03/13/2015 07:56 PM


Power Struggle in Brussels and Berlin over Fate of Greece


Photo Gallery: The Fate of Greece

European Commission President Juncker wants to keep Greece in the euro zone, no matter what the price. Member states, though, are beginning to lose their patience. Who will ultimately have the final say?

Jean-Claude Juncker understands the importance of symbols in politics. When he became president of the European Commission last fall, he surprised the political powers that be in Brussels with a mini-coup. One of the privileges reserved for the new head of the European Union executive is that of promoting a close confidant to be his spokesman. After all, the position of spokesman is crucial for ensuring that the Commission president is seen in a positive light.

But Juncker tapped a man named Margaritis Schinas, a 52-year-old lawyer from Thessaloniki who had until that moment been just another in the unremarkable army of bureaucrats that walk the Commission halls in Brussels. Even today, Schinas remains astonished at his huge promotion. What made him, a rather reserved bureaucrat, qualified to explain the daily work of the Commission to journalists from around Europe and the world? But for Juncker, the gesture was the important thing. He wanted to show that oft-reviled Greece was a crucial part of the European Union.

It was a farsighted decision, that much can be said today. In Brussels, the endgame over Greece's continued euro-zone membership has begun. Greek Prime Minister Alexis Tsipras is trapped between his campaign promise to put an end to EU-imposed austerity and his rapidly emptying state coffers.

Meanwhile, his government's tone has become increasingly shrill. Most recently, Justice Minister Nikos Paraskevopoulos threatened to auction off the Goethe Institute in Athens in accordance with his government's demands for World War II reparations from Germany. And this Thursday, the Greek government lodged an official complaint with Berlin, accusing Finance Minister Wolfgang Schäuble of insulting his Greek counterpart.

Acts of Desperation

They are acts of desperation. In recent weeks, the European Central Bank once again tightened the thumbscrews on Athens and is only approving small amounts of money at a time. At ECB headquarters in Frankfurt, officials have begun speaking more or less openly about the looming Grexit.

Now, Juncker has become Tsipras' last hope. Last week, the Commission president made clear that Greece's departure from the euro zone is out of the question. "The European Commission's position is that there will be no Grexit," he said in an interview with the German weekly Welt am Sonntag.

On Friday, prior to a meeting with Tsipras in Brussels and in the context of Greece's possible departure from the common currency union, Juncker said, "I am totally excluding failure."

The comment pleased Tsipras, who said later he was "optimistic," because he was discussing Greece's future with good friends. The politicians then agreed during a two-hour meeting that the government in Athens would appoint a high-ranking politician to handle the coordination of Greece's cooperation with the European Commission.

The Greek government also wants to set up a task force of its own to serve as a partner to a similar body on the Commission, which has been providing development aid to Greece for several years now. "The moment has come -- parallel to the Euro Group process, we have to establish this track to help with jobs and growth in Greece," Juncker spokesman Schinas later said, describing the goals of this cooperation after the meeting.

As such, the Greece crisis has moved beyond being merely a poker game with billions at stake.

It has now become a question of who holds power in Brussels. The Commission president isn't the only one leading negotiations with Greece. The Euro Group, under the leadership of Dutch Finance Minister Jeroen Dijsselbloem, is instrumental in the talks too. And in the end, German Chancellor Angela Merkel will also have a decisive word to say. Germany, after all, is Greece's largest creditor, with €63 billion having been loaned to Athens thus far. Publicly, however, Juncker has presented himself as being master of the common currency.

Protecting His Reputation

Political leaders in Berlin understood Juncker's words just as he meant them: as a challenge. Merkel too, to be sure, would like to prevent Greece from leaving the euro zone. She is concerned about the chaos that would ensue in Greece -- and from a practical perspective, a Grexit would mean that Germany would have to write down the billions it has loaned Athens for good.

Merkel, though, sees Juncker's categorical promises as undermining efforts to force the Greek government to see reason. Merkel's advisors in the Chancellery are wondering how it is possible to take a tough negotiating stance with Tsipras when the most severe penalty has been ruled out by the Commission president. But Merkel's team suspects that Juncker also may be trying to protect his own reputation: Should Greece ultimately be forced out of the euro zone, it would be clear to all that Merkel, rather than Juncker, is to blame.

The relationship between the two is so tense that it is hard to miss during joint appearances they make. During Merkel's visit to Brussels last week, Juncker gushed that it was "a delight, a pleasure and an honor" to welcome the chancellor. He said he didn't understand the "obduracy" of some in the German media who continue to report about alleged disputes between him and the chancellor.

Merkel was so taken aback by Juncker's unctuous charm that she sought refuge in metaphor.

First, she used a German saying, asserting that underscoring her tight bond with Juncker was as superfluous as bringing owls to Athens. But the reference to Greece didn't sound quite right, so she said: "or, as they say in English, refrigerators to the Eskimos." Juncker grinned impishly.

Both know that Greece's fate is in their hands. At first glance, everything seems to currently depend on the European Central Bank and its head Mario Draghi. But both Merkel and Juncker are certain that Draghi will shy away from pushing Greece out of the common currency area. Several months ago, Draghi told the chancellor that such a decision had to be made by politicians and not by a central banker.

Stricter Guidelines

That, though, hasn't prevented Draghi from continually increasing the pressure on Greece. Athens is only able to keep its head above water at the moment because Greece's central bank, the Bank of Greece, is providing Emergency Liquidity Assistance (ELA) to financial institutions in the country and because euro-zone members have allowed Athens to issue €15 billion worth of short-term T-bills, most of which are bought up by Greek banks.

On Thursday, the ECB only approved ELA aid for another seven days. Previously, approvals have always been made at 14-day intervals. Furthermore, the European banking supervisory body, which is part of the ECB, issued a written warning to Greek banks two weeks ago to avoid taking on additional risk by purchasing the T-bills. Now, the supervisory authority appears ready to issue stricter guidelines to specific banks, which will further intensify the Greek government's predicament. The ECB Governing Council must still authorize this step.

Many in the ECB are aware that they are operating at the very fringes of legality. French Executive Board member Benoît Coeuré issued a public warning a few days ago that the ECB is not allowed to finance the Greek government. Doing so, he said, is illegal. Draghi, said an official in Berlin, "could cut Greece off at any moment." But, the official added, he doesn't dare.

Which means it is up to the politicians to find the way forward. And finding that path has become dependent on the ongoing conflict between Juncker and the EU member states, led by the chancellor.

It has long been apparent that the Commission president wants to prevent a Grexit at all costs, at least since he received the Greek prime minister in Brussels five weeks ago as though welcoming a long lost friend. Two weeks after that, Economic and Financial Affairs Commissioner Pierre Moscovici presented a plan that looked more like a package for growth than like strict requirements for Greece. Greek Finance Minister Yanis Varoufakis had nothing but praise for the paper.

The other Euro Group finance ministers weren't nearly as enthusiastic. In the end, the Moscovici paper proved largely irrelevant, but it had, from Juncker's perspective, had its effect. It was a demonstration of power; he had simply wanted to send a message to Merkel.

Breaking with the Kohl Line

The conflict between Brussels and Berlin is a fundamental one. Juncker is taking the position that Christian Democrats have supported for decades. The European Union, in his view, is the answer to the horrors of the wars that destroyed Europe in the first half of the 20th century -- and the Continent's salvation, he believes, lies in further deepening the ties that bind the European Union together. It is no accident that he presented former German Chancellor Helmut Kohl's book last fall.

The book is called "Out of Concern for Europe," and many have interpreted it as indirect criticism of Merkel's approach to the EU.

Though Merkel is a Christian Democrat herself, she has broken with the Kohl line. For her, Europe is not a matter of war and peace, but of euros and cents. Merkel has used the euro crisis to reduce the European Commission's power and to return some of it to member-state capitals. From this perspective, she could be seen as a 21st century de Gaulle.

Juncker would like to get in her way and the Greece crisis is the instrument that has presented itself. "We have to keep the shop together," Juncker has said repeatedly in background sessions with journalists in recent weeks. This Friday, Juncker received Tsipras in Brussels yet again, with the Greek prime minister also holding talks with European Parliament President Martin Schulz.

Juncker entered office wanting to make the Commission, the European Union's executive body, more powerful and more political -- and thus far, he has been successful. He defanged the European Stability Pact, that German invention that was to prevent euro-zone member states from taking on too much debt. And he has ensured that France's Socialist government receive an additional two years to reduce its budget deficit. Juncker's introduction of the deal with Paris was so deft that Merkel had little choice but to reluctantly approve it.

Now, though, it is Greece's turn and Merkel wants to keep the country in the euro zone. But even if the chancellor has had to make plenty of concessions since the euro crisis began in earnest in 2010, the core of her position has remained unchanged: Those needing aid must agree to reforms. She doesn't intend to be budged from this conviction, neither by Tsipras nor by Juncker.

'Get to Work'

Merkel has plenty of allies at the moment. The finance ministers of the rest of the euro-zone member states have all begun losing patience with Varoufakis and his orations at the frequent Euro Group meetings. German Finance Minister Wolfgang Schäuble has furthermore made clear that he can imagine a euro zone without Greece and has negotiated accordingly.

Not even France or Italy, natural allies to Greece when it comes to the desire for a weaker Stability Pact, are jumping to Athens' aid. Indeed, some euro-zone finance ministers have begun complaining of Varoufakis' vanity. "We told the Greek finance minister that he should stop giving interviews and get to work," says Finnish Finance Minister Antti Rinne.

For many euro-zone governments, the conflict with Greece is also a question of survival. If Tsipras is able to get what he wants, Spain's conservative government is concerned it might lose to the left-wing protest party Podemos in elections at the end of this year.

The Finnish governing coalition, meanwhile, faces elections in April and must defend itself against the anti-EU party True Finns. The right-wing populists believe that the euro-zone is already being too understanding of Greece. As such, Finance Minister Rinne is happy that he can point to guarantees his government negotiated in return for helping Greece. "We don't want a Grexit. But if the country can no longer pay back its loans, we have the securities that we pushed through in 2011 negotiations with Greece and the euro zone," he says. Forty percent of the Finnish loans are guaranteed by bonds issued by countries like France and the Netherlands.

As such, Merkel and Schäuble don't lack for powerful allies in their battle with Juncker. Member states, who guarantee the money made available to Greece, do not want to see the Commission deciding over the fate of their taxpayers' money. "It is easy to be generous with other people's money," said a senior Finance Ministry official in Berlin.

Schäuble believes that Juncker is being far too indulgent of the Greeks. When, for example, Athens once again sought to conflate debt negotiations with the debate over war reparations, Juncker refrained from censure. The issue, he said via a spokesperson, is a "bilateral one."

The Cyprus Model

Merkel's problem is that she can't shove Juncker aside quite as easily as she could his predecessor. José Manuel Barroso was, to be sure, just as indulgent with Greece and even threw his support behind the communalization of EU debt. But when things got serious, he would acquiesce to Merkel in the knowledge that he was only still in office because of the protection provided by the German chancellor.

That is not the case with Juncker. He is the first Commission president to have campaigned as his party's lead candidate in European elections, thus allowing him to claim a modicum of direct democratic legitimation. He also enjoys the support of a majority of the delegates in European Parliament -- and works closely together with the Social Democratic Parliament President Schulz, who likewise wants to prevent a Grexit at any price.

And Juncker is determined to play a role in the Greece negotiations. Partially for that reason, he had his staff speculate about when Athens might need a third bailout package. He only backed down following fierce protests from the Spanish government. Economic and Financial Affairs Commissioner Moscovici said that a third bailout package would only be discussed once the current negotiations over Greece's reform plans are completed.

But will they ever be concluded? Central bankers across Europe are planning for a rapid Greek withdrawal from the euro zone. "In this special situation, governments and parliaments have to decide if they are prepared to further extend their Greece risks," says Jens Weidmann, president of Germany's central bank, the Bundesbank. In other words, if it were up to him, Greece would long since have ceased being a problem. It has also been reported that the Spanish central bank believes that the Grexit will take place sometime in the next several weeks.

The chance that the "risk scenario" -- as the Grexit is occasionally called -- becomes reality is now well over 50 percent, say central bankers. Though the word "risk" is not entirely accurate. Central bankers believe that dangers relating to Greece's exit from the euro zone could be contained. Other debt-laden countries, they point out, are in much better shape than they once were and the ESM euro bailout fund is ready and waiting should it be needed. Furthermore, the ECB's sovereign bond-buying program would soften the blow. Many believe that were Greece to leave the euro behind, the common currency zone would be much more homogenous and stable than it is now.

In the end, though, it is up to the politicians, like Merkel and Juncker. The chancellor is now certain that a "Graccident," or exit-by-accident, is no longer much of a danger. Her advisors have taken a closer look at the Cyprus crisis, which saw the country come within a hair of leaving the euro zone two years ago. At the time, the ECB threatened to cut off emergency aid to Cypriot banks because the country's parliament refused to accept EU austerity demands. Banks had to shut teller windows for several days and impose limits on withdrawals and transfers abroad. But even in such an extreme case, there was still enough time for the political process to run its course. In the end, the Cypriot government gave in during a dramatic nighttime meeting.

Maybe, say some in the German government, Greece needs just such a "shot over its bow."

By Nikolaus Blome, Martin Hesse, Christoph Pauly, René Pfister, Christian Reiermann and Gregor Peter Schmitz

Global finance faces $9 trillion stress test as dollar soars

The world is more dollarized today that any time in history, and therefore at the mercy of the US Federal Reserve as rates rise

By Ambrose Evans-Pritchard

9:29PM GMT 11 Mar 2015

Dollar bills burning in flames
The Fed's zero rates and quantitative easing flooded the emerging world with dollar liquidity in the boom years, overwhelming all defences Photo: Alamy
Sitting on the desks of central bank governors and regulators across the world is a scholarly report that spells out the vertiginous scale of global debt in US dollars, and gently hints at the horrors in store as the US Federal Reserve turns off the liquidity spigot.

This dry paper is the talk of the hedge fund village in Mayfair, and the stuff of nightmares for those in Singapore or Hong Kong already caught on the wrong side of the biggest currency margin call in financial history. "Everybody is reading it," said one ex-veteran from the New York Fed.
The report - "Global dollar credit: links to US monetary policy and leverage" - was first published by the Bank for International Settlements in January, but its biting relevance is growing by the day.
It shows how the Fed's zero rates and quantitative easing flooded the emerging world with dollar liquidity in the boom years, overwhelming all defences.
This abundance enticed Asian and Latin American companies to borrow like never before in dollars - at real rates near 1pc - storing up a reckoning for the day when the US monetary cycle should turn, as it is now doing with a vengeance.
Contrary to popular belief, the world is today more dollarized than ever before. Foreigners have borrowed $9 trillion in US currency outside American jurisdiction, and therefore without the protection of a lender-of-last-resort able to issue unlimited dollars in extremis. This is up from $2 trillion in 2000.

The emerging market share - mostly Asian - has doubled to $4.5 trillion since the Lehman crisis, including camouflaged lending through banks registered in London, Zurich or the Cayman Islands.

The result is that the world credit system is acutely sensitive to any shift by the Fed. "Changes in the short-term policy rate are promptly reflected in the cost of $5 trillion in US dollar bank loans," said the BIS.

Total US dollar debt outside US

Markets are already pricing in such a change. The Fed's so-called "dot plot" - the gauge of future thinking by Fed members - hints at three rate rises this year, kicking off in June.

The BIS paper's ominous implications are already visible as the dollar rises at a parabolic rate, smashing the Brazilian real, the Turkish lira, the South African rand and the Malaysian Ringitt, and driving the euro to a 12-year low of $1.06.

The dollar index (DXY) has soared 24pc since July, and 40pc since mid-2011. This is a bigger and steeper rise than the dollar rally in the mid-1990s - also caused by a US recovery at a time of European weakness, and by Fed tightening - which set off the East Asian crisis and Russia's default in 1998.

Emerging market governments learned the bitter lesson of that shock. They no longer borrow in dollars. Companies have more than made up for them.
"The world is on a dollar standard, not a euro or a yen standard, and that is why it matters so much what the Fed does," said Stephen Jen, a former IMF official now at SLJ Macro Partners.

He says the latest spasms of stress in emerging markets are more serious than the "taper tantrum" in May 2013, when the Fed first talked of phasing out quantitative easing.

"Capital flows into these countries have continued to accelerate over recent quarters. This is mostly fickle money. The result is that there is now even more dry wood in the pile to serve as fuel," he said.

Mr Jen said Asian and Latin American companies are frantically trying to hedge their dollar debts on the derivatives markets, which drives the dollar even higher and feeds a vicious circle.

"This is how avalanches start," he said.

Companies are hanging on by their fingertips across the world. Brazilian airline Gol was sitting pretty four years ago when the real was the strongest currency in the world. Three quarters of its debt is in dollars.

This has now turned into a ghastly currency mismatch as the real goes into free-fall, losing half its value. Interest payments on Gol's debts have doubled, relative to its income stream in Brazil.

The loans must be repaid or rolled over in a far less benign world, if possible at all.

You would not think it possible that an Asian sovereign wealth fund could run into trouble too, but Malaysia's 1MDM state fund came close to default earlier this year after borrowing too heavily to buy energy projects and speculate on land. Its bonds are currently trading at junk level.

It became a piggy bank for the political elites and now faces a corruption probe, a recurring pattern in the BRICS and mini-BRICS as the liquidity tide recedes and exposes the underlying rot.

BIS data show that the dollar debts of Chinese companies have jumped fivefold to $1.1 trillion since 2008, and are almost certainly higher if disguised sources are included. Among the flow is a $900bn "carry trade" - mostly through Hong Kong - that amounts to a huge collective bet on a falling dollar.

Woe betide them if China starts to drive down the yuan to keep growth alive.

Manoj Pradhan, from Morgan Stanley, said emerging markets were able to weather the dollar spike in 2014 because the world's deflation scare was still holding down the cost of global funding. These costs are now rising. Even Singapore's three-month Sibor used for benchmark lending is ratcheting up fast.

The added twist is that central banks in the developing world have stopped buying foreign bonds, after boosting their reserves from $1 trillion to $11 trillion since 2000.

From Societe Generale

The Institute of International Finance (IIF) calculates that the oil slump has slashed petrodollar flows by $375bn a year. Crude exporters will switch from being net buyers of $123bn of foreign bonds and assets in 2013, to net sellers of $90bn this year. Russia sold $13bn in February alone.

China has also changed sides, becoming a seller late last year as capital flight quickened. Liquidation of reserves automatically entails monetary tightening within these countries, unless offsetting action is taken. China still has the latitude to do this. Russia is not so lucky, and nor is Brazil. If they cut rates, they risk a further currency slide.

Powerful undercurrents in the world's financial system are swirling beneath the surface. Some hope that the European Central Bank's €60bn blast of QE each month will keep the asset boom going as the Fed pulls back, but this is a double-edged effect for the world as a whole. It pushes the dollar yet higher. That may matter more in the end.

It is possible that the Fed will retreat once again, judging that the world economy is still too fragile to withstand any tightening. The Atlanta Fed's forecasting model for real GDP growth in the US itself has slowed sharply since mid-February.

Yet the message from a string of Fed governors over recent days is that rate rises cannot be put off much longer, the Atlanta Fed's own Dennis Lockhart among them. "All meetings from June onwards should be on the table," he said.

The most recent Fed minutes cited worries that the flood of capital coming into the US on the back of the stronger dollar is holding down long-term borrowing rates in the US and effectively loosening monetary policy. This makes Fed tightening even more urgent, in their view, implying a "higher path" for coming rate rises.

Nobody should count on a Fed reprieve this time. The world must take its punishment.

Heard on the Street

Fed Will Bark Before It Bites

Markets aren’t ready for the Federal Reserve to tighten policy, but it may be trying to change that

Investors on Wednesday will be carefully parsing the statement the Fed releases following its two-day meeting and Chairwoman Janet Yellen’s postmeeting news conference for any hints on when the central bank might start raising rates. Photo: Associated Press 

Investors on Wednesday will be carefully parsing the statement the Fed releases following its two-day meeting and Chairwoman Janet Yellen’s postmeeting news conference for any hints on when the central bank might start raising rates. This is something economists are sharply divided over, with nearly half the respondents to The Wall Street Journal’s latest forecasting poll looking for a “liftoff” in the second quarter (read: at the June meeting), and the remainder expecting it to come in the third quarter or later.

Whenever the Fed starts tightening, the trajectory of rates likely won’t be steep. Rather, with inflation still below its 2% target, rate increases will be incremental, with the central bank pausing if the economy seems to soften. That is because the aim isn’t to cool an overheating economy, but to put into motion a yearslong process of getting overnight rates from near zero to the 3.75% that the Fed sees as normal.

Yet investors have been unusually sensitive to changing views of when liftoff will likely occur.

The strong February employment report, which strengthened the case for a June rate increase, sent stocks down sharply. Last week’s weak retail sales report, which pushed the needle toward the Fed’s September meeting, saw stocks rise.

The problem might be investors put little faith in the Fed’s ability to hold back on ratcheting up rates once started. But given low inflation, another culprit seems more likely: valuations.

Even after their recent pullback, stocks look expensive. The S&P 500 is at about 17 times expected earnings, a decade high that compares with a year-earlier forward price/earnings multiple of 15.

Similarly, long-term Treasury yields are far lower than they were a year ago. The term premium on the 10-year note, or the extra compensation investors demand to hold it over cash, has fallen sharply this year into negative territory, bringing it to some of its lowest levels in over 50 years.

Such high prices make markets more sensitive to little things going wrong, like the Fed tightening sooner than investors are prepared for. And they seem unprepared.

The shadow funds rate ended February at minus-1.97%. This is a measure maintained by the Federal Reserve Bank of Atlanta based on where yields on Treasurys suggest overnight rates would be, if they could go below zero. That leaves it with a wide gap to fill by the time the Fed raises rates. And filling that could take substantial movement in Treasury yields.

The situation presents the Fed with a problem: It doesn’t want its first rate move to cause a severe market reaction that puts the economy at risk. Yet it doesn’t want to delay acting just because that might knock pricey assets lower. Optimally, it would like investors to gradually steel themselves for the first increase so that when it does actually come it doesn’t cause problems.

One way to accomplish this might be to keep the possibility of a June tightening open as long as possible, pushing markets to start adjusting, only to pivot to a later increase. If the Fed sounds hawkish after its meeting this week, bear this in mind.

Corruption in Latin America

Democracy to the rescue?

Despite an epidemic of scandal, the region is making progress against a plague

Mar 14th 2015

WHEN Dilma Rousseff, Brazil’s president, delivered a televised speech to mark International Women’s Day on March 8th, it was almost impossible to hear her in some districts. Thousands of middle-class Brazilians drowned her out by banging pots and pans, a traditional way to show dissent in neighbouring countries. Brazil’s panelaço is new.

Brazilians have plenty to grumble about, from a stagnant economy to fiscal austerity, but the pot-bangers’ main grievance is the scandal at Petrobras, a state-controlled oil giant. On March 6th a Supreme Court judge agreed to open investigations into 34 sitting politicians, including the speakers of both houses of Congress, whom a prosecutor suspects of participating in a multi-billion-dollar bribery scandal. All but two are allied with Ms Rousseff’s ruling coalition.

She was not on the list, but she was Petrobras’s chairman in the mid-2000s, when much of the alleged corruption took place.

On March 15th Brazilians plan rallies across the country to demand her impeachment.

Brazil’s disquiet is not unique in Latin America. In Mexico the disappearance of 43 students in the southern state of Guerrero, and their apparent murder by drug-traffickers in league with police, have sparked protests since September. Revelations of a housing deal between the wife of the president, Enrique Peña Nieto, and a company linked to a businessman who won government contracts added to the fury about corruption; the finance minister has been similarly embarrassed. 
Allegations that Argentina’s president, Cristina Fernández de Kirchner, and her late husband, Néstor Kirchner, who preceded her as president, enriched themselves during a dozen years in power, have brought out the pot-bangers, too. She denies wrongdoing. The son of Chile’s president, Michelle Bachelet, recently quit as head of a state charity over accusations of influence peddling. Her popularity has dropped to its lowest level since she returned to power a year ago.

Resistance to corruption in Latin America has a long and largely futile history. Antonio de Ulloa, a naval captain, tried and failed in the 1750s to eradicate fraud at a mercury mine in the Andean town of Huancavelica. Corrupt leaders have been ousted in the democratic era without much effect on corruption itself. Hugo Chávez’s fulminations against it in Venezuela helped his rise to power; under his “Bolivarian” regime it worsened. The jailing of Alberto Fujimori, under whom the Peruvian state became a criminal enterprise, did not purge the country. His system has been dismantled, but “scale models” of it persist at regional level, says José Ugaz, a Peruvian lawyer who is chairman of Transparency International, a Berlin-based NGO.

Yet in today’s scandals, and the indignation they have aroused, lie hopeful signs. The unrelenting pursuit of executives and politicians responsible for the Petrobras scandal (the petrolão) shows that Brazil’s judicial institutions are functioning as they should. In Mexico Congress is pushing through anti-corruption reforms. There are promising experiments in Central America. Latin America’s young democracies may be starting to get to grips with one of their worst and most enduring problems.

The viceroys of the colonial era set the pattern. They centralised power and bought the loyalty of local interest groups. “In Peru abuse starts with those who ought to correct it,” wrote Ulloa and a collaborator in 1749. Caudillos, dictators and elected presidents continued the tradition of personalising power. Venezuela’s chavismo and the kirchnerismo of Ms Fernández are among today’s manifestations.

This is a damaging pedigree. Though Latin America is a middle-income region, two-thirds of its countries come in the bottom half of Transparency International’s “corruption perceptions index”. In South America only Chile and Uruguay stand out from the dismal regional norm (see map), perhaps partly because in colonial times they were backwaters; Costa Rica is the Central American exception.

Even more corrupt countries have islands of integrity: Mr Ugaz points to Peru’s central bank and tax-collection authority.

Anatomy of vice
Graft is hydra-headed and has multiple causes. Presidents who plunder make the biggest headlines. But presidential misbehaviour can take the milder forms of conflict of interest (as, apparently, in the case of those Mexican houses) or nepotism. Such temptations extend to anyone in authority, especially if, as is often the case, he or she is ill trained and badly paid. A fifth of Latin Americans report having paid a bribe over the course of a year, most often to the police. Colombia’s anti-corruption tsar, Camilo Enciso, says that no sector of the country is untouched by corruption.

The costs are hard to quantify, but surely immense. In 2010 FIESP, the industry federation of São Paulo state, estimated that corruption cost 1.4-2.3% of GDP every year. In Peru stolen public money adds up to 2% of GDP, says Ana Jara, the prime minister. Almost a fifth of businessmen think corruption is the main obstacle to doing business in Mexico, says the World Economic Forum.

Paying bribes for basic services such as water supply makes the poor even poorer. In Mexico it eats up a quarter of their income, according to one estimate. Richer folk pay fixers, such as Brazil’s despachantes and Argentina’s gestores, to get things done. Popular anger at corrupt officialdom can become hostility toward democracy itself.

Many Latin America watchers assumed that democratisation and the market reforms that began in the 1980s would curb corruption. Instead, they provided new opportunities for it. Democracy gave rise to parties hungry for donations and politicians eager to reap the rewards of elected office. In Mexico, it brought an “out of control [corruption] booze-up”, wrote Luis Carlos Ugalde, a consultant, in Nexos, a magazine. In Brazil, where entire states count as single constituencies, campaigns are ruinously expensive. Candidates spent 4.1 billion reais ($1.3 billion) in last year’s state and national elections, not counting the race for the presidency.

Campaign-finance laws are riddled with loopholes. In Chile donors are meant to give money through an agency that hides their identities from the candidate. But within the country’s small elite, such secrets leak out. Surveys find that political parties are Latin America’s least trusted institutions.

Economic reform also incited graft. Proceeds from the privatisation of state companies enriched ruling cliques in Argentina and paid for social spending aimed at supporters of ruling parties in Peru and Mexico. The commodities boom of the early 2000s brought more money and more ways of pilfering it. The petrolão would not have been so huge without the rise in oil prices of the past 15 years. Even more destructive was an upsurge in drug-trafficking from the 1980s, which implanted the idea that everyone, from policemen and judges to ministers and presidents, “has a price”, says Mr Enciso. Torrents of new money, from both legitimate and illicit sources, greatly increased what Mr Ugaz calls “grand corruption”.

Many Latin Americans have long shrugged their shoulders, which has made corruption harder to stamp out. Rouba, mas faz (he steals but he acts), say Brazilians indulgently of politicians who leaven their greed with efficiency. Campaigning to be mayor of San Blas, a town on Mexico’s Pacific coast, Hilario Ramírez Villanueva admitted at a rally last year that in an earlier term in office “I did steal, but only a little.” Besides, he added, “I gave back with the other hand to the poor.” He was elected, and celebrated by throwing banknotes to supporters.

This is discouraging. But there are signs that corruption’s hold, tenacious as it is, may be loosening. Today’s anti-graft efforts, in some countries at least, are not just a backlash against the scandals of the moment; they are the work of institutions that are starting to mature, in some cases because of popular pressure. This is true in the region’s two biggest economies, Brazil and Mexico, but not only there.

Brazil’s constitution, enacted in 1988, conferred independence on the public prosecutor’s office and the judiciary. But they have exercised it only in the past decade or so. Geraldo Brindeiro, the chief prosecutor during the presidency of Fernando Henrique Cardoso from 1995 to 2003, was mocked as “mothballer-general of the republic” for his apparent reluctance to pursue corrupt officials.

Brazil’s feisty media have lowered the tolerance for corruption among ordinary folk and the officials responsible for rooting it out. Time has brought a change of generations. Mr Brindeiro’s successor was the first to be chosen by prosecutors themselves. The next went on to denounce the Workers’ Party, to which Ms Rousseff belongs, in Brazil’s previous epic scandal, the mensalão, which uncovered payments to congressmen in exchange for pro-government votes. Rodrigo Janot, the prosecutor in charge of the petrolão, and Sérgio Moro, the judge who presides over the case at the federal court in Curitiba, belong to a cohort that sees corruption as not just a moral failing but a cause of tangible damage, says Luiz Felipe d’Avila of the Centre for Public Leadership, a think-tank.

“Corruption kills,” says Mr Janot.

Waking up the watchdogs
Better Brazilian judges and prosecutors are part of an institutional upgrade—disconnected improvements brought about by legislation and new technology. It is still partial at best, but should make a difference. The “clean companies act”, which entered into force in January 2014, extends sanctions from bribe takers to bribe givers. Lawyers say it has prompted companies to take compliance seriously. Cash payments to the poor through the Bolsa Família programme—which are made electronically—cannot easily be stolen or directed to supporters of a local potentate. São Paulo state’s transport department has made it possible to renew a driver’s licence online, cutting out bribe-taking bureaucrats. It plans to install cameras in examiners’ cars.

The monopoly of power held by Mexico’s Institutional Revolutionary Party (PRI), to which Mr Peña belongs, was broken only in 2000. Mexico’s press, with some exceptions, is less obstreperous than Brazil’s, in part because much of it relies on government advertising. But pressure for reform has increased. The Guerrero murders and revelations about house purchases triggered an outpouring of anger against the president and the political elite. Mr Peña’s ambitious programme of reforms to energy and other sectors will fail if their integrity is not protected.

The elite has begun to respond. In late February Mexico’s lower house approved a constitutional change to create a “national anti-corruption system”. Rather than entrust responsibility to a single commission, as some Latin American countries have done, Mexico aims to share it out among different organs of government as well as the judiciary. “We favour checks and balances, institutions rather than heroes,” says Mauricio Merino, lead co-ordinator of the Accountability Network, a grouping of NGOs that pushed for the legislation.

Until secondary legislation is passed to regulate conflicts of interest and specify the powers of the new bodies, it is impossible to say how well the new system will work, says Mr Merino. Already, there is opposition from state governors, especially those within the PRI. The reforms could be as important as those that ushered in democracy, but it “will take at least a generation to change habits,” he says.

Other countries are taking encouraging steps. Honduras’s president, Juan Orlando Hernández, has signed an agreement with NGOs to act as “parallel auditors” in education, health, and other government services. They persuaded him to appoint an education minister, who has slashed the payment of salaries to “phantom teachers”. Chile will soon close loopholes in its campaign-finance legislation. In Peru Mr Ugaz sees hope in activism among students, who protested successfully against the appointment of unqualified candidates to the constitutional court and the ombudsman’s office. This was “a reaction of youth against a corrupt class,” he says.

Such gains are fragile, and in some countries absent. October’s presidential election in Argentina is unlikely to bring improvement. Where governments crimp press freedom, for example in Ecuador and Venezuela, corruption is likely to flourish. Brazil needs electoral reform to upgrade the quality of its politicians. Even the progress in the judiciary is not secure.

The prosecution in the petrolão is impressive, says Mr Moro, the judge, “but institutional reaction must be the rule. And it isn’t yet.”

However, as Latin America grows richer, more educated and more equal, citizens will press harder for honest politicians and officials. At long last democracy is working for them. It is “thanks to political plurality that, despite everything, we are taking steps in the right direction,” says Mr Merino.

That bodes well for Mexico, and its neighbours.

Big Banks Struggle to Pass Fed’s ‘Stress Tests’      
By Victoria McGrane and Ryan Tracy
WASHINGTON—Four of the biggest names on Wall Street struggled to pass the Federal Reserve’s 2015 “stress tests,” and the U.S. units of two foreign banks fell short, underscoring the constraint the annual exercise imposes on the largest banks more than six years after the 2008 crisis.

Goldman Sachs Group Inc., J.P. Morgan Chase & Co. and Morgan Stanley received the green light to return income to investors only after adjusting their initial requests to ensure capital buffers stayed above the minimums required by the Fed.
Bank of America Corp. got conditional approval to return capital to shareholders after the Fed found “certain weaknesses” in its ability to measure losses and revenue and in other internal controls. The bank can temporarily reward investors by boosting dividends or share buybacks, but it must submit a revised plan addressing its shortcomings by Sept. 30. If the Fed isn’t satisfied with the bank’s progress, it can freeze the capital distributions.

The Charlotte, N.C., bank said it would increase stock buybacks but hold dividends steady. It was the only lender among the six biggest U.S. banks to not raise that payout. Bank of America Chief Executive Brian Moynihan said the lender was “committed” to submitting a revised plan “in the time frame the Fed has established.”

Bank regulators have steadily raised capital requirements for the largest banks since the crisis in an effort to make banks—and the financial system—more resilient and better able to absorb losses. The changes have forced banks to fund themselves with less borrowed money and more investor cash, such as common equity that can’t flee when market turmoil strikes.

“Our capital plan review helps ensure that the capital distribution plans of large banks will not compromise their ability to continue lending to businesses and households even during a period of serious financial stress,” Fed governor Daniel Tarullo, the central bank’s point man on regulatory issues, said in a statement.
Still, the fact some big banks needed to take a so-called mulligan and adjust their capital plans is likely to stoke criticism that the Fed’s process is too opaque and designed to find shortfalls at banks rather than ensuring they can build up the necessary capital to absorb losses.

“The regulators are incrementally penalizing the largest banks more,” said CLSA analyst Mike Mayo. If Congress wants the Fed to be harder on the biggest banks, “they’re following through.”
Fed officials say they don’t want the tests to be predictable, because firms should plan for unforeseen risks. They say allowing firms to adjust their plans before determining whether they pass or fail is designed to ensure banks aren’t surprised by the Fed.

The changes by J.P. Morgan, Goldman Sachs, and Morgan Stanley kept their capital levels above the Fed’s required minimums, but it wasn’t immediately clear whether they would reduce the amount of money the firms return to shareholders overall. The banks that disclosed dividends and buybacks didn’t indicate whether those were in line with their original requests to the Fed. Morgan Stanley pared back its plan slightly, according to a person familiar with the matter.

Despite the foreign banks’ failures and broader struggles, analysts said the tests were largely positive for Wall Street, since all the U.S. domestic banks passed the exercise for the first time since 2009. After adjusting their capital plans, all 31 banks were found to be adequately capitalized and able to keep lending during a market shock—the first time no bank has fallen below a Fed minimum.

This year’s test, which gauges whether banks could keep lending during periods of severe economic stress, went to the heart of Wall Street’s trading operations, a factor that appears to have contributed to the big banks’ difficulties.

The six largest firms had to weather a global market-shock scenario that included corporate bankruptcies and a sharp drop in the price of risky securities, such as loans to highly indebted companies. Market volatility was greater than in previous years’ tests, producing relatively higher losses for banks heavily engaged in capital-markets activities—like buying and selling equity and debt instruments, Fed officials said. Goldman, Morgan Stanley and J.P. Morgan all have large trading operations.

One big bank, Citigroup Inc., had an easier time than in years past. The bank earned Fed approval for its capital plan, a major victory for Chief Executive Michael Corbat, who made passing the exam a top goal after the firm in 2014 failed for the second time in three years. Mr. Corbat had said he would step down if Citigroup failed again.

Citigroup said it won approval to raise to five cents a share its quarterly dividend, which has been one cent since the financial crisis. It can also buy back up to $7.8 billion of its own shares, up from last year’s level of $1.2 billion.

The Fed rejected the capital plans of the U.S. units of Deutsche Bank AG and Banco Santander SA for “qualitative” deficiencies including in their abilities to model losses and identify risks.

The two firms can’t increase dividend payments to their parent firms or other shareholders, but can continue to pay at last year’s levels. Deutsche Bank said it didn’t request any dividend payments, while Santander said it had permission to keep a dividend it declared in January.
After the Fed’s results were announced, many of the big banks, including J.P. Morgan and Morgan Stanley, highlighted their strengthened conditions and said they were pleased to be returning cash to shareholders.

Lloyd Blankfein, Goldman’s chairman and chief executive, said the bank is “focused on managing our resources dynamically, growing our client franchise, and generating superior returns for our shareholders while remaining well capitalized.”

Banks appear to be improving at meeting the Fed’s expectations, and the test results “are going to become nonevents for the industry as we go forward,” predicted Gerard Cassidy, an analyst with RBC Capital Markets.

The results come as investors have been pressing the biggest banks to improve their shareholder returns, which have lagged behind the broader market since the crisis. Analysts and frustrated investors have floated the idea that certain banks would be worth more broken into pieces. Bank executives have rejected that premise.

Dividends at big banks have been restrained in recent years. The 23 banks in the S&P 500 that take the stress tests had an aggregate indicated dividend of $45.3 billion at the end of 2007, or about 18% of the total for all firms in the index, according to S&P Capital IQ data analyzed by Reality Shares Inc., a dividend-focused investment firm. As of March 6 of this year, the figure was $26.4 billion, or about 7%.

Deutsche Bank’s unit, which took the stress test for the first time this year, was rejected for “numerous and significant deficiencies” across several areas of the capital-planning process, including the bank’s ability to identify risks, the Fed said. The bank said in a statement that it is “committed to strengthening and enhancing its capital planning process.”

Santander failed the stress test for the second year in a row due to “widespread and critical deficiencies across” its planning procedures, the Fed said. The Fed’s description of the bank’s shortcomings was identical to last year’s, identifying, among other issues, problems with internal controls and risk management.

The chief executive of Santander’s U.S. unit, Scott Powell, said the results show the bank can weather a severe economic downturn without dipping below the Fed’s capital minimums. “However, the qualitative assessment highlights that we still have meaningful work to do to meet our regulator’s expectations and our own standards of excellence,” he said in a statement.

Recession Alarm: Wholesale Sales Plunge Alongside Factory Orders, Worst Since Lehman

by Tyler Durden

03/10/2015 10:13 -0400

For the first time since Lehman, Wholesale Trade Sales dropped for a 3rd month in a row in January. Plunging 3.1% MoM (against -0.5% expectations), this is the biggest drop since March 2009. Excluding auto sales, wholesale sales fell 3.5%. Wholesale inventories rose 0.3% (beating expectations) with only a very modest -0.1% drag from oil.

This has sent the inventory-to-sales ratio soaring as the "Field Of Dreams" economy is back - but as one wise trader noted, we are now 10bps higher in inventory/sales than when we entered the recession in Dec 2007.

But the punchline is the following chart showing the annual change of Wholesale Trade Sales.

It does not need much explanation:

It certainly puts the chart of the Factory Orders in much better context:


Latinos in the United States

How to fire up America

The rise of Latinos is a huge opportunity. The United States must not squander it

Mar 14th 2015

A SATIRICAL film in 2004, called “A Day Without a Mexican”, imagined Californians running scared after their cooks, nannies and gardeners had vanished. Set it in today’s America and it would be a more sobering drama. If 57m Hispanics were to disappear, public-school playgrounds would lose one child in four and employers from Alaska to Alabama would struggle to stay open. Imagine the scene by mid-century, when the Latino population is set to have doubled again.

Listen to some, and foreign scroungers threaten America, a soft-hearted country with a wide-open border. For almost two centuries after America was founded, more than 80% of its citizens were whites of European descent. Today, non-Hispanic whites have dropped below two-thirds of the population. They are on course to become a minority by 2044. At a recent gathering of Republicans with presidential ambitions, a former governor of Arkansas, Mike Huckabee, growled about “illegal people” rushing in “because they’ve heard that there is a bowl of food just across the border.”

Politicians are right that a demographic revolution is under way. But, as our special report this week shows, their panic about immigration and the national interest is misguided. America needs its Latinos. To prosper, it must not exclude them, but help them realise their potential.
A Hispanic attack
Those who whip up border fever are wrong on the facts. The southern frontier has never been harder to cross. Recent Hispanic population growth has mostly been driven by births, not fresh immigration.

Even if the borders could somehow be sealed and every unauthorised migrant deported—which would be cruel and impossible—some 48m legally resident Hispanics would remain. Latino growth will not be stopped.

They are also wrong about demography. From Europe to north-east Asia, the 21st century risks being an age of old people, slow growth and sour, timid politics. Swelling armies of the elderly will fight to defend their pensions and other public services. Between now and mid-century, Germany’s median age will rise to 52. China’s population growth will flatten and then fall; its labour force is already shrinking. Not America’s. By 2050 its median age will be a sprightly 41 and its population will still be growing. Latinos will be a big part of that story.

The nativists fret that Hispanics will be a race apart, tied to homelands racked by corruption and crime. Early migrants from Europe, they note, built new lives an ocean away from their ancestral lands. Hispanics, by contrast, can maintain ties with relatives who stayed behind, thanks to cheap flights and Skype. This fear is wildly exaggerated. People can love two countries, just as loving your spouse does not mean you love your mother less. Nativists are distracting America from the real task, which is to make Hispanic integration a success.

An unprecedented test of social mobility looms. Today’s Latinos are poorer and worse-educated than the American average. As a vast (and mostly white) cohort of middle-class baby-boomers retires, America must educate the young Hispanics who will replace them, or the whole country will suffer.

Some states understand what is at stake—and are passing laws to make college cheaper for children with good grades but the wrong legal status. Others are going backwards. Texas Republicans are debating whether to make college costlier for undocumented students—a baffling move in a state where, by 2050, Hispanic workers will outnumber whites three to one.

Politicians of both left and right will have to change their tune. For a start, they will have to stop treating Hispanics as almost a single-issue group—as either villains or victims of the immigration system. Almost 1m Latinos reach voting age each year. With every election, Hispanics will want to hear less about immigration and more about school reform, affordable health care and policies to help them get into the middle class.

Republicans have the most work ahead. The party has done a wretched job of making Latinos feel welcome, and suffered for it at the polls. Just 27% of Hispanics voted for Mitt Romney, the Republican presidential candidate in 2012, after he suggested that life should be made so miserable for migrants without legal papers that they “self-deport”. Yet Democrats have no reason to be smug.

At present, most Latinos do not vote at all; as they grow more prosperous their votes will be up for grabs. Jeb Bush, a putative White House contender in 2016 who is married to a Latina, has wooed Latinos by saying that illegal migration is often an act of family “love”.

Since their votes cannot be taken for granted, Hispanics will become ever more influential. This is especially true of those who leave the Catholic church to become Protestants. This subset already outnumbers Jewish-Americans, and is that rare thing: a true swing electorate, backing Bill Clinton, George W. Bush and Barack Obama. America should welcome the competition: its sclerotic democracy needs swing voters.

Chilies in the mix
Anxious Americans should have more faith in their system. High-school-graduation rates are rising among Latinos; teenage pregnancy is falling. Inter-marriage between Hispanics and others is rising.

The children and grandchildren of migrants are learning English—just like immigrants of the past.

They are bringing something new, too. A distinctive, bilingual Hispanic American culture is blurring old distinctions between Mexican-Americans and other Latinos. That culture’s swaggering soft power can be felt across the Spanish-speaking world: just ask artists such as Romeo Santos, a bachata singer of Dominican-Puerto Rican stock, raised in the Bronx. His name is unknown to many Anglos, but he has sold out Yankee Stadium in New York (twice) and 50,000-seat stadiums from Mexico City to Buenos Aires. One of his hits, “Propuesta Indecente”, has been viewed on YouTube more than 600m times.

America has been granted an extraordinary stroke of luck: a big dose of youth and energy, just as its global competitors are greying. Making the most of this chance will take pragmatism and goodwill.

Get it right, and a diverse, outward-facing America will have much to teach the world.

A Global Strategy for Disaster Risk
Ban Ki-moon.
MAR 11, 2015


SENDAI – Current disaster-risk levels are alarming. The cost of damage to commercial and residential buildings worldwide is averaging $314 billion each year, with the private sector bearing as much as 85% of that price tag. At the same time, a new United Nations report shows that annual investments in disaster-risk reduction of $6 billion can result in savings of up to $360 billion.
Hundreds of business executives, aware of the dramatic costs – and potential benefits – at stake, are now preparing to attend a UN conference on disaster-risk reduction in Sendai, Japan. A decade ago, when the last such gathering was held, the private sector was scarcely represented. This time, companies and entrepreneurs will be there in full force to explore a range of valuable opportunities.
The Tohoku region of Japan, where the meeting will take place, is a vivid reminder of how a disaster's economic impact reverberates far beyond its epicenter. Devastated four years ago by the Great East Japan Earthquake and tsunami, Japan's automobile production was cut by nearly half. The financial damage did not stop at the country's borders; as a direct result of the slowdown in Japan, automobile production dropped by some 20% in Thailand, 50% in China, and 70% in India.
The risks inherent in globalized production carry great rewards for those who know how to manage them properly. That is why major businesses such as PricewaterHouseCoopers, Hindustan Construction Corporation, AbzeSolar, Swiss Re, AECOM, AXA Group, IBM, and others – spanning many sectors and encompassing all regions – are engaging with UN experts to improve global strategies for disaster-risk management and reduction.
This level of business engagement bodes well for pioneering a new planet-friendly and people-sensitive approach to global prosperity. Indeed, the disaster-risk reduction conference in Sendai is the first in a series of major international gatherings this year.
Beyond Sendai, world leaders will convene in Addis Ababa in July to discuss financing for development, in New York in September to adopt a new development agenda, and in Paris in December to reach a meaningful climate-change agreement. Taken together, these meetings promise to generate transformative action that can set the world on a safer, more prosperous, and more sustainable path.
Sustainability starts in Sendai for three major reasons. First, by its very nature, disaster-risk reduction requires forward planning. Second, investment in this area advances both sustainable development and climate action. And, third, helping those who are most vulnerable to disasters is the ideal starting point for the effort to aid all people by establishing universal targets for development and climate change.
Over the last 12 months, thousands of lives were saved in India, the Philippines, and elsewhere by improved weather forecasting, early-warning systems, and evacuation plans.
Advances in risk reduction that safeguard development gains and business investments must match this progress in disaster preparedness, and we must make wise choices that create greater opportunities in the future.
For example, experts estimate that 60% of the land that will be urbanized by 2030 has not yet been developed. Enterprises that factor disaster risk into their construction plans will avert the much higher costs of retrofitting later. More broadly, over the next 15 years, the world will make major investments in urban infrastructure, energy, and agriculture. If this spending is directed toward low-carbon goods, technologies, and services, we will be on our way to creating more resilient societies.
More and more industries appreciate this. At the Climate Summit that I convened last September at the UN in New York, financial institutions, commercial and national banks, insurance companies, and pension funds vowed to mobilize more than $200 billion by the end of this year for action to address climate change.
They envisioned a host of new initiatives, including issuing so-called green bonds and shifting assets to clean-energy portfolios. In a particularly important move, the insurance industry, representing $30 trillion in assets and investments, committed to creating a Climate Risk Investment Framework for industry-wide adoption by the end of the year.
It is time to stop addressing development and humanitarian emergencies separately.
Disaster-risk reduction lies at the nexus of development assistance, which seeks to advance better living conditions, and humanitarian aid, which begins after a disaster hits. Starting our international calendar with the Sendai meeting on disaster-risk reduction sends a clear signal that the world is ready to integrate its strategies.
I have seen the human toll of disasters – from earthquakes in China and Haiti to floods in Pakistan and Bangladesh to Superstorm Sandy, which affected the Caribbean and North America, even inundating the lower floors of the UN facilities in New York. When business, civil society, and government team up to help countries withstand disasters, they save lives, boost stability, and create opportunities that enable markets and people alike to flourish.
Sustainable profits. Sustainable livelihoods. Sustainable development. It all starts in Sendai.

Read more at http://www.project-syndicate.org/commentary/global-disaster-risk-strategy-by-ban-ki-moon-2015-03#PHsf8I2fC8lke5rb.99

The Crazy Man’s Guide to the Bond Market

Jared Dillian

Editor, The 10th Man

I invite you to inspect the following chart of 10-year interest rates in the US.

If you don’t have a lot of experience with these things, let me clue you in: This is a very scary-looking chart. It’s a classic head-and-shoulders bottom in yields.

If you’re one of those people who’s scornful of technical analysis, don’t be. Now, I don’t pay much attention to complicated stuff like Elliott Wave or Gann Angles, but there are some very basic technical formations that work reliably most of the time.

I had the good fortune of taking out a mortgage when 10-year rates were at 1.9%, which goes to show that the only time you get to top-tick stuff is by accident.

Now, this is actually not the low in yields. 10-year yields got to 1.4% a few years ago.

Of course, interest rates are even lower in Europe. Take Germany, for example:

I think that these interest rates (which are at 700-year lows in Europe) signify a bubble. Other people don’t, though—they point to x, y, and z as signs of deflation.

I’m very weary of the inflation/deflation argument. A lot of people lost a lot of money betting on inflation when there were obvious signs of inflation (QE). And I fear that a lot of people will lose a lot of money betting on deflation when there are obvious signs of deflation.

I’m a trader at heart, and I try not to get too attached to my views. I pay attention to price. And right now, the price action is telling me that the bond market might be in trouble.

Central Banks Buy High and Sell Low

The first thing you need to know about central banks is that they are the worst traders in the world. The worst.

Probably the most famous example in the modern era was the Bank of England under Gordon Brown’s leadership puking its gold holdings—on the absolute lows, between 1999 and 2002. The idea was they had this gold sitting there not generating any yield, so why not sell the gold and buy paper that would generate some yield?


A less famous example of bad trading by public officials would be the US Treasury’s decision to issue floating-rate debt. Now, if the government has floating-rate liabilities, it should want interest rates to stay low, right?


The all-time lows in rates. To the exact day.

So with all this in mind, don’t you think it’s interesting that the ECB is going to buy European debt—at 700-year-low yields? At negative yields, in some cases?

Central banks do not buy things on the lows. They buy things on the highs.

Of course, the ECB is not trying to make money on these transactions. Which is the whole point!
The Worst Investors in US History Strike Again

Betting on the end of what is a 30-year interest rate cycle is not a productive use of our time. This bond market has claimed the careers of many investors. It reportedly hastened the retirement of Stan Druckenmiller, arguably the greatest investor of all time, who bet against bonds heavily, thinking yields could not go any lower. They did.

Let me impart some wisdom here: The first rule of finance is that there are no rules in finance. Nothing works all the time. My favorite dumb rule of finance is the one that says your percentage allocation in bonds should be equal to your age. So if you are 60, you should be 60% in bonds.

My guess is that if interest rates rise 2%-3%, people won’t be saying that anymore.

You know what I worry about? I worry about the baby boomers. I worry about this generation, the worst investors in US history, who got carried out in the tech bear market in 2000 and got caned in the financial crisis of 2008, and after having been hammered twice in the span of 10 years in the stock market, went all-in on bonds.

Why? Bonds are safe. Everyone knows stocks are not safe.

Now, in retirement, none of these people expect their bond mutual funds to get cut in half, which would happen if interest rates went up about 3%-5%.

Imagine if they did!

The disclaimer to all of this is that I’ve been a bond bear for many years, and I’ve been wrong. But for the first time, I think we have something approaching consensus that yields will stay low forever. People who think interest rates are going up are starting to sound crazy. I am starting to sound crazy. That probably means I’m close to being right.

If 10-year rates get above 3%, the previous high, we will know for sure. If that happens, pick up the Batphone, call the White House, sell everything. Why?

If you are still ignoring charts when they are making higher lows and higher highs, God help you.