A Tale of Two Entangled Super Bubbles

By: Doug Noland

Friday, April 10, 2015

"This past month may be remembered as the moment the United States lost its role as the underwriter of the global economic system.

True, there have been any number of periods of frustration for the United States before and multiple times when U.S. behavior was hardly multilateralist, such as the 1971 Nixon shock ending the convertibility of the dollar into gold.

But I can think of no event since Bretton Woods comparable to the combination of China's effort to establish a major new institution and the failure of the United States to persuade dozens of its traditional allies, starting with Britain, to stay out. This failure of strategy and tactics was a long time coming, and it should lead to a comprehensive review of the U.S. approach to global economics. With China's economic size rivaling that of the United States and emerging markets accounting for at least half of world output, the global economic architecture needs substantial adjustment. Political pressures from all sides in the United States have rendered the architecture increasingly dysfunctional." Lawrence Summers, April 5, 2015, Washington Post

While on the subject of Larry Summers, it's worth noting that the International Monetary Fund this week seemed to throw its weight behind Summers' "secular stagnation" thesis ("new reality of lower speed limits"). And while the prognosis resonates, I have serious issues with the root cause diagnosis. After all, prolonged Credit Bubbles and attendant resource misallocation, mal-investment, maladjustment and wealth redistribution ensure fragility and debilitated economic systems. Bubbles as well strike a heavy toll on social and political stability. The upshot is mounting stress and divisiveness between social classes, political parties, nations and global economic and security blocks. Accordingly, it is absolutely essential to ward off Bubbles prior to them becoming powerfully ingrained. This is the great lesson global policymakers doggedly refuse to learn.

From an analytical perspective, it's crucial to appreciate that today's "global government finance Bubble" - the "Granddaddy of all Bubbles" - arose from a backdrop of fragility and maladjustment.

Literally decades of financial mismanagement and resulting serial Boom and Bust Cycles set the stage for what would have previously been viewed as unimaginable policy measures. Nowadays, stagnation in real economies ensures that central banking printing inflates financial market Bubbles.

There are pertinent Credit Bubble Tenets at play: "The more systemic a Bubble becomes the less conspicuous its inflationary effects." "Bubbles inflate perceived wealth while destroying real economic wealth." "Credit Bubbles redistribute wealth within economies, with the middle class the inevitable biggest loser." "Global Credit Bubbles redistribute wealth between nations, with geopolitical instability inescapable." "Timid policymaking hamstrung by progressive financial fragility and economic vulnerability is fundamental to 'Terminal Phase' Credit Bubble excess."

Observing the financial world these days, it is difficult not to invoke Mises' "crackup boom."

Europe's Euro Stoxx index jumped 3.1% this week to a new record high, increasing y-t-d gains to 21.3%. The German DAX jumped another 3.6% this week (up 26.2%). Ten-year German bund yields closed at a record low 15 bps. France's CAC 40 Index gained 3.3% (up 22.7%), as French 10-year yields ended the week at a miserly - and new low - 43 bps. The UK's FTSE 250 index surged 3.8% (8.0%). This week saw equities surge 3.7% in Switzerland, 5.8% in Norway, 3.6% in Denmark, 3.4% in Finland, 3.5% in Belgium, 3.0% in Netherlands, 5.2% in Portugal, 3.4% in Ireland, 2.9% in Austria and 2.4% in Italy.

The Bubble in Asian securities, especially China-related, is almost on par with Europe. Chinese stocks surged 5.5% this week, increasing 2015 gains to 24.7%. Incredibly, the Hang Seng equities index surged 9.5% over the past five sessions, as the mainland's equities speculative Bubble now engulfs Hong Kong. Hong Kong's Hang Seng has gained 14% the past month to the highest level since 2007. The Shanghai Composite has inflated an incredible 90% since this past July.

Chinese officials devoted significant resources to the study of the Japanese Bubble experience. They seemed to comprehend key dynamics, having stated in the past their determination not to repeat similar mistakes. I believe China's policymakers had finally decided to bite the bullet and pierce their Bubble. The decision was made to significantly rein in Credit and speculative excess. It's also my view that the Chinese in 2014 embarked on what they hoped would be an orderly (competitive) devaluation against the U.S. dollar.

This policy course, however, was thwarted by the emergence of acute financial and economic fragilities - at home and abroad. The degree of structural impairment had been unappreciated. Risks associated with popping the Bubble had grown too high. Moreover, policy priorities were reworked in response to a shifting geopolitical landscape.

The greater EM Bubble has played prominently - and Europe (i.e. ECB) and Japan (i.e. BOJ, savers and financial institutions) have assumed increasingly powerful roles. Yet for sometime I've viewed the "global government finance Bubble" primarily in terms of "A Tale of Two Entangled Super Bubbles." Without the U.S. so mismanaging the world's reserve currency and flooding the globe with dollar balances, the Chinese Credit system would have never enjoyed such free rein. The Chinese manufacturing base - not to mention apartment developers and buyers - would not have lavished in unlimited cheap finance. And after the collapse of the mortgage finance Bubble, U.S. reflationary measures would not have gained traction without the corresponding historic expansion of Chinese "money" and Credit.

Major Credit Bubbles make for strange bedfellows. The U.S. and China are intense global rivals, increasingly competing for global financial, economic and military power and influence. Yet over the protracted Bubble period these two adversarial powers have grown increasingly dependent upon the other's inflating Bubble - respective Bubbles whose excesses mirror those of their rival. Economies have become deeply integrated, financial systems extremely intertwined and their currencies tightly bound together. The façade of stability holds only so long as these increasingly antagonistic adversaries see it in their individual self-interests to feed the runaway global Credit Bubble.

In the simplest terms: The U.S. is a descending global power with a major Credit Bubble problem; China is an ascending global power with a major Credit Bubble problem. More complexly, precarious Bubble codependency masks latent geopolitical explosiveness.

The U.S. has run more than two decades of unending Current Account Deficits, offsetting the gutting of its manufacturing base with finance, services and Trillions of IOUs. The U.S. resorted to a historic inflation of mortgage Credit to reflate after the bursting of the nineties Bubble. The post-mortgage finance Bubble backdrop has witnessed offensive use of the government's electronic printing press.

This increasingly reckless use of finance has led to a highly dysfunctional global Bubble backdrop, destructive wealth redistribution, heightened fragilities and deep acrimony and antagonism.

The Chinese succumbed to a foolhardy expansion of manufacturing capacity, housing and system Credit. China's Bubble completely got away from authorities after the extraordinary 2009 fiscal and monetary stimulus measures. Plans to rein in excess were then relegated to the backseat. The global backdrop had turned increasingly complex. The "global reflation trade" was collapsing. Commodities and EM - both complexes on the receiving end of enormous Chinese lending and investment - were in serious trouble. This was unfolding just as the Chinese apartment Bubble was finally succumbing.

Time for another CBB Tenet: "There's never a convenient time to rein in major Bubbles."

Importantly, the bursting EM/China apartment/commodities Bubbles coupled with Federal Reserve policymaking incited a destabilizing king dollar dynamic. This dynamic only exacerbated fragility throughout EM, commodities and energy complexes. Meanwhile, China found its currency tied to a rapidly appreciating dollar, much to the detriment of its manufacturers burdened by massive overcapacity and its financial institutions challenged by a rapidly deteriorating Credit backdrop domestically and internationally.

Chinese policymakers confronted an extraordinarily complex backdrop - and very difficult decisions. I imagine they looked at king dollar, surging securities markets and a recovering U.S. economy in somewhat disbelief. And they surely viewed U.S. reflation in terms of America as a re-energized geopolitical rival. The increasingly hard-line and nationalistic Chinese leadership determined it was no time to rein in its Bubble and risk deflating its global power play.

The Chinese (and Russians) were working surreptitiously yet methodically toward developing a counter to (perceived waning) U.S. global dominance. I believe the Ukrainian revolution and Crimea takeover provided a game-changer. Suddenly, the U.S. was spearheading an effort to take a hard-line with Putin and Russia. In response, Putin adopted a belligerent approach, determined not to allow U.S.-dictated sanctions and economic power to alter Russia's policy course. Russia saw the collapse of crude and the ruble as part and parcel of a U.S. plot to undermine Putin and Russia more generally.

It was not long before Putin was off to Beijing to consult with President Xi Jinping.

Surreptitious campaigns for global power and influence were suddenly in the wide open. Putin had to be thwarted - but there was certainly no appetite for military confrontation. The U.S. would impose its financial muscle - power in no small part dependent upon the Fed's Bubble-induced securities market juggernaut. Russia could not be allowed to mess with the U.S. bull market and economic recovery. It became an inopportune time to contemplate a move to normalize U.S. monetary policy.

Not unlike Chinese officials, an increasingly complex global financial, economic and geopolitical backdrop had the Yellen Federal Reserve content to downplay Bubble risks.

April 9 - RT: "The creation of the BRICS reserve currencies pool worth $100 billion will allow member states to depend less on negative processes in the world economy and bypass market volatility, said Russian Prime Minister Dmitry Medvedev. 'Along with the launch of the New Development Bank, it is one of the most important initiatives for countries entering into this association. The agreement establishing a pool of reserve currencies was signed last summer,' said Medvedev... 'Russia is providing $18 billion. Each of the BRICS members may apply to any party to the treaty for loan," Medvedev said, adding that key decisions will be taken by the Governing Council, which consists of either finance ministers or central bank governors. Russia will be represented by the head of the Central Bank of Russia Elvira Nabiullina. 'I hope it [the agreement on establishing the pool - Ed.] will not only strengthen our economic

April 6 - Bloomberg (Sabrina Valle): "A group of Petroleo Brasileiro SA suppliers is negotiating about $3.5 billion in loans from Chinese institutions as China expands support for Brazil's oil industry, the Brazil-China Chamber of Commerce & Industry said. About half of the more than 20 suppliers banned from participating in new tenders with Petrobras amid a graft probe are in talks with lenders including China Development Bank Corp., Export-Import Bank of China and China Export & Credit Insurance Corp., Charles Tang, who heads the chamber, said... The talks follow China Development Bank's loan to Petrobras for the same amount announced April 1. The state-run producer's shares jumped 4.9% that day as the deal eased concern of a looming cash crunch as delays in reporting financial results keep the company out of bond markets."

Major Bubbles coalesce around adaption, evolution, accommodation and, in the end, the embracement of instruments, strategies and policies that would have earlier seemed objectionable.

Who would have thought the Chinese would be willing to accumulate $4.0 TN of international reserves (electronic IOU's from a bunch of over-indebted borrowers)? Well, the Chinese and EM more generally learned from previous crisis experience that large reserve holdings would ward off currency runs and bolster systemic stability.

So International Reserves inflated from $6.6 TN in early-2009 to last year's high of $12.0 TN. This dynamic was fundamental to the "global government finance Bubble" thesis. China and EM central banks (chiefly) accumulated U.S. IOUs, accommodating egregious U.S. reflationary measures. In the process, this accumulation of Reserves required the expansion of domestic "money" and Credit (throughout China and EM economies). Moreover, the growing trove of reserves emboldened the perception that EM economies and Credit systems were now immune to "hot money" exodus, currency runs and burst Bubbles. I have argued that these massive Reserves were instead indicative of unprecedented "hot money" flows, leverage, currency mismatches and inherent fragilities.

Importantly, the accumulation of International Reserves has reversed. From an August 2014 high of $12.033 TN, reserves have dropped $400 to $11.632 TN. As the poster child for how quickly Reserves can go from seemingly abundant to alarmingly depleted, Russia has seen Reserves drop from a 2014-high of $475bn to $309bn.

If Russia had the financial resources, surely Putin would love to play spoiler and tempt Greece's Tsipras into his (anti-US, anti-Europe) sphere of influence. China these days has the financial wherewithal. Chinese investment (see above) in Petrobras and its suppliers played a major role in reversing Petrobras' bonds and CDS, Brazilian bank bonds/CDS, Brazilian sovereign yields, the Brazilian real and EM markets more generally.

From a March high of 487 bps, Banco do Brasil CDS closed this week at 374 bps. Brazil sovereign CDS fell from 312 to Friday's 249 bps. Brazil 10-year real yields have declined from 13.5% to 12.58%. Brazilian equities have rallied 13% off of March 13th trading lows.

April 9 - Bloomberg: "Bull markets are always tough on short sellers. This one in China right now, though, is proving downright brutal. Bearish wagers on the Shanghai Stock Exchange have climbed more than threefold in the past nine months and reached a record 7.46 billion yuan ($1.2bn) on Thursday, a period in which the benchmark equity index jumped 94%. Across the border in Hong Kong, where the Hang Seng Composite Index has surged 7.6% in just the past two days, the gauge's 20 most-shorted stocks surged 18% on average."

Late-stage speculative runs are often fueled by short squeezes. As deteriorating fundamentals and underlying vulnerability begin to manifest, short positions and bearish derivative bets are initiated as both directional speculations and market hedges. At the same time, prolonged bullish cycles ensure upside momentum and general "bullish" inertia. Blow-off tops can be the result of a confluence of policy measures to ward off collapse and an expansive pool of speculative finance that has profited greatly from gaming policy.

There's understandable skepticism that Chinese authorities can hold their increasingly unwieldy Bubble together. Add a stock market Bubble to their already lengthy list of problems. Still, reserves of $3.8 TN are a lot of "money." But how much is needed to sustain the aged Chinese Bubble, it's U.S. counterpart and, perhaps more pertinent at the moment, a faltering global EM and commodities Bubble. In the midst of all the bullish hoopla, it's worth noting king dollar caught a strong bid this week. One of these days, the Super Currency Peg binding the two Super adversaries and their Super Bubbles will need to be disentangled.

The Reconquista of the Mosque of Córdoba

Spain’s most famous mosque is at the center of a dispute between activists seeking to preserve its Muslim heritage, and the Catholic Church, which has claimed it as its own. The result could determine the future of Islam in Europe.

By Eric Calderwood

April 10, 2015

The Reconquista of the Mosque of Córdoba

CÓRDOBA, Spain — For a few weeks last fall, the Mosque of Córdoba, Europe’s most important Islamic heritage site, disappeared from the map.

Or, at least, from Google Maps. If a tourist had Googled directions to the mosque in mid-November, he or she would have only found a reference to the Cathedral of Córdoba — the Catholic house of worship that lies within the mosque’s ancient walls.

The disappearance of Spain’s most famous mosque (and also one of its main tourist attractions) spawned a public outcry. Spaniards flooded Google Maps’ editor with indignant emails, and a group of citizen activists in Córdoba launched an online petition demanding that Google Maps restore the word “mosque” to the monument’s name. The petition accused the bishop of Córdoba of a “symbolic appropriation” of the monument, and it warned that the change to the monument’s name “erases, in the stroke of a pen, a fundamental part of its history.” The petition received over 55,000 signatures in less than three days. On Nov. 25, Google reinstated the mosque, under the official name that has been in use since the early 1980s: the “Mosque-Cathedral of Córdoba.”

Just what prompted the incident, however, remains shrouded in mystery: The Catholic Church has denied any involvement; Google, in a statement to Spain’s leading newspaper, El País, merely said that its map information “comes from very diverse sources.” But in the mosque’s brief, unexplained disappearance, many Spaniards saw a hint of something more sinister: an ongoing effort to erase any traces of Islamic heritage from a building that was once the intellectual and spiritual heart of Muslim Iberia.

In the 10th century, Córdoba was the most spectacular city in Europe and perhaps in the entire world. The city boasted paved and well-lit streets, running water, thousands of shops, and a wealth of booksellers and libraries, including the caliph’s library, which held some 400,000 books. Córdoba’s crown jewel was the colossal mosque commissioned by ʿAbd al-Rahman I in A.D. 785 and expanded by his successors in the Umayyad dynasty that ruled Córdoba. By 929, the Umayyads had claimed for themselves the mantle of the caliphate, in a bid to cast their capital, Córdoba, as the center of the entire Muslim world.

The Mosque of Córdoba was the symbol of Umayyad power and also the center of the city’s intellectual life. Large enough to hold 40,000 people, the mosque served as both the city’s main prayer space and also the university, where the intellectual elite of the western Islamic world went to study. The building commanded such respect that when Córdoba succumbed to the forces of Ferdinand III in 1236, its new Christian rulers transformed the mosque into a cathedral, while preserving its prayer niche (facing toward Mecca) and its celebrated red-and-white horseshoe arches.

In its heyday, the Mosque of Córdoba was the embodiment of the cultural achievements of al-Andalus, the Arabic name for medieval Muslim Iberia. Today, the hybrid structure — a cathedral within a mosque — has come to encapsulate a different ideal: The building evokes a supposedly harmonious past, when Muslims, Christians, and Jews lived together in peace, an idea that the Spanish refer to as convivencia, or “coexistence.”

But convivencia is looking increasingly shaky in modern-day Spain. Despite its Muslim past, the country is currently home to some of the highest levels of anti-Islam sentiment in the West: In 2013, 65 percent of Spaniards surveyed by the Bertelsmann Foundation agreed with the statement that “Islam is not compatible with the Western world,” as compared to 55 percent in France and 45 percent in Britain.
At the same time, Spain is looking to cast itself as a leader in the ongoing conversation about Europe’s increasingly troubled relationship with Islam — based in part on Córdoba and Andalusia’s historical reputation for religious tolerance. The country is trying to position itself as both an international symbol of interfaith harmony and a major destination for Muslim tourism and business.

At the center of these forces stands the Mosque of Córdoba, which has become a focal point in the increasingly fierce debates over how Spain’s Islamic past should inform its present and its future.

* * *

The mosque’s brief disappearance from Google Maps in November is just one chapter in an evolving dispute about the monument’s name and meaning. Since 2006, the Cathedral Chapter of Córdoba, the branch of the Catholic Church that administers the site, has slowly wiped away the word “mosque” from the monument’s title and from the print and online publications about the site, where it is now officially called the “Cathedral of Córdoba.”

The church has also revised the tourist literature for the site in order to emphasize its Christian identity. The official tourist brochure from 1981 extolled the structure as “the foremost monument of the Islamic West” and called it the epitome of “the Hispano-Muslim style at its greatest splendor.” In the mid-2000s, however, the church debuted a new brochure whose introduction does not mention the monument’s Islamic past and, instead, states that the building “was consecrated as the mother Church of the Diocese in the year 1236.” The brochure continues, “Since then and without missing a single day in this beautiful and grandiose temple, the Cathedral Chapter has celebrated solemn worship, and the Christian community comes together to listen to the Word of God and to participate in the Sacraments.” The introduction concludes by asking the visitor to the Cathedral “to be respectful with the identity of this Christian temple.” The period of Muslim rule is relegated to a sidebar, titled “The Muslim Intervention.”

In fact, the new brochure aims to convince the visitor that the building was Christian before it was Muslim, and that the five centuries of Muslim rule were just a parenthesis in Córdoba’s long-standing history as a Christian city. Archaeology plays an important role in this narrative. The church has funded excavations in an attempt to document the existence of a Visigothic church, the Basilica of Saint Vincent, underneath the oldest part of the mosque. “It is a historical fact,” the brochure declares, “that the Basilica of Saint Vincent was expropriated and destroyed in order to build on top of it the subsequent Mosque in the Islamic period.”

Today, when you visit the monument, the first thing you encounter is a glass-covered hole in the floor, through which you can observe excavated mosaics, which a nearby plaque attributes to the Basilica of Saint Vincent. Nevertheless, the church’s archaeological reconstruction is, at best, speculative. Art historian Susana Calvo Capilla, a leading specialist in the history of the building, argued in a public lecture in Córdoba in October that the archaeological findings do not give any clear evidence of a church existing on the site where the mosque was built in the eighth century.
The church’s assault on the monument’s name and Muslim heritage spawned a local outcry in Córdoba, but it did not become a national and international cause célèbre until the past year. The renewed attention was in large part due to the intervention of a group of citizen activists who call themselves the “Platform for the Mosque-Cathedral of Córdoba.” The group launched an online petition in early 2014, demanding that the word “mosque” be restored to the monument’s official name and calling for the building to be administered by a public authority, rather than by the Catholic Church. The petition now has almost 400,000 signees, including such cultural luminaries as the British architect Norman Foster and the Spanish writer Juan Goytisolo. In addition, the platform’s activities have attracted the attention of many international media outlets, including the BBC and Al Jazeera. In December 2014, the Islamic Educational, Scientific, and Cultural Organization (ISESCO), which represents 52 member states, released a statement condemning the name change, calling it “an attempt to obliterate the landmarks of Islamic history in Andalusia, and a provocation for Muslims around the world, especially Muslims of Spain.”

For platform members, the mosque-cathedral is more than just a place. It is “a universal paradigm of concord between cultures,” in the words of their petition. “The fundamental idea of the Córdoba paradigm is to recuperate the historical glory of what Córdoba represented in the ninth and 10th centuries,” said spokesman Miguel Santiago — to preserve it as an “interreligious beacon” for Muslims, Catholics, Jews, and all religions alike.

* * *
 Historians today are divided on whether or not Umayyad Córdoba was actually a place of exceptional tolerance. Scholars hoping to deflate its reputation as a model of interfaith harmony point to such cases as the “martyrs of Córdoba” — Christians who were executed in the city in the ninth century for publicly insulting Islam. Many historians would also point out that it is anachronistic to use the modern concept of “tolerance” to describe social relations in the medieval past.
Yet there are certainly compelling cases of interfaith life from Spain’s Muslim period. Those who want to celebrate al-Andalus as a multicultural paradise exalt figures like Hasdai Iibn Shaprut, a 10th-century Córdoban Jew who served as the personal advisor, physician, and diplomat for the caliph ʿAbd al-Rahman III (who ruled from 912 to 961). Hasdai was also the patron to the Jewish writer Dunash ben Labrat, whose adaptation of Arabic poetry’s meter and themes into Hebrew led to a golden age in Hebrew poetry. Dunash exhorted his fellow Andalusian Jews to “let Scripture be your Eden and the Arabs’ books your paradise grove.”

The truth, though, is that we base our claims about interreligious relations in Islamic Córdoba on a fragmented archive that gives us only fleeting glimpses of what day-to-day life in the city really looked like. How we weave together those fragments into coherent stories about the past depends as much on the historical archive as it does on the hopes, desires, and ideals that we project onto the past. Whether or not Hasdai and Dunash are illustrative cases of medieval Córdoban culture or outliers, their lives continue to speak to us precisely because they provide a counterweight to our world, with its myriad conflicts between Muslims, Jews, and Christians.

In the end, assertions about the tolerance of Islamic Córdoba tell us more about our current moment than they do about the medieval past.

The idea of a once-multicultural and tolerant Córdoba has become even more powerful in the post-9/11 era, when it has often served as a corrective for the “clash of civilizations” mentality that underwrote the Bush-era “war on terror.” U.S. President Barack Obama evoked Córdoba’s “proud tradition of tolerance” in his famous 2009 speech in Cairo. Playing on this same theme of tolerance, the Muslim leader behind the controversial “Ground Zero mosque” in New York, Imam Feisal Abdul Rauf, called the proposed Islamic cultural center “Córdoba House.” The name, he wrote in his book Moving the Mountain, was meant to recall a place and time in which “Jews, Christians, and Muslims lived in what was then the most enlightened, pluralistic, and tolerant society on earth.”

The idea of Córdoba’s tolerance has become the bedrock for a potent marketing strategy for the former capital of the caliphate. At the same time that the mosque-cathedral’s Islamic identity is under threat, business and cultural leaders in Córdoba are working to position the city as a major destination for Muslim tourism and as the leading European producer of halal food and services. According to a report published by Thomson Reuters and the consulting firm DinarStandard in December, the global Muslim market spent $140 billion on travel in 2013, accounting for 11.5 percent of global travel expenditures, and $1.3 trillion on food, or 17.7 percent of global expenditures. With growing international competition for a share of what the report dubs “the global Muslim lifestyle market,” Córdoba and Granada, two of the most emblematic cities of al-Andalus, are positioning themselves to lead the Spanish charge in this new market. Córdoba’s city government has partnered with several Spanish Muslim organizations to propose the creation of a halal “cluster” in Córdoba, which, they say, will host as many as 1,300 businesses devoted to halal food and service in a region where the unemployment rate hovers at around 34 percent.

When the Halal Institute, which certifies halal food and products in Spain, announced the “Córdoba Halal” project on its website in late 2014, it suggested that Córdoba’s multicultural past made the city a logical home for the initiative: “In the collective imaginary of Muslims, Córdoba is a historical point of reference of Islamic civilization in the West, and, therefore, what we seek when we visit this city is to find a place that carries values such as concord, mutual respect, religious freedom, diversity.”

The Córdoba brand has also created a space for Spanish travel agencies that focus exclusively on Muslim tourism to Spain. Most clients of the Madrid-based agency Nur and Duha come from Southeast Asia or the Gulf countries, said Flora Sáez, the agency’s director and a Spanish-born convert to Islam. For her clients, Sáez said, Córdoba is “a myth,” which symbolizes “the past, the lost splendor.” She said, “We’ve seen more than a few of our clients cry from the emotion of visiting the Mosque of Córdoba.”

Andalucian Routes, another tourist agency, works mostly with Muslim youth groups from Western countries. The agency’s director, Tariq Mahmood, was born in Pakistan and grew up in Birmingham, England. He first traveled to Spain as a teenager on a road trip with friends.

At the time, he says, he was experiencing an “identity crisis” because he did not feel accepted in British society. Visiting Spain’s Islamic heritage sites gave him “the missing link for my Asian-Muslim-Islamic identity and my Western identity.” He believes that travel in Spain can help young European Muslims see that “there’s no contradiction” between being Muslim and being European.

* * *
Scholars and journalists alike have tended to see the presence of Muslims in Europe as a postwar phenomenon, related to the migration of former colonial subjects to such metropoles as Paris and London. Spain, too, has seen these demographic shifts: According to the most recent census of Spain’s Muslim population, there are currently 1,858,409 Muslims living in Spain, and of them, almost 800,000 are Moroccan citizens. Most of the Moroccans in Spain hail from the northern regions of Morocco, which were part of the Spanish protectorate in Morocco from 1912 to 1956.

What distinguishes Spanish Muslims is not demographics but discourse. French Muslims are often cast as a new challenge to old republican values — and, in particular, to the idea of laïcité (secularism). Spanish Muslims, in contrast, can draw upon the country’s Muslim past in order to envision themselves as essential parts of Spanish identity, rather than as awkward additions to it.

A recent spike in Spanish Islamophobia, however, has challenged Spanish Muslims’ efforts to see themselves as part of their country’s social fabric. Politicians on the Spanish right have taken to scaremongering about an imminent Muslim “reconquest” of Spain: In a press conference held in Córdoba in November, Santiago Abascal, the fiery leader of a populist far-right Spanish political party named Vox, accused the platform — the group petitioning to restore “mosque” to the mosque-cathedral’s name — of throwing “a lifeline to jihadism.” He also warned that “Córdoba, Granada, and al-Andalus … are in the sights and the ideology of the most radical Islam.”
In the run-up to the March 22 Andalusian elections, Vox produced an incendiary YouTube video about the mosque-cathedral. In a fake newscast dated March 2018, the newscaster announces that the government of Andalusia has “expropriated” the monument from the Church, and that “the Mosque of Córdoba will be reserved, from now on, for Muslim prayer.” The newscaster then goes to a fake reporter in Córdoba, a woman dressed in a headscarf, who reports that over 20 Muslim countries have sent delegations to congratulate the Andalusian government on its decision, with the biggest delegation coming from Iran. She concludes by estimating that more than 2 million Muslims are planning to move to Córdoba in order to “reconnect with their past and their culture.” The video cuts to black, and then the following text appears: “Do you want a future like that? We can still change it. Vox.”

The video drew more than 300,000 views in less than a week, and it was the talk of the town in Córdoba. The massive response to Vox’s video did not translate into votes; in the March elections, Vox only received 0.33 percent of the city’s vote. But the provocative video is, nonetheless, a stark reminder of the Islamophobic backdrop against which the mosque-cathedral debate is unfolding.

I first spoke with Santiago, the spokesman for the “Platform for the Mosque-Cathedral of Córdoba” on Jan. 8, the day after the Charlie Hebdo attacks. The events in Paris cast a long shadow over our conversation. Santiago presented the mosque-cathedral, with its hybrid architecture and origins, as an antidote to the extremist ideology behind the attacks that ravaged Paris. The edifice, he said, is “a universal mirror to tell the world that intercultural life is possible, that interreligious life is possible because humans are mixed.” Antonio Manuel Rodríguez, another prominent voice in the platform, called Córdoba’s tradition of tolerance “an extraordinarily useful social tool” in the face of Europe’s increasingly fraught relationship with Islam.

The members of the platform are not alone in seeing the debate over the mosque-cathedral as an important flashpoint in the broader debate about intercultural life in contemporary Europe. When El País organized an homage for the victims of the Charlie Hebdo attacks, the paper’s president, Juan Luis Cebrián, gave a speech in which he criticized the bishop of Córdoba for removing the word “mosque” from the name of the mosque-cathedral. In the same speech, Cebrián accused the bishop of “assaulting” Spanish Muslims and of provoking “attitudes of hate and fundamentalism.” Guillermo Altares, a staff writer for El País, wrote a few weeks later that Córdoba “is missing an opportunity to become a pole of dialogue between religions at a moment when that is more necessary than ever.”

Whatever the international repercussions of the controversy might be, Muslims in Spain are already feelings its effects. All of the Muslims I interviewed for this article shared recent stories about times when they or their friends had been harassed when visiting the mosque-cathedral. When I asked Kamel Mekhelef, the president of the Association of Muslims in Córdoba, about these anecdotes, he replied: “Those aren’t anecdotes; they’re realities…. Just 10 days ago, a couple from Arabia came to visit, a man and his wife. I took them to visit the mosque. Even though the guards there know me, the second we entered, they started talking with each other on their walkie-talkies and following us.

Because they have that paranoia that every Muslim who enters there is going to try to pray.”

The former president of the Córdoba-based Islamic Council, Mansur Escudero, made an international splash when he petitioned Pope Benedict, in 2006, to turn the Cathedral of Córdoba into an ecumenical space, open for both Muslim and Christian prayer. When the petition was rejected, Escudero began performing his Friday prayers outside the mosque-cathedral as a protest against the Church’s decision. Escudero died in 2010, and the Islamic Council has since retracted its call for universal use of the monument.

For Mekhelef, the issue is not whether Muslims are allowed to pray in the mosque-cathedral. What bothers him more is that some non-Muslim Spaniards do not want to see the history of Islamic Córdoba as part of their own history. “There is an attempt to falsify history,” he said, and to make Spaniards believe that the medieval Islamic civilization built there “is something alien to them. And that’s not how it is, because it’s something that came from here. It is Córdoban.” The famous philosophers and physicians of the period “weren’t from Arabia or from Algeria or Morocco. They were Córdobans.”

* * *
In June of 1766, the Moroccan ambassador to Spain, Ahmad bin al-Mahdi al-Ghazzal, passed through Córdoba on his way to Madrid to negotiate a peace treaty between Spain and Morocco. The trip was a homecoming of sorts. In 1492, Ghazzal’s ancestors had been driven off the Iberian Peninsula. By crossing the Strait of Gibraltar, Ghazzal was also crossing the threshold between present and past in order to reconnect with one of the greatest periods of cultural splendor in Islamic history.

Córdoba and its famous mosque were the centerpiece of Ghazzal’s nostalgic tour. Ghazzal visited Córdoba over 500 years after its Christian conquest, but when he entered the city’s most renowned monument, he did not see a cathedral. Rather, he saw a time when Córdoba was the home of 70 libraries and some of the leading philosophers, doctors, and poets of the world.

“We remembered what had happened there during the time of Islam,” Ghazzal writes. “All of the sciences that were studied there, and all of the Qurʾanic verses that were recited there, and all of the prayers that were performed there, and how many times God (let him be exalted!) was revered there.

And we began to imagine that the mosque’s walls and its columns were greeting us and consoling us from the great sorrow we felt, until we began to address the inanimate objects and to embrace the columns, one by one, and to kiss the walls and the surfaces of the mosque.”

Today, 1.5 million visitors a year follow Ghazzal’s footsteps to the Mosque-Cathedral of Córdoba, hoping to catch a glimpse of a time when the most culturally advanced part of Europe was Muslim. Saad Bourkadi, a Moroccan engineer from Rabat, is one of them. Bourkadi has visited Córdoba every year for the past three years as a member of a Moroccan cultural association that organizes an annual trip to Spain’s Islamic heritage sites in Córdoba, Seville, Granada, and Toledo.

In February, Bourkadi told me that his group doesn’t plan to visit Córdoba this year because they are afraid of visiting the mosque. There has been a “radical change in the treatment of Muslims,” he said. “When you enter the mosque, and the guards see that you are Muslim,” he told me, “they tell you that prayer is forbidden.” When Bourkadi and his group visited the site in the summer of 2014, they expected to be warned not to pray. What they didn’t expect was that the guards would trail them closely from section to section, making sure that that they didn’t even try. Bourkadi says that the guards’ harassment of Muslim visitors is so severe that he thinks “they want to make sure that you know that you are being harassed.” He observed that his group was visiting the monument alongside a group of Japanese tourists, who were able to walk around and take pictures without any monitoring from the guards. (A spokesman for the Cathedral Chapter denied that his organization gives any special instructions to the security guards about how to treat Muslim visitors.)

And yet Córdoba and its mosque remain an important symbol for Bourkadi and his fellow Moroccans, millions of whom claim descent from al-Andalus. In fact, the 2011 Moroccan constitution enshrines al-Andalus as a major component of Moroccan “national identity,” which the constitution describes as “the Moroccan people’s attachment to the values of openness, moderation, tolerance, and dialogue” — in short, convivencia. It is this spirit of intercultural dialogue that attracted Bourkadi, an engineer, to become an amateur historian and enthusiast of Spain’s Islamic past. “I believe that the study of al-Andalus is a way of creating common ground with Spain,” Bourkadi told me. “It is a means of drawing Spain and Morocco closer together.”

But Bourkadi no longer feels welcome here. And for now, he has no plans to come back.
Eric Calderwood is an Assistant Professor of Comparative Literature, Arabic Studies, Spanish and Portuguese, and Medieval Studies at the University of Illinois (Urbana-Champaign). His research focuses on cultural relations between Spain and the Arab world.

Mon, Apr 13, 2015, 7:34AM EDT
The $9 Trillion Short That May Send the Dollar Even Higher

By Anchalee Worrachate

Investors speculating the dollar rally is fizzling out may be overlooking trillions of reasons why it will keep on going.

There’s pent-up demand for the U.S. currency that will underpin years of appreciation because the world is “structurally short” the dollar, according to investor and former International Monetary Fund economist Stephen Jen.

Sovereign and corporate borrowers outside America owe a record $9 trillion in the U.S. currency, much of which will need repaying in coming years, data from the Bank for International Settlements show.

In addition, central banks that had reduced their holdings of the greenback are starting to reverse course, creating more demand. The dollar’s share of global foreign reserves shrank to a record 60 percent in 2011 from 73 percent a decade earlier, though it’s since climbed back to 63 percent.

So, the short-term ebbs and flows caused by changes in Federal Reserve policy or economic data releases may be overwhelmed by these larger forces combining to fuel more appreciation, according to Jen, the London-based co-founder of SLJ Macro Partners LLP and the former head of currency research at Morgan Stanley.

Dollar ‘Power’

“Short-covering will continue to power the dollar higher,” said Jen, who predicts a 9 percent advance in the next three months to 96 cents per euro. “The dollar’s strength is not just about cyclical factors such as growth. The recent consolidation will likely prove to be temporary.”

Most strategists and investors agree on the reasons for the dollar’s advance versus each of its major counterparts during the past year: the prospect of higher U.S. interest rates while other nations are loosening policy.

Bloomberg’s Dollar Spot Index, which tracks the U.S. currency against 10 major peers including the euro and yen, has surged 20 percent since the middle of 2014. The gains stalled recently, sending the index down more than 3 percent in the three weeks through April 3, as Fed officials tempered investors’ expectations about the pace of rate increases.

Top Forecaster

Jen isn’t the only one who thinks short-dollar positions will cause the rally to extend.

Chris Turner, head of foreign-exchange strategy at ING Groep NV, sees the dollar surging through parity with the European currency by mid-year, from $1.0530 per euro as of 7:05 a.m. in New York. He said gains will be spurred by bonds from Germany to Ireland yielding below zero.

“Central banks are re-accumulating their dollar reserves and low, or negative, bond yields in the euro zone will probably speed up that trend,” said London-based Turner, whose bank topped Bloomberg’s rankings for the most accurate currency forecasts in the past two quarters.

Not everyone thinks the dollar will keep on climbing. Billionaire Bill Gross of Janus Capital Group Inc. called his contrarian bet against the greenback “the trade of the year.” His short is premised on the spread between U.S. and European interest rates narrowing.

Adrian Lee, whose eponymous investment company oversees more than $5 billion, disagrees. He points to monetary policy as the biggest driver of dollar strength as the tightening bias of the Fed contrasts with a European Central Bank that’s expanding the money supply.

Rate Outlook

“The dichotomy between Europe and the U.S. is most interesting,” said Lee, chief investment officer at Adrian Lee & Partners, which has offices in London and Dublin. “If you ask where our strategy would be in a year’s time, we can easily have a forecast of the euro well below $1.”

He also sees another structural factor that’s underpinning the dollar: the U.S.’s shrinking current-account deficit.

The decline in oil prices -- even with the shale-gas revolution, the nation is still an importer -- has helped the U.S. reduce its trade shortfall to 2.3 percent of gross domestic product, according to data compiled by Bloomberg. That’s down from a record 5.9 percent in 2006.

For Jen, the rise in dollar-denominated debt across the globe is key. The $9 trillion owed by borrowers outside the U.S. has surged from $6 trillion at the end of 2008 -- when the Fed cut its benchmark interest rate to near zero, making it cheaper to issue in the currency.

Repaying Debt

Russian gas producer OAO Gazprom, Spanish phone company Telefonica SA and ArcelorMittal, the world’s largest steelmaker, have each raised about $12 billion in the U.S. currency since then, data compiled by Bloomberg show. France and Sweden are among the biggest sovereign issuers, borrowing more than $100 billion between the two.

Some of that will need to be repaid even if the remainder will be rolled over. And debt that will eventually be refinanced needs servicing in the meantime.

“After years of accumulating a huge amount of debt in dollars, borrowers will need to figure out how to repay” given the currency’s recent gains, Jen said. “People will either repay early or start hedging actively. There’ll be huge demand for the dollar that is much more than what’s consistent with growth or interest-rate differentials.”

Normalisation with Cuba

The thrill of the thaw

American business is eager to cross the Florida Strait, but obstacles remain

Apr 11th 201

And they're off, again

IN THE late 1950s, when the Fabulous Rockers were hitting the big time, their hometown of Ybor City, near Tampa, Florida, was like Havana today: run down, its hand-rolled cigar industry an historic relic. In those days, the place to be was not Tampa or Miami, but Havana, which for Florida bands was as tantalising as Las Vegas.

They never made it. In 1959 Fidel Castro’s revolutionaries took power. Less than two years later Dwight Eisenhower imposed an embargo, and most ties were severed for the next 54 years. The band’s members did not give up on their dream. On May 15th they hope to fulfil it by headlining at the celebrated Hotel Nacional, on the seaside Malecón in Havana. “We’re very excited,” says Manuel Fernandez, who plans to lead 60 ageing groupies to Cuba to hear the band, now called the Ybor City Rockers. “It’s monumental.”  

Rock gigs are not the only opportunities that have been opened up by President Barack Obama’s dramatic announcement on December 17th that restrictions on travel to and trade with Cuba would be eased. Lawyers, travel executives, bankers, farmers and tech moguls, among them Google’s top brass, are heading to the island to scope out business opportunities in a post-embargo future. Their excitement has mounted further with the approach of the Summit of the Americas in Panama City on April 10th and 11th, where Mr Obama and Raúl Castro, the Cuban president, are expected to meet for the first substantive discussions between American and Cuban leaders in more than 50 years.  

Although the mood is giddy, the obstacles to trade and investment remain formidable. The December 17th agreement opened a chink in the trade blockade: it allowed more Americans to visit Cuba without special permits, enabled them to spend more money there and to send more remittances. It also permitted banks and telecoms firms to take steps toward operating in Cuba. The State Department’s designation of Cuba as a sponsor of terror subjects the country to sanctions that terrify banks. It is likely to be taken off the list soon.

But the embargo still forbids most American trade and investment, and can only be removed by Congress. Before it is lifted, lawyers say, at least some of about $7 billion of claims by American citizens and companies that lost property after the revolution needs to be paid.

On the Cuban side, the state still controls vast tracts of the economy, including foreign trade, banking and law. A dual-currency system is proving difficult to dismantle because of a lack of hard currency. Inefficiencies and arbitrary decision-making can make doing business in Cuba a nightmare. One foreign businessman active in the country says investors stay away because some have been jailed without due process. That, he believes, even explains why there is so little Chinese investment.

Three types of American business are seeking entry into Cuba, by three different routes. The first are mom-and-pop entrepreneurs, mostly Cuban-Americans who have a personal stake in the island’s development. They have been active in Cuba all along, visiting relatives and putting cash (illicitly) into their fledgling enterprises. The easing of the embargo has given such business a boost. Many small-scale merchants can be found in Hialeah, a Miami suburb. As Carlos Loumiet, a Cuban-American lawyer at Broad and Cassel in Miami, puts it, “Hialeah, not downtown Miami, is the economic engine for what is happening in Cuba.”

Amid the suburb’s boxy houses are stores whose fortunes are tied to the island, such as travel agencies and remittance firms. A vast warehouse called Ñooo Que Barato!! (“Holy Shit, It’s Cheap!!”) sells uniforms in Cuban school colours at $10, along with shoes, underwear and perfumes that are often bought by the pound and smuggled into Cuba in duffel bags known as “worms”.

Among the hottest items, says the store’s owner, Serafin Blanco, are $3.99 bags of flints for mending old lighters; they easily escape detection by Cuban customs officials. Fabián Zakharov, a Russian-born Cuban in Hialeah, imports parts for Lada cars from Russia. His customers take them to Cuba in suitcases to help friends and relatives fix up their old bangers.

Easier travel will drum up new business for private guesthouses, restaurants and other small enterprises that have opened up after a cautious liberalisation by Cuba’s communist government. Their financial backing comes largely from remittances from the United States.

Some see the spur to ground-level go-getting as the cleverest part of Mr Obama’s strategy. It bolsters independent entrepreneurs, who are likely to be supporters of the dialogue between the United States and Cuba and of the reforms that may flow from it. “This is being driven by grassroots capitalism there and here,” Mr Loumiet says.

But the embargo, and Cuba’s entrenched suspicion of enterprise, sets limits. The Castro government still makes it almost impossible for most private firms to import supplies or to receive foreign investment. Mr Zakharov says his business suffered recently because duties on car parts have soared.

In Cuba owners of private restaurants, or paladares, complain that the government tries to stop them from importing such items as exotic spices—a deliberate attempt, they say, to keep them from flourishing.

The second type are bigger businesses hoping to piggyback on greater travel and information exchanges. In February Netflix, which lets you stream films over the internet, said it was launching its service in Cuba. Although the company cautioned that few Cubans have broadband connections or access to credit cards, people returning from Cuba say that some wily locals have subscribed to Netflix and turned their homes into informal cinemas to defray costs. In February IDT Corp, a telecoms company based in New Jersey, pulled off a surprise deal establishing the first direct connection between an American company and Etecsa, Cuba’s state telecoms company. Talks had gone nowhere for much of the previous four years.

Direct charter flights to Cuba started in March from New York and New Orleans, adding to dozens a week from Miami and Tampa. Ferry operators are talking to American and Cuban authorities about relaunching direct ferry routes from the Florida Keys, but that may take time. American immigration officials worry that the vessels will bring an influx of illegal immigrants. Cuban officials fear a surge of illegal imports. This month Airbnb brought the sharing economy to Cuba by offering American visitors rooms in private homes. That is allowed under the new American rules because it supports microbusinesses.

The third route, taking the biggest American brands into Cuba, is the most difficult. Cuban officials shudder at the thought of a McDonald’s in downtown Havana. American airlines are keen to start scheduled flights to Cuba, but first the two countries need to sign a new air-service agreement. In negotiating that, lawyers say, Cuba will want to ensure that its own aircraft are not seized in the United States as forfeit for American property confiscated during the revolution. That may prove as tough as lifting the embargo.
Jamming with the Rockers tomorrow?

Hotel owners also want to enter a Caribbean paradise on America’s doorstep, not least because the embargo has given foreign resort operators, such as those from Spain, a headstart. Pedro Freyre of Akerman, a Florida-based law firm, calls mass tourism the “Willy Wonka golden ticket”. Yet he notes that while the embargo exists there is no scope for the sort of joint ventures that Spanish, Canadian and other hotel chains have entered into. Even if there were, Cuba lacks the energy, food and infrastructure to support millions of American tourists.

Overshadowing all potential business relationships is the embargo’s ban on the provision of credit. American banks give Cuba the widest berth. Until Cuba is removed from America’s list of sponsors of terrorism, there is “no way an American bank can touch a Cuban bank”, says Fernando Capablanca of the Miami-based Cuban Banking Study Group. Even American firms allowed to trade with Cuba under the embargo, such as grain exporters, are often thwarted because they cannot obtain letters of credit.

The hurdles are not stopping lawyers from preparing for what may lie ahead. Law firms have drafted Iranian specialists into their Cuba teams to advise on a post-sanctions future. The Florida Bar is planning to send a team of international lawyers to Havana in May to learn about Cuba’s judicial system. Some have contacted Spanish, Canadian and Brazilian lawyers to find out about their experiences in dealing with their counterparts on the island. “We have heard horror stories,” says James Meyer of Harper Meyer, a law firm.

The enthusiasm in the face of obvious pitfalls suggests an element of blind faith. “If we don’t see the Cubans move towards a more liberal foreign-investment and trade regime, you will see a lot of this excitement disappear,” says Ricardo Herrera of Cuba Now, a pro-Cuba advocacy group.

Yet progress, though slow, is probably unstoppable. The Cuban government may become so dependent on American dollars as a substitute for reduced aid in the form of subsidised oil from crisis-ridden Venezuela that it will have little choice but to continue to reform. The Obama administration has craftily raised expectations to such a degree that backsliding now seems unthinkable, visitors say. Mr Herrera tells the story of a Cuban couple who, after Mr Obama’s announcement in December, put away their condoms and for the first time set about trying to have a baby. For some older Cubans, the thrill of the thaw will come from the Ybor City Rockers.

Review & Outlook

The Humbling of Big Finance

GE balks at the costs of being too big to fail.

April 10, 2015 6:54 p.m. ET

   Photo: Tim Brakemeier/Zuma Press

General Electric GE 10.80 % ’s decision Friday to shed most of its finance business marks a strategic shift for one of America’s marquee companies. But it may be more important as a symbol of how the U.S. economy is adapting to the new era of financial regulation and too-big-to-fail supervisión.

GE surprised markets by saying it would “create a simpler, more valuable company by reducing the size of its financial businesses through the sale of most GE Capital assets” and by focusing on its industrial businesses. The company has struck deals to sell $26.5 billion in real-estate assets, and aims to sell all of its commercial and consumer banking businesses. It intends to keep financing arms for its aviation, energy and health-care units.

While GE Capital earned $7 billion last year—42% of GE’s overall profits—the unit’s earnings were down 12% and its returns on capital have been lackluster. GE’s long-time CEO, Jeff Immelt, added by way of explanation that “the business model for large, wholesale-funded financial companies has changed, making it increasingly difficult to generate acceptable returns going forward.”

Political translation: Getting money out of GE Capital as a dividend to the parent company in the future would depend on the mood of regulators at the Federal Reserve. Investors loved the move, sending GE shares up 11%, among the biggest one-day gains in a Dow Jones-index stock in years.

GE also wasted no time saying it wants to get out from under its designation as a “systemically important financial institution.” The SIFI label is what the federal Financial Stability Oversight Council now slaps on too-big-to-fail companies, and GE was one of the first to earn the honor. This reflects its size, as well as its near-failure during the financial panic when it needed federal debt guarantees and commercial paper assistance.

The trouble is that the SIFI label comes with enormous new costs and supervision. The exact costs aren’t clear, but note that GE is so eager to escape the Fed that it is willing to pay $6 billion in taxes to repatriate cash from overseas as part of its financial shrinkage.

Note too the way GE highlighted its financial unit in the illustrations that accompanied Mr. Immelt’s letter to shareholders in its recent annual report. A photo of GE’s executive team was included, along with shots of the management teams for industrial units. But for GE Capital the smiling group was captioned as the “Regulatory Team.” Regulatory compliance is a cost center, not a profit opportunity.

Many in Washington will claim that GE’s move is healthy if it means less financial risk-taking, and they have a point—up to a point. The financial system did become too large during the mania of the 2000s, thanks mainly to the Fed’s subsidy for credit and laws that over-promoted housing. Bankers took advantage by taking too much risk, and the mania turned to panic and bailout.

It thus might help the entire economy if GE’s financial assets can be dispersed and better managed by smaller companies. It would help even more if those companies fall outside the regulatory maw created by Dodd-Frank. This would shrink the taxpayer safety net, while also allowing for more financial innovation.

The GE decision might even be followed by other too-big-to-fail giants if they find their return on capital suffering under the regulatory yoke. This would be the market’s way of adapting to new regulation.

This assumes that the Fed and Treasury won’t go after the buyers of bank assets and attempt to tag them as SIFIs. Fed officials love to warn about “shadow banking”—which means the financial companies they don’t control—but the history of finance is that it always adapts to escape excessive regulation. The mistake is assuming the regulators are so all-seeing they can prevent a future crisis.

What Washington should promote—and what would be the antithesis of Dodd-Frank—is clear and simple rules. Banks that accept taxpayer-protected deposits need supervision and high capital levees.

The rest of the financial system needs to be allowed to take risks—and fail without federal help. Perhaps GE’s financial selloff is the market’s way of beginning to break free from the Dodd-Frank model of finance as a public utility.

IMF Executive Board Concludes 2014 Article IV Consultation with Brazil

Press Release No. 15/167

April 10, 2015

The Executive Board of the International Monetary Fund (IMF) concluded the Article IV Consultation1 with Brazil on March 16, 2015.

Starting in 2015, the new government has been introducing a series of measures to strengthen macroeconomic policies and restore credibility following a period in which Brazil’s growth has surprised on the downside. Determined implementation of these measures should help restore confidence and foster a recovery in growth and investment in due course.

Brazil’s growth has decelerated in recent years.2 The boost from decade-old reforms, expanding labor income, and favorable external conditions, which enabled consumption and credit-led growth and underpinned sustained poverty reduction, has lost steam. Investment has been sluggish, reflecting eroding competitiveness, a worsening business environment, and lower commodity prices.

Consumption has also moderated despite strong wage increases, as job creation has halted and financial conditions have tightened, affecting household income and consumer confidence.

In recent years, headline and core inflation have been near the upper-edge of the inflation tolerance band, owing in part to sustained wage cost pressures, lingering indexation practices, and, more recently, the ongoing drought. In turn, longer-term inflation expectations rose since 2011, although they have edged down since end-2014. Meanwhile, modest increases in regulated energy and fuel prices helped hold back overall inflation for some time. But overdue adjustments in regulated prices are now underway, while inflation in market-determined prices is moderating reflecting tighter financial conditions and subdued economic activity. New inflation pressures are emerging from the Real’s nominal depreciation.

The central bank hiked the monetary policy rate 375 basis points to 11 percent between April 2013 and April 2014. Policy tightening paused from May through September 2014. Between October 2014 and March 2015, the rate was again increased by a cumulative 175 basis points to prevent second round effects from currency depreciation and the anticipated increases in regulated prices.

Despite weakening domestic demand, the current account deficit reached 4.2 percent of GDP in 2014, up from 2.4 percent of GDP in 2012. The deterioration reflects worsening terms of trade, a drop in exports to Argentina, and an increase in fuel imports necessitated by the drought. The recent depreciation against the U.S. dollar, arising in part from general dollar strength, has not translated one-for-one into gains against competitors in global markets. Moreover, persistently high unit labor costs continue to dampen competitiveness. As a result, the external position is weaker than desirable, with the real still overvalued at end-2014.

International reserves are high and capital flows have remained stable. FDI financed more than 70 percent of the current account deficit in 2014, and portfolio inflows have been buoyant. At about US$362 billion, gross international reserves (cash concept) are well above the IMF’s reserve adequacy metric and other standard benchmarks.

The banking system’s soundness indicators remain favorable. Although private sector leverage and past expansion of public bank lending are potential sources of stress, banks’ indicators are encouraging, showing adequate levels of capitalization and provisioning as confirmed by stress tests.
In 2013, the non-financial public sector primary balance declined to 1.9 percent of GDP, undershooting its 2.3 percent target despite one-off revenue measures. Coming on top of tax breaks introduced over 2012-2013, rapid real expenditure growth and slowing revenues brought the primary fiscal balance of the nonfinancial public sector to -0.6 percent of GDP in 2014, despite one-off measures of about ½ percent of GDP. Policy lending to public banks also edged back up. As a result, nonfinancial public sector gross debt increased to 71 percent of GDP. Declining growth and weak fiscal performance affected Brazil’s sovereign credit rating in 2014. Standard & Poor’s cut Brazil’s credit rating to BBB- in March 2014, its first downgrade since July 2002. In September 2014, Moody’s revised Brazil’s sovereign rating outlook to negative.

Since January 2015, the government began introducing a series of important measures to strengthen macroeconomic policies and restore credibility. The linchpin of the new strategy is an ambitious fiscal adjustment to bring the primary surplus of the nonfinancial public sector to 1.2 percent of GDP in 2015 and to at least 2 percent of GDP in 2016 and 2017. The measures aim first to stabilize nonfinancial public sector gross debt and then put it in a downward trajectory.

Fund staff projects negative output growth of 1 percent in 2015, with some drag from tighter fiscal and monetary policies and from the cuts in investment by Petrobras adding to the downward momentum in activity carried over from 2014. Successful implementation of the fiscal adjustment strategy and other policy actions should contribute to strengthen confidence and help reinvigorate investment in the latter part of 2015, providing the basis for a return to positive growth in 2016. The outlook is subject to significant downward risks, including drought-induced rationing of energy and water, the possible fallout from the Petrobras case, and a more adverse international environment.

Executive Board Assessment3

Executive Directors underlined the success of the Brazilian authorities in reducing unemployment, poverty, and inequality in recent years. Directors noted that stalling growth, high inflation, and deteriorating public finances pose difficult challenges, while external downside risks also weigh on the outlook. In this context, they emphasized the need to further strengthen policy credibility and market confidence, boost investment and competitiveness, and reinforce the foundation for strong, balanced, and sustainable growth.

Directors welcomed the newly announced fiscal strategy, which includes targets for 2015−17, the decision to end policy lending to public banks, and the emphasis on reducing gross debt ratios. They stressed that achieving the budget targets would require ambitious, front-loaded measures. They supported the focus on cuts in current expenditures and tax exemptions to make room for priority spending on investment and social programs. Many Directors pointed to the benefits of targeting a higher primary surplus over the next two years in further strengthening policy credibility and the fiscal position, although some cautioned about the growth impact of such adjustment. Directors saw a need for continued fiscal reforms to reduce budget rigidities, simplify the tax system, and address structural sources of fiscal pressure more broadly, including the pension and wage indexation systems.

Directors encouraged strengthened governance frameworks in state-owned enterprises. They considered it an immediate priority to address the problems at the state-owned oil company and welcomed the authorities’ commitment to find a swift resolution.

Directors generally agreed that monetary policy should remain tight. They welcomed the authorities’ commitment to the announced inflation target and their readiness to take additional action so as not to jeopardize that target. Directors recommended further efforts to improve monetary policy transmission and the inflation targeting framework over time.

Directors noted that Brazil’s flexible exchange rate has an important role to play as the main shock absorber. They welcomed the recent scale-down of the foreign exchange intervention program and recommended that its use remain limited to smoothing out excessive volatility, thereby allowing a further depreciation of the exchange rate in line with fundamentals and promoting external competitiveness.

Directors recognized the soundness of the banking system, with adequate capital buffers, provisioning, and liquidity. They stressed the importance of monitoring banks’ balance sheets and corporate leverage in the current low-growth environment. Enhanced bank supervision, including for public banks, as well as targeted microprudential measures, would help mitigate potential risks. Directors were encouraged by the significant progress being made in implementing key recommendations of the Financial Sector Assessment Program.

Directors considered supply-side reforms as critical for boosting the economy’s productive capacity and growth potential. They recommended that priority be placed on infrastructure investment and initiatives to enhance tax efficiency, improve the business climate, and foster international trade. Prioritization of reforms and greater private sector participation will be key to success.

Brazil: Selected Economic and Social Indicators
  • I. Social and Demographic Indicators
 Area (thousands of sq. km)8,512  Health 
 Agricultural land (percent of land area)31.2  Physician per 1000 people (2010)1.8
 Population   Hospital beds per 1000 people (2011)2.3
 Total (million) (est., 2013)198.3  Access to safe water (2011)97.2
 Annual rate of growth (percent, 2013)0.9  Education 
 Density (per sq. km.) (2012)23.3  Adult illiteracy rate (2013)9.7
 Unemployment rate (average, 2013)5.4  Net enrollment rates, percent in: 
 Population characteristics (2013)   Primary education (2013)93
 Life expectancy at birth (years)75  Secondary education (2013)54
 Infant mortality (per thousand live births)15  Poverty rate (in percent, 2013)15.1
 Income distribution (2013)   GDP (2013)   R$4,845 billion
 By highest 10 percent of households41.6     US$2,246 billion
 By lowest 20 percent of households3.2  GDP per capita (est., 2013) US$11,326 billion
 Gini coefficient (2013)49.5        
 Main export products: Airplanes, metallurgical products, soybeans, automobiles, electronic products, iron ore, coffee, and oil. 
  • II. Economic Indicators
 National accounts and prices(Annual percentage change)
 GDP at current prices9.
 GDP at constant prices2.
 Consumer price index (IPCA, end of period)
   (In percent of GDP) 
 Gross domestic investment19.717.518.116.416.517.217.517.818.018.3
 Private sector17.415.015.613.714.214.915.215.415.615.8
 Public sector2.
 Gross national savings17.615.114.512.212.913.614.014.414.614.8
 Private sector17.915.315.116.115.515.415.315.115.115.3
 Public sector-0.2-0.2-0.6-4.0-2.6-1.8-1.3-0.7-0.5-0.5
 Public sector finances(In percent of GDP)
 Central government primary balance 1/
 NFPS primary balance3.12.11.9-
 NFPS overall balance-2.6-2.8-3.3-6.8-5.1-4.3-3.8-3.2-3.1-3.1
 NFPS overall balance (incl. net policy lending)-3.6-4.2-3.9-7.9-5.1-4.3-3.8-3.2-3.1-3.1
 Net public sector debt36.435.333.637.239.338.938.
 GG gross debt (authorities’ definition)54.258.856.764.2..................
 NFPS gross debt64.768.
 Of which: Foreign currency linked2.
 Money and Credit(Annual percentage change)
 Base money 2/10.8-13.613.1-
 Broad money 3/18.515.98.915.514.814.514.
 Bank loans to the private sector20.215.815.311.511.611.912.412.813.113.5
 Balance of payments(In billion of U.S. dollars, unless otherwise specified)
 Trade balance29.819.42.4-3.99.811.115.722.823.725.0
 Current account-52.5-54.2-81.1-90.9-73.5-76.7-79.2-79.7-85.9-90.1
 Capital account and financial account112.470.074.299.673.576.779.279.785.990.1
 Foreign direct investment (net)67.768.167.566.053.954.052.653.855.356.8
 Overall balance58.618.9-5.910.
 Terms of trade (percentage change)7.8-5.8-2.1-3.72.5-1.2-1.1-0.8-0.6-0.6
 Merchandise exports (in US$, annual pct. change)26.8-5.3-0.2-7.0-
 Merchandise imports (in US$, annual pct. change)24.5-1.47.4-4.4-
 Total external debt (in percent of GDP)16.319.621.425.728.829.530.030.531.031.5
 Memorandum items          
 Current account (in percent of GDP)-2.1-2.4-3.6-4.2-3.6-3.6-3.5-3.4-3.4-3.4
 Gross official reserves352.0373.1358.8363.6358.3358.8359.6360.4361.2362.3
 REER (annual avg., in pct. change; appreciation +)3.5-10.0-5.6-1.0..................
Sources: Central Bank of Brazil; Ministry of Finance; IPEA; and Fund staff estimates.
1/ Includes the federal government, the central bank, and the social security system (INSS). Based on 2015 draft budget, recent announcements by the authorities, and staff projections. Assumes no policy change.
2/ Currency issued plus required and free reserves on demand deposits held at the central bank.
3/ Base money plus demand, time and saving deposits.

1 Under Article IV of the IMF's Articles of Agreement, the IMF holds bilateral discussions with members, usually every year. A staff team visits the country, collects economic and financial information, and discusses with officials the country's economic developments and policies. On return to headquarters, the staff prepares a report, which forms the basis for discussion by the Executive Board.
2 References to GDP (including ratios to GDP) do not reflect the revised national accounts issued by IBGE in March 2015.
3 At the conclusion of the discussion, the Managing Director, as Chairman of the Board, summarizes the views of Executive Directors, and this summary is transmitted to the country's authorities. An explanation of any qualifiers used in summings up can be found here: http://www.imf.org/external/np/sec/misc/qualifiers.htm.