currency-adjusted value within the stock market is being overlooked as indexes rise in nominal terms.

 

As many have noted (e.g., Churchill. Eban), people and nations tend to find the right path after they exhaust all others. Policy makers and ne'er do well economists are still trying to find solutions to increase nominal aggregate demand that would justify the risk-on financial economy. However, even if they succeed in increasing NGDP, they will likely fail in pulling the global economy out of its current disequilibrium. Policy makers cannot (and will not be able to) find a solution that increases aggregate real demand and real output because their toolbox has been reduced to printing presses and carefully parsed communications; neither of which provide the factors of production incentive to produce more.

The US and other highly-levered economies cannot grow out of the leverage problems stifling production unless they do so without incurring new debt, and there is no obvious new capital forming outlet for further credit/debt assumption. So, rather than allowing aggregate economies to de-lever on their own, central banks and governments are assuming the debts the private sector no longer wants or can afford to carry. This exercise is propping up the appearance of economic growth (NGDP) and low coincident inflation (CPI), and encouraging some capital market investors to leverage their holdings.

Policy-administered inflation on the back of already-levered balance sheets and
zero-bound interest rates is sinking governments and central banks deeper into an irreconcilable compounding debt trap that must end either in nominal insolvencies or in significant currency devaluations (a currency default in real terms). As discussed, it seems a far better bet to side with the latter outcome, which would ensure the loss of significant purchasing power for savers of those currencies and for investors in many levered financial assets denominated in them.

The public debate in which most investors, policy makers, academics, and virtually all media seem to be engaging is off-point and should be scrutinized intensely by true value investors. Their accounting identities are all wrong. Balance sheet growth is not sustainable prosperity or even a viable form of economic cyclicality. Opportunity lies in fading this consensus.

Owning Production

Public equity valuations will always be debated, as they are being debated now. Today, however, unlike any time in memory, investing one's current purchasing power based on a metric of relative nominal valuations, compared to history or to each other, seems a fool's errand. Their valuations and returns are being judged without regard for the purchasing power of the currencies in which they are denominated at a time when all monetary authorities must cheapen their currencies.

The equity market play is for market sponsorship to rotate from reliably leverage-able shares to sustainable businesses that have not relied on leveraging their capital structures or on investors to leverage theirs. Many publicly traded businesses have cut costs meaningfully and have issued debt to buy back shares, further levering their balance sheets to increase near term earnings. They have effectively reduced the scope of their operations and leveraged their balance sheets. These trends have been rational in the short term but quite irrational looking forward. (Even many good businesses with good growth prospects are priced for perfection and have very little tolerance for operational or macroeconomic surprises.)

To maintain or increase wealth, nominal asset prices must appreciate above the level of dilution of the underlying currency. Speculating on or hedging against fluctuating exchange rates does not address this issue. A relatively strong or weak Dollar, Yen, Sterling, Yuan, Euro, etc. merely gives global businesses and shareholders temporary advantage or disadvantage in terms of mark-to-market flows, not in terms of sustainable wealth (unless those flows are subsequently converted to unencumbered capital).

 

A business that produces in a cheap currency and exports for consumption in a stronger one shows higher revenues and earnings in its home currency. The employees of that business are paid and can consume in their cheap currency, as long as they consume at home. All's well if they do not travel abroad and if the domestic prices of the goods and services they consume are not impacted by the rising global cost structure the cheap currency strategy produces (so all's not well, beyond the initial stimulus).

Beggar-thy-neighbor currency wars can be good politics and good for management bonuses and correctly speculating traders, but they are poison for savers and investors seeking wealth creation. Investors that own shares denominated in weakening currencies are implicitly betting on stable or increasing earnings AND a stable or increasing currency relative to the global cost of goods and services. Those investors expecting to use their profits for future consumption must convert their shares back to stronger currencies or hope their costs-of-living do not rise with global price inflation, sure to follow.

As implied above, when it comes to production and currencies there is one critical issue often overlooked by investors and economists: aggregate demand for goods and services does not by itself drive production, consumption and the general price level. Rather, aggregate demand in relation to the supply and demand for money and credit determines production, consumption and the GPL.

Most political economists of the current era seem to assume that global production costs and the price of global resources will not rise with their intrinsic values, even as currencies are being diluted. I believe they are wrong, and long history would endorse that belief. This argument is also supported by logic. Ask yourself this: why don't all central banks simply triple the quantity of their currencies tomorrow so that global economies can boom?

The answer is because real economics matter and real economies run on value and incentives, not on price management. While tripling the quantity of money would ostensibly triple NGDP and the price level for both consumers and producers, the intrinsic value of resources and production would not change.

Tripling the money stock would, however, diminish the burden of repaying debt obligations, which is why we should continue to expect significantly increasing monetary inflation, suddenly increasing price inflation (which might even be promoted by monetary authorities), and purchasing power dilution among all currencies. It seems clear that the likely outcome is a systemic default on systemic debt in real terms so that nominal defaults can be avoided. Inflation has always been the political solution throughout history, and current trends and logic support its future endorsement.

In the end, purchasing power wealth is controlled by those that produce and by those that fund production. Ownership in scarce resources and in capital producing businesses around the world must maintain their purchasing power value regardless of which currencies they are denominated in or how many monetary units it takes to own them.

And so it is apparent today that claims on demand-inelastic global resources and production are the ultimate sovereign currency, regardless of their provenance. That's where we think substantial alpha in the equity markets resides today.


     < /td>



via Zero Hedge http://feedproxy.google.com/~r/zerohedge/feed/~3/VxzeoUswpAQ/story01.htm Tyler Durden

Paul Brodsky: “The Fed Is Holding A Burning Match”

The Fed will have to increase QE (not taper it) because systemic debt is compounding faster than production and interest rates are already zero-bound. Lee Quaintance noted many years ago that the Fed was holding a burning match. This remains true today (only it is a bomb with a short fuse). Thirteen years after the over-levered US equity market collapsed, eleven years following Bernanke’s speech, five years after the over-levered housing bubble burst, and four years into the necessary onset of global Zero Interest Rate Policies and Long-Term Refinancing Operations, global monetary authorities seem to have run out of new outlets for credit. In real economic terms, central bank policies have become ineffective. In other words, the US is now producing as much new debt as goods and services.

Sovereign Shares

Via Paul Brodsky or Kopernik Global Investors,

A few years ago, the smart people at Pimco coined the term "new normal" to help describe the increasingly obvious need for ongoing unconventional economic policy directives in over-leveraged, finance-based economies, and the impact on global production they would have. The Firm later helped promote the concept of a "stable disequilibrium" – a tenuous economic state that, if left in place too long, could lead to deteriorating and wholly a-cyclical economic consequences. This past August, Pimco's Mohamed El-Erian seemed to publicly join his colleague, Bill Gross, in conceding the new normal had further morphed into a state in which global economies and policy makers are going to have to come face to face with the sources of this disequilibria.

In this report, I will narrow this reconciliation theme to what I see as the base source of our increasingly not-so-stable disequilibrium – unsustainable global price levels – and then take a logical next step to make the case for where global wealth will flow – towards direct ownership in resources and the corporate capital structures of businesses with sustainable pricing power.

My conclusion: claims on production and demand-inelastic global resources are now the ultimate sovereign currency, regardless of their provenance, and this is where substantial alpha resides in today's equity markets.

Uneconomic Credit & Monetary Policies

Economies are meant to be naturally-functioning processes that organize societies (think efficient allocation of resources), and financial markets are supposed to exist to help form, distribute and price capital. Today, however, it seems clear that externalities are distorting these functions. Aggressive economic policy interventions are disrupting basic commercial incentives to consume and invest. While such exogenous inputs have greatly influenced such incentives for decades, they seem to be quickly losing their efficacy, as they would ultimately have to in the latter stages of their aggressive applications.

The fundamental disconnect today is unnatural clearing levels — prices of goods, services and assets that do not reflect societies' sustainable needs, wants and preferences.

If left to an economy's natural functioning, goods and service price levels would fall over time as input prices fall, which would occur naturally as the rate of innovation and productivity outpaces population growth. However, a falling general price level is unacceptable to policy makers in finance-based economies where ever-rising prices are needed to service and collateralize ever-increasing debt levels. So, global monetary authorities have sought "price stability," which in practice implies the need for

constant price inflation to offset what would otherwise be naturally-occurring price deflation. Indeed, "price stability" has become a bipartisan, socially acceptable euphemism for consistent policy- administered credit and price inflation — functionally the diminution of a currency's purchasing power.

The graph below of US CPI shows clearly the secular price-inflationary policy of the Fed, and, given the US Dollar's role as the world's reserve currency off which all global resources and currencies are valued and exchanged, the tacit inflationary policy of all global monetary authorities. (I used 1983 as a starting point because it eliminates very high 1970s inflation and marks the beginning of the era of significant financial asset leveraging.)

 

Implicit in the consistently rising slope of CPI inflation on the graph, the purchasing power of $1.00 has declined by about 59% since 1983. To be clear, this means that one who saved a dollar truly RISK-FREE (i.e., under the mattress) over the last thirty years would have about forty-one cents of her original purchasing power today. Most contemporary economists would argue that such analysis is incomplete and misleading because savers have mostly lent their money and received interest on their savings in excess of their purchasing power loss. This is true, but also misleading and incomplete.

Since 1983, implied yields on twelve-month US T-bills have averaged about 5.00% while US CPI has averaged about 2.9%. This suggests a positive average annual real return of about 2.1%. Keeping our logic constant then, the purchasing power of $1.00 invested in T-bills in 1983 and rolled-over every year would have grown to about $1.87 — an overall positive real return on one-year T-bills.

But consider this: T-bills over the last thirty years were never risk-free in aggregate, when adjusted for the inevitable need to reduce the Dollar's purchasing power. The positive gains were gamed from issuing claims on money that did not yet exist in the system. Had there been no exogenous monetary authority willing and able to manage USD credit pricing, it is likely the market would have set real returns on government issued obligations either far higher, as the US Treasury ran up significant deficits, or, less likely, far lower as Treasury would not have been able to run up deficits in the first place. So, the positive real return of "risk-free assets" over the last thirty years was in fact the result of a speculation that had to ultimately end and be reversed — if not nominally then in real terms (i.e., currency devaluation).

Secular Economic Leveraging, De-constructed

Implicit in the ability of virtually everyone in society to have received a positive real return on the money they loaned "risk-free" to the US Treasury, as appeared to occur from the early eighties to very recently, was a false reality based on the misperception that lending generally creates capital — the means for sustainable economic expansion, and that the loans created would ultimately be extinguished. Sustainable capital formation is not complete until the credit and debt created are retired and only the capital remains. As we know, systemic debt has become the economic equivalent of a bad houseguest.

Each dollar loaned by savers demands a dollar of production on the other side, plus production growth equal at least to the interest rate received. This is needed so that the borrower can service and repay the loan. Otherwise, the dollar's PURCHASING POWER cannot be returned to the lender.

For most of the last thirty years, global policy makers overseeing bank credit, led by the Fed, have generally maintained easy credit conditions. (We know this simply because aggregate credit has risen consistently.) Easy credit was accomplished by keeping real returns to "savers" (in the form of interest rates) higher than the potential increase in sustainable real economic production derived from those savers' loans (to banks as deposits or directly to borrowers through asset-backed securities markets). Think of it this way: the real return on bank deposits and ABS has been consistently higher than the sustainable (debt-adjusted) real return on the collateral they funded. Savers had incentive to lend.

And so secularly easy credit policies served to expand nominal production at the expense of maintaining the sustainable purchasing power of all established major currencies. Securitized market debt created over the last thirty years remains and has been collateralized by asset values that, in turn, rely upon ever- growing further dilution of the very currencies in which they are denominated. Meanwhile, loans to global banks (i.e., deposits and central bank loans) have been woefully unreserved with base money.

At some point, the credit markets would have to seize, and they effectively have. The Fed has become the rate setter for benchmark "risk-free" global interest rates. It is de-levering American banks directly by creating reserves and backstopping foreign banks by promising necessary swap facilities.

Meanwhile, there has been a general misperception that zero-bound short-term interest rates have been promoted by the Fed as economic stimulus. As we have seen, however, Quantitative Easing has had little bearing on production because it helps only institutions not directly productive. Banks produce little, if any, capital directly. Creating new bank reserves for very fractionally-reserved banks only serves to de?

lever their balance sheets. QE also helps fund the US government, which is not directly productive either. Government revenues are derived mostly from taxes on production of the private sector.

Balance sheets of the productive non-financial private sector are not being de-levered by any external body creating new base money. If they are to be de-levered it must be the result of pure economic reasoning — debt-to-asset and/or debt-to-income levels are too high. Indeed, the factors of production have been de-levering, which tells us there remains no commercial incentive (profit-oriented motivation) to borrow. Why? It must be because assets are not cheap enough and potential income from borrowing is not high enough in real terms.

Meanwhile, nominal asset prices are generally rising in over-levered economies where capital production is suffering. Again, consider credit. Zero-bound interest rates imply little, if any, future upside for the value of credit, which in turn provides little prospect of beneficially refinancing debt that collateralizes assets. This implies that asset values must increase in real terms looking forward or else owning them would destroy wealth. Yet, positive real returns for most levered assets are unavailable today as the rate of currency dilution exceeds the rate of production growth. In this environment, the numeraire that defines asset prices and the general price level is unimportant; real value is the thing.

Unencumbered assets are generally more apt to hold their purchasing power value, as are businesses that provide goods and services to customers that do not have to borrow to spend. The currency-adjusted real values of most leveraged assets and sustainably productive assets are not accurately reflected in their relative nominal price levels currently. The former is far too high relative to the latter. It is reasonable to expect savers and investors to begin recognizing how and where wealth must be stored looking forward — in sustainable resources and businesses with sustainable pricing power. Judging by the popular composition of asset sponsorship currently, this thesis requires a change in popular sentiment, the timing of which is difficult to anticipate. However, I see timing as the only risk because a significant change in popular sentiment only has to follow already well-established macroeconomic trends. Fundamentally, it is a case of information arbitrage.

Visualizing the Current Opportunity Set

It is becoming increasingly obvious to a growing number of observers (albeit still a small bunch) that real output — currency inflation-adjusted GDP — cannot be pulled forward through further credit or currency creation. As noted, one who saved for most of the last thirty years by lending to a treasury, municipality, bank (in the form of a deposit), corporation, or to another private borrower (e.g. to a home buyer through the MBS market), would have received a higher rate of interest than the loss of purchasing power of her dollar — a positive real (inflation-adjusted) return. What many savers continuing to make such loans seem to not understand, however, is that by continuing to lend to governments, private borrowers, banks, etc. they are locking-in the likelihood that they will not be repaid with equal purchasing power.

The only market participants with a rational reason to own sovereign or tertiary debt with negative real return profiles today are levered entities able to make a positive nominal spread on their holdings. Banks and other entities that can borrow ten- or twenty-times their equity and take-out 0.25% per bond, and that do not care (or are not forced to care) about the purchasing power of any of the bonds in their arbitrage, have no structural incentive to complain about negative real rates (let alone sell their bonds). What is rational for them is not rational for most savers and investors.

 

The graph above tells an interesting story. Nominal GDP ("NGDP") represents US production growth; Total Credit Market Debt represents the growth of systemic USD-denominated debt; and USD base month growth (USD currency in float and bank reserves supporting systemic USD credit) represents the monetary denominator off which systemic credit and debt exist. In short, the graph shows past and current systemic USD leverage.

The takeaway is that the high line (public credit/debt) is ultimately supported by the integrity of the low line (actual money), while policy makers are wondering how to maintain the trajectory of the middle line (so that the high line does not collapse or they do not have to suddenly create boatloads more base money, which would make the low line rise parabolically). The leverage portrayed here is the basis for the warped general price level, which in turn is the basis for global economic disequilibrium.

To be fair, unlike the "unreserved credit" in the fractionally reserved banking system, much of the credit supporting the high line on the graph is actually collateralized by private sector assets. However, to be even more fair (s), reconciling this debt would require asset sales. To whom would we sell them to maintain their market values and the value of our debt and collateral: each other?

Needless to say, widespread asset liquidation to service and repay outstanding debt, which would drive down asset prices to reflect their un-levered (currency-adjusted) sustainable values, would be a very sub­optimal social, economic and political occurrence. The good news is that, unlike the 1930s, it is an occurrence that need not occur given the ability of monetary authorities in the current (forty year-old)

regime to create infinite base money for all debtors (not just banks). So, it seems reasonable to expect fiscal and monetary authorities with direct access to a printing press to choose inflation over austerity.

And they are. Core Europe can impose austerity on indebted peripherals because, by controlling the ECB's printing press, they control the quantity of Euros. Would American and Japanese politicians and monetary authorities really impose hardship on their own populations when they can drop their currencies from proverbial helicopters? Not according to Chairman Bernanke who publicly put forth central bank orthodoxy in 2002 when, as a Fed Governor, he famously noted:

"The U.S. government has a technology, called a printing press (or, today, its electronic equivalent), that allows it to produce as many U.S. dollars as it wishes at essentially no cost. By increasing the number of U.S. dollars in circulation, or even by credibly threatening to do so, the U.S. government can also reduce the value of a dollar in terms of goods and services, which is equivalent to raising the prices in dollars of those goods and services. We conclude that, under a paper-money system, a determined government can always generate higher spending and hence positive inflation."'

Flash forward to today: Japan is overtly destroying the purchasing power of the Yen to target NOMINAL GDP. Meanwhile, Washington is increasing public spending and attendant debt ceilings, and forcing the Fed to continue QE so government can continue subsidizing diminishing economic incentives in the private sector. The point here is that we have a very well-established roadmap and a very well-established inflation trend and yet the public does not seem to get it yet. There is a popular misunderstanding that the great majority of savings and investments are collateralized in currencies that are not being diluted and do not have to be greatly diluted in the future.

The Fed will have to increase QE (not taper it) because systemic debt is compounding faster than  production and interest rates are already zero-bound. My colleague, Lee Quaintance, noted many years ago that the Fed was holding a burning match. This remains true today (only it is a bomb with a short fuse). Thirteen years after the over-levered US equity market collapsed, eleven years following Bernanke's speech, five years after the over-levered housing bubble burst, and four years into the necessary onset of global Zero Interest Rate Policies and Long-Term Refinancing Operations, global monetary authorities seem to have run out of new outlets for credit.

In real economic terms, central bank policies have become ineffective. The graph below divides two lines on the graph above, Total USD Public Credit by US nominal GDP. The high plateau to the right suggests that ever-increasing credit growth is struggling to maintain economic production. In other words, the US is now producing as much new debt as goods and services.

 

The elephant in the room is that while economic policies that target rising nominal GDP may make it easier to service outstanding debt (if NGDP rises from demand growth rather than price inflation), they do not make it easier to repay that debt. Indeed, NGDP growth is mildly positive today while real economic activity, as seen through money velocity (below), is plummeting.

 

By increasing bank reserves through QE, the Fed has been de-levering the formerly almost completely unreserved stock of USD checkbook money (M1, M2, M3) — now about 8:1 checkbook money-to-bank reserves. This is better collateralizing bank assets (i.e., loan books), and that's it. It is not directly economically stimulative.

Perhaps more troubling than the obvious dearth of credit money to feed contemporaneous economic activity is the erroneous perception among most influential economists and policy makers that all is well as long as debt is kept low in relation to an economy's output. Such analysis mixes accounting identities and produces a too-sanguine conclusion. Debt obligations are first claims on checkbook money, which in turn are ultimately claims on base money (bank reserves and currency in float). Debt obligations are not claims on widgets. And so while Debt-to-GDP charts like the one below are often cited by policy makers when analyzing economic sustainability, they miss the point entirely.

 

Beyond confusing accounting identities (a debt is formally a claim on currency rather than a claim on production), Debt-to-GDP ratios also tend to count only federal debt (not including off-balance sheet obligations). Relying on debt-to-GDP metrics demonstrates more concern with the viability of government balance sheets and future government spending than with private sector investment in plant, equipment and labor.

Whether readers believe in big government, small government, efficient government or no government, we should all agree that self-important governments, government economists, and most academic economists trained to comply with government economic policy are ignoring the most basic principle of economics: economies naturally economize.

Within this context, declining rates of private sector investment make sense currently in finance-based economies where businesses and households have natural incentives to husband resources and reduce outlays — to de-lever their balance sheets. It is impossible to de-lever a balance sheet without either increasing assets or decreasing debts. Where is the incentive to take risk, to re-lever and expand? In other words, the productive economy is risk-off. There is diminishing incentive to produce.

Meanwhile, the financial economy is risk-on. The S&P 500 has added $4 trillion of market cap this year on the back of corporate and margin debt. As the graph below shows, the stock market seems to be the chosen outlet for the bank multiplier effect — using bank reserves to collateralize new loans. (This clearly explains widening wealth and income gaps in an environment of widespread malaise.) The takeaway here is that real, currency-adjusted value within the stock market is being overlooked as indexes rise in nominal terms.

 

As many have noted (e.g., Churchill. Eban), people and nations tend to find the right path after they exhaust all others. Policy makers and ne'er do well economists are still trying to find solutions to increase nominal aggregate demand that would justify the risk-on financial economy. However, even if they succeed in increasing NGDP, they will likely fail in pulling the global economy out of its current disequilibrium. Policy makers cannot (and will not be able to) find a solution that increases aggregate real demand and real output because their toolbox has been reduced to printing presses and carefully parsed communications; neither of which provide the factors of production incentive to produce more.

The US and other highly-levered economies cannot grow out of the leverage problems stifling production unless they do so without incurring new debt, and there is no obvious new capital forming outlet for further credit/debt assumption. So, rather than allowing aggregate economies to de-lever on their own, central banks and governments are assuming the debts the private sector no longer wants or can afford to carry. This exercise is propping up the appearance of economic growth (NGDP) and low coincident inflation (CPI), and encouraging some capital market investors to leverage their holdings.

Policy-administered inflation on the back of already-levered balance sheets and zero-bound interest rates is sinking governments and central banks deeper into an irreconcilable compounding debt trap that must end either in nominal insolvencies or in significant currency devaluations (a currency default in real terms). As discussed, it seems a far better bet to side with the latter outcome, which would ensure the loss of significant purchasing power for savers of those currencies and for investors in many levered financial assets denominated in them.

The public debate in which most investors, policy makers, academics, and virtually all media seem to be engaging is off-point and should be scrutinized intensely by true value investors. Their accounting identities are all wrong. Balance sheet growth is not sustainable prosperity or even a viable form of economic cyclicality. Opportunity lies in fading this consensus.

Owning Production

Public equity valuations will always be debated, as they are being debated now. Today, however, unlike any time in memory, investing one's current purchasing power based on a metric of relative nominal valuations, compared to history or to each other, seems a fool's errand. Their valuations and returns are being judged without regard for the purchasing power of the currencies in which they are denominated at a time when all monetary authorities must cheapen their currencies.

The equity market play is for market sponsorship to rotate from reliably leverage-able shares to sustainable businesses that have not relied on leveraging their capital structures or on investors to leverage theirs. Many publicly traded businesses have cut costs meaningfully and have issued debt to buy back shares, further levering their balance sheets to increase near term earnings. They have effectively reduced the scope of their operations and leveraged their balance sheets. These trends have been rational in the short term but quite irrational looking forward. (Even many good businesses with good growth prospects are priced for perfection and have very little tolerance for operational or macroeconomic surprises.)

To maintain or increase wealth, nominal asset prices must appreciate above the level of dilution of the underlying currency. Speculating on or hedging against fluctuating exchange rates does not address this issue. A relatively strong or weak Dollar, Yen, Sterling, Yuan, Euro, etc. merely gives global businesses and shareholders temporary advantage or disadvantage in terms of mark-to-market flows, not in terms of sustainable wealth (unless those flows are subsequently converted to unencumbered capital).

 

A business that produces in a cheap currency and exports for consumption in a stronger one shows higher revenues and earnings in its home currency. The employees of that business are paid and can consume in their cheap currency, as long as they consume at home. All's well if they do not travel abroad and if the domestic prices of the goods and services they consume are not impacted by the rising global cost structure the cheap currency strategy produces (so all's not well, beyond the initial stimulus).

Beggar-thy-neighbor currency wars can be good politics and good for management bonuses and correctly speculating traders, but they are poison for savers and investors seeking wealth creation. Investors that own shares denominated in weakening currencies are implicitly betting on stable or increasing earnings AND a stable or increasing currency relative to the global cost of goods and services. Those investors expecting to use their profits for future consumption must convert their shares back to stronger currencies or hope their costs-of-living do not rise with global price inflation, sure to follow.

As implied above, when it comes to production and currencies there is one critical issue often overlooked by investors and economists: aggregate demand for goods and services does not by itself drive production, consumption and the general price level. Rather, aggregate demand in relation to the supply and demand for money and credit determines production, consumption and the GPL.

Most political economists of the current era seem to assume that global production costs and the price of global resources will not rise with their intrinsic values, even as currencies are being diluted. I believe they are wrong, and long history would endorse that belief. This argument is also supported by logic. Ask yourself this: why don't all central banks simply triple the quantity of their currencies tomorrow so that global economies can boom?

The answer is because real economics matter and real economies run on value and incentives, not on price management. While tripling the quantity of money would ostensibly triple NGDP and the price level for both consumers and producers, the intrinsic value of resources and production would not change.

Tripling the money stock would, however, diminish the burden of repaying debt obligations, which is why we should continue to expect significantly increasing monetary inflation, suddenly increasing price inflation (which might even be promoted by monetary authorities), and purchasing power dilution among all currencies. It seems clear that the likely outcome is a systemic default on systemic debt in real terms so that nominal defaults can be avoided. Inflation has always been the political solution throughout history, and current trends and logic support its future endorsement.

In the end, purchasing power wealth is controlled by those that produce and by those that fund production. Ownership in scarce resources and in capital producing businesses around the world must maintain their purchasing power value regardless of which currencies they are denominated in or how many monetary units it takes to own them.

And so it is apparent today that claims on demand-inelastic global resources and production are the ultimate sovereign currency, regardless of their provenance. That's where we think substantial alpha in the equity markets resides today.


    



via Zero Hedge http://feedproxy.google.com/~r/zerohedge/feed/~3/VxzeoUswpAQ/story01.htm Tyler Durden

The "Oh Crap" Moment For Housing Is Now In The Can

Real estate guru Mark Hanson updates his housing view following this week’s dismal housing industry data: 

  • Sept. Pending Sales… the largest MoM drop since Sept 2001… not 2011… yes, 2001.

Don’t let them tell you ‘this is normal for Sept’. The ‘oh-crap’ moment is now in the can. Going forward, “Existing Sales” volume will disappoint on a YoY basis for several quarters. There is no way around it…

 

Fool me once, shame on you; fool me twice, shame on me; fool me thrice, shame on the Fed…

 

Via Mark Hanson,

Existing Sales is terribly backward looking and you can’t change history no matter how hard certain parties try.

‘House Prices’ have already fallen sharply post-surge and continue to weaken — prices are set at contract but not recorded until “closing” — simply awaiting printing by lagging surveys.

Contrary to ‘New’ Home Sales, Existing Sales are where the Fed’s go-go juice really showed up thanks to the Twist/QE 3, 4 increase in “purchasing power” beginning in Q4 2011 and the new-era “investor” rush to market in mid-2012. This is evident in the demand divergence between the two series. As such, the “post-surge” housing market “demand collapse” will be much more evident in this series than it was by the 27% MoM drop in New Home Sales in July. 

In short, over the next few months we will see the two series quickly “converge” — Existing Sales weaken considerably to be more in-line with the weak builder demand — reflecting conditions more akin to the “hangover” period following the sunset of the Homebuyer Tax Credit

Along with this comes lower YoY Existing and New Sales volume along with down trending MoM house prices as far out as July 2014, at which point house prices have a good shot at being negative YoY as well.

Sept Pending Home Sales Low-lights

1) US Pendings Fell 21.1% MoM on an NSA basis (down more not including last month’s revision), the most on record for any Sept since Sept 2001…that’s a terrible period to comp against. 

2) On a YoY basis Pendings were down 4.3% on a daily basis (Sept 2013 had 1 extra business day YoY). And remember, in Sept demand was still being pulled forward due to rates and fear of Gov’t shutdown.

3) Levels of Sept Pendings virtually ensure Oct through April Existing Sales” are lower YoY. A year ago volume outperformed (muted seasonality) in winter & spring, as new-era “investors” all dove in at the same time. This year the market will underperform (heavier than normal seasonality) due to the stimulus “hangover”. This delta will produce meaningful YoY Existing Sales declines especially through April 2014.

4) Leading indicating Western region absolute Pending Sales lowest since 2007. 

5) Heavily weighted, leading-indicating Northeast & West Sept Pendings down 31% & 20% MoM NSA respectively, also 12-year record drops.

6) YoY, Northeast & West Pendings down YoY by 3.1% and 5.2% respectively…the first YoY drop since after the 2010 sunset of the Homebuyer Tax Credit.

7) MoM, Sept national Pendings dropped 54% and 40% more than the 10-year average and post housing market crash avg Sept respective seasonal drops.

**note, items 5 & 6 were straight from NAR and not normalized for more business days this Sept than last. In short, the YoY drop is larger than reflected in 5 & 6.


    



via Zero Hedge http://feedproxy.google.com/~r/zerohedge/feed/~3/pEjnFO5MFc8/story01.htm Tyler Durden

The “Oh Crap” Moment For Housing Is Now In The Can

Real estate guru Mark Hanson updates his housing view following this week’s dismal housing industry data: 

  • Sept. Pending Sales… the largest MoM drop since Sept 2001… not 2011… yes, 2001.

Don’t let them tell you ‘this is normal for Sept’. The ‘oh-crap’ moment is now in the can. Going forward, “Existing Sales” volume will disappoint on a YoY basis for several quarters. There is no way around it…

 

Fool me once, shame on you; fool me twice, shame on me; fool me thrice, shame on the Fed…

 

Via Mark Hanson,

Existing Sales is terribly backward looking and you can’t change history no matter how hard certain parties try.

‘House Prices’ have already fallen sharply post-surge and continue to weaken — prices are set at contract but not recorded until “closing” — simply awaiting printing by lagging surveys.

Contrary to ‘New’ Home Sales, Existing Sales are where the Fed’s go-go juice really showed up thanks to the Twist/QE 3, 4 increase in “purchasing power” beginning in Q4 2011 and the new-era “investor” rush to market in mid-2012. This is evident in the demand divergence between the two series. As such, the “post-surge” housing market “demand collapse” will be much more evident in this series than it was by the 27% MoM drop in New Home Sales in July. 

In short, over the next few months we will see the two series quickly “converge” — Existing Sales weaken considerably to be more in-line with the weak builder demand — reflecting conditions more akin to the “hangover” period following the sunset of the Homebuyer Tax Credit

Along with this comes lower YoY Existing and New Sales volume along with down trending MoM house prices as far out as July 2014, at which point house prices have a good shot at being negative YoY as well.

Sept Pending Home Sales Low-lights

1) US Pendings Fell 21.1% MoM on an NSA basis (down more not including last month’s revision), the most on record for any Sept since Sept 2001…that’s a terrible period to comp against. 

2) On a YoY basis Pendings were down 4.3% on a daily basis (Sept 2013 had 1 extra business day YoY). And remember, in Sept demand was still being pulled forward due to rates and fear of Gov’t shutdown.

3) Levels of Sept Pendings virtually ensure Oct through April Existing Sales” are lower YoY. A year ago volume outperformed (muted seasonality) in winter & spring, as new-era “investors” all dove in at the same time. This year the market will underperform (heavier than normal seasonality) due to the stimulus “hangover”. This delta will produce meaningful YoY Existing Sales declines especially through April 2014.

4) Leading indicating Western region absolute Pending Sales lowest since 2007. 

5) Heavily weighted, leading-indicating Northeast & West Sept Pendings down 31% & 20% MoM NSA respectively, also 12-year record drops.

6) YoY, Northeast & West Pendings down YoY by 3.1% and 5.2% respectively…the first YoY drop since after the 2010 sunset of the Homebuyer Tax Credit.

7) MoM, Sept national Pendings dropped 54% and 40% more than the 10-year average and post housing market crash avg Sept respective seasonal drops.

**note, items 5 & 6 were straight from NAR and not normalized for more business days this Sept than last. In short, the YoY drop is larger than reflected in 5 & 6.


    



via Zero Hedge http://feedproxy.google.com/~r/zerohedge/feed/~3/pEjnFO5MFc8/story01.htm Tyler Durden

Indian Inflation: Out of Control?

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While some harp on about the growing dangers of yet another housing bubble in the western world, there are other more important things perhaps that are going on in other countries in the world. But, they are of little interest since we are not directly concerned by them. How is it that we only care about what’s actually happening in the back yard while someone round the block might be doing something or on the receiving end of something pretty bad and yet we don’t give a damn about what happens to them? While we are concerned with our bubbles, there are people in India that are suffering from the rise in prices that is drastically changing the way they live.

Over the past year inflation has been driven up by food prices. In September alone food prices were at their highest level for the past seven months and it seems that India is now going through the worst financial crisis that it has ever experienced since 1991.

  • The Indian wholesale price index (WPI) rose by 6.46% in September.
  • This was largely due to the fact that food prices have increased beyond control.
  • Since the start of this year onions have increased by 322%, for example.
  • Food prices have increased by an annual rate of 18.4% so far according to data released by the Indian government on Monday this week.

Food prices have been increasing due to supply shortages in India which were brought about to climatic conditions and rain. Today the price of a kilogram of onions amounts to 75 rupees today (or $1.22). One third of the Indian population still earns less than $1.25 per day in the country and that means that buying basic foodstuffs is pretty much out of their price range today. Food prices have hit the political agenda as a result and have been made a key issue in the run-up to the general elections that are going to take place within the next 7-month period.

Food Inflation in India

Food Inflation in India

Traders and shop owners are reaping the rewards of a rapid rise in prices today. But, the shopkeepers will not be able to keep hiking prices to recoup on the price increases as the people will run out of money. The real people are at the short end of the stick and suffering from the consequences of the hike that is almost daily now.

India is not the only one suffering from high inflation today in the world. Other emerging countries have also recently seen highs in their own rates. China had a consumer-inflation rate that hit3.1% in September. That was also the highest it had been for the past seven months. Food prices in China have increased by6.1% so far this year. However, in comparison with Indian data, that seems as if it is insignificant.

  • India is having immense difficulty increasing economic growth in the country and it has a 5%-growth rate that hasn’t been seen for the past decade.
  • The rupee has already hit lows that have rarely been seen before (it has lost 10% since the start of the year against the dollar) and inflation looks as if it will be fuelled by the interest rates that have been increased by theReserve Bank of India.
  • There has been a general outflow of capital from India since the start of this year due to the slow-down in the economy.
  • Inflation stood at 2.1% in September for India and it’s that which is the most worrying element perhaps today (at least for the population).

While India has problems with its economy and price stability, it’s the people that will be suffering the most. When food prices increase and they get out of control, it’s the third of the population that is living with just over a dollar a day that will have trouble making ends meet more than they already did in the past.

Originally posted: Indian Inflation: Out of Control?

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via Zero Hedge http://feedproxy.google.com/~r/zerohedge/feed/~3/Im1dVrndkFE/story01.htm Pivotfarm