The Bull Market in Stocks Is Alive and Well
Monday’s rally is likely no fluke. Rising trends and good breadth point to more gains for equities despite weakness in transports and retail.
By Michael Kahn
April 20, 2015 4:06 p.m. ET
April 20, 2015, 7:16 AM ET
The Morning Risk Report: These Risks Wake Bankers at Night
By Gregory J. Millman
Cyber risk is the number one worry of bank risk managers, according to a panel of bank chief risk officers at the American Bankers Association Risk Management Forum in St. Louis last week, where overflow crowds have had organizers scrambling to relocate cyber-risk sessions to bigger spaces. Cyber-risk management is leading to operational changes at some banks. For example, the risk of a cyberattack through third party vendors is leading FirstMerit Bank NA to terminate its relationship with some of those vendors, said Brian C. Williams, executive vice president and chief risk officer at the bank, in a panel discussion.
But not far behind cyber is the challenge of convincing front-line managers that risk management is anything more than a bureaucratic impediment to dong business. “The front-line people are still evaluated on revenue performance, and when you bring risk into the discussion, it’s a direct conflict,” explained Ryan R. Rasske, senior vice president, risk and compliance, with the ABA. Steven G. Deaton, executive vice president and chief risk officer with State Bank and Trust Company in Atlanta said, “Lower, longer, looser lending – lower interest rates, longer terms, and looser covenants — we see that as an emerging risk and try to take a stand. You wonder about the short-term memory of bankers.”
At FirstMerit, Mr. Williams said that the bank is adopting tactics such as appointing risk liaisons in business units whose job descriptions include risk management, and embedding risk managers in areas where critical risks have been identified, such as mortgages in the consumer area. “Our biggest goal to take the program to the next level is to make sure risk management is perceived as bringing actual value,” he said.
EXCLUSIVE ON RISK AND COMPLIANCE JOURNAL
OECD appoints anti-bribery experts. A new high-level advisory group empaneled by the Organization for Economic Cooperation and Development to review the group’s efforts against bribery has some high-profile members. Among the people named to the group were Richard Alderman, former head of the U.K. Serious Fraud Office; Neville Tiffen, the former global compliance chief for Australian mining company Rio Tinto PLC; Richard Bistrong, a bribery convict who now speaks extensively about anti-bribery issues; and Huguette Labelle, the former chair of Transparency International, according to a person familiar with the matter.
From the Survey Roundup: Risk leaders. A survey of about 1,200 senior executives and board members by PwC about their organization’s risk management practices found only 12% have policies that would mark them as true risk management leaders. Rather than being a hindrance to the company’s success, of those firms cited as risk management leaders, 55% reported increased profit margins and 41% reported an annual profit margin of more than 10%.
U.S. Chinese companies face legal risk. Major foreign companies and several Chinese Internet companies with U.S. stock-exchange listings are using a corporate structure in China in a way that may be rendered illegal under a proposed law. The Wall Street Journal, working with Dow Jones Risk & Compliance, identified companies that appear to be at risk from the proposed law. These include Chinese operations of Amazon.com Inc.,Pearson PLC and CBS Corp. They also include three major U.S.-listed Chinese Internet companies: Sina Corp., Autohome Inc. and Weibo Corp., which are threatened because foreign investors control them.
Obama suggests compromise on Iran sanctions. President Barack Obama suggested that Iran could receive significant economic relief immediately after concluding a deal to curb its nuclear program, a gesture toward one of Tehran’s key demands, the WSJ reports. Mr. Obama said such a move would depend on the final accord allowing international sanctions to be quickly reimposed if Tehran violated the agreement it is now negotiating with global powers. The administration has said the U.S. prefers sanctions would be lifted in phases as Iran meets certain requirements.
Comcast , Time Warner to meet with DOJ. Comcast Corp. and Time Warner Cable Inc. are preparing to meet with officials from the U.S. Department of Justice Wednesday in a session aimed at negotiating possible concessions to address concerns that the merger of the two cable giants will hurt competition, people familiar with the matter told the WSJ. The meeting would mark the first time the cable behemoths will sit down with regulators to try to hash out potential remedies in the more than 14 months since the $45.2 billion deal was announced, these people said.
Morgan Stanley may settle over mortgage bonds. Morgan Stanley is in talks to pay about $500 million to settle a probe by New York’s attorney general into whether the Wall Street firm misled investors in mortgage bonds that cratered during the financial crisis, people familiar with the matter told the WSJ. A deal with New York’s top litigator, Eric Schneiderman, would likely include some cash from Morgan Stanley as well as a chunk of consumer relief. The pact would clear up another headache for the New York firm and add to the $130 billion legal tab rung up by the largest U.S. banks for their actions during the crisis.
U.K. drops bribery charges against journalists. U.K. prosecutors on Friday dropped bribery charges against former News of the World editor Andy Coulson and eight others, a decision that effectively leaves in tatters a high-profile investigation of alleged illicit practices at British tabloids, the WSJ reports. The decision was announced hours after a London jury acquitted three other journalists of paying prison officers for information. That was the latest in a string of setbacks for prosecutors, who have managed to secure only a handful of convictions despite charging 29 reporters and editors over the past three years.
EU plans rules on troubled non-banks. The European Union is looking at creating rules on how to deal with financial firms outside the banking industry that run into trouble, including clearing houses, insurers and asset managers, the EU’s financial services chief said on Friday, Reuters reports. The 28-country bloc has already introduced rules on how to wind down troubled banks without turning to taxpayers for cash. It now wants a similar regime for other so-called systemic financial market participants.
Quicken sues DOJ, HUD over investigations. Long on the attack in mortgage-fraud cases, the U.S. government now finds itself the defendant in a lawsuit brought by one of the country’s largest consumer lenders, the WSJ reports. Quicken Loans Inc. late Friday sued the U.S. Department of Housing and Urban Development and the Department of Justice, alleging that it is a target of a “political agenda under which the DOJ is ‘investigating’ and pressuring large, high-profile lenders into paying nine- and ten-figure sums and publicly ‘admitting’ wrongdoing.”
China fines Alibaba over pricing. The Chinese government has fined Alibaba Group Holding Ltd. for pricing issues with products sold on its online marketplaces dating to Singles’ Day in 2013, the company said Friday, the WSJ reports. The company said it had been fined 800,000 yuan, or about $129,000, for pricing irregularities related to Singles’ Day in 2013 and 2014 and other promotions in 2013 and this year.
India bars securities firms. In a fresh crackdown on suspected tax evasion and laundering of black money through stock markets, Indian regulator Sebi barred 129 firms from the securities market, the Economic Times reports.
Latest issues in information security. A Tuck marketing professor suggests how companies can make her and other consumers more cooperative when it comes to protecting themselves online. This is one article in a special report from the WSJ on information security.
Hackers tried to infiltrate sanctions talks. Hackers linked to the Russian government used previously unknown flaws in Microsoft Corp.’s Windows and Adobe Systems Inc.’s Flash to try to infiltrate discussions on sanctions policy, a person familiar with the attack told Bloomberg. The spying scheme was detected on April 13 by U.S. cybersecurity firm FireEye Inc. and targeted an agency of an overseas government that was in discussions with the U.S. about sanctions policy. The attack was halted before the group extracted any data, the company said in a blog post Saturday.
Canada fund criticizes CIBC governance. Canadian fund giant Ontario Teachers’ Pension Plan has criticized the succession planning at Canadian Imperial Bank of Commerce and voted against the compensation of two of the bank’s former senior executives, the WSJ reports. In an emailed statement, Ontario Teachers’ said Friday it had concerns over the orderliness of a recent changeover in management at CIBC, which saw both Chief Executive Gerry McCaughey step down and Chief Operating Officer Richard Nesbitt retire earlier than expected.
Volkswagen holders seek to smoothe tensions. Key Volkswagen AG shareholders sought to cool down the debate about the company’s supervisory board and chief executive after a spat over its leadership unsettled Europe’s largest car maker, the WSJ reports. “All important persons involved endeavor to make the situation more objective,” said a spokesman for Porsche SE on Sunday. Porsche holds the majority of Volkswagen voting rights and is dominated by the Piech and Porsche families.
Shareholders want pay change at U.K. banks. Some major shareholders in U.K. banks want lenders to stop paying bonuses based on adjusted earnings that exclude fines, restructuring costs and non-core units, the Financial Times reports. “I’m really uncomfortable about banks paying themselves bonuses on the basis of core earnings, not statutory profit,” said a top-20 investor in Barclays and HSBC .
Nordstrom sued over plane use. Nordstrom Inc. has been sued in a lawsuit that claims the Nordstrom family has paid cut-rate fees for the use of company pilots and other aviation staff, Bloomberg reports. A Nordstrom spokeswoman said the allegations are baseless and disputed several assertions in the suit.
BuzzFeed removed stories due to business pressure. BuzzFeed on Saturday disclosed that it had found three instances when complaints from business-side employees who worked with advertisers resulted in the deletion of articles, the WSJ reports. In a memo to staff first reported by Gawker, BuzzFeed Editor-in-Chief Ben Smith said that an internal review had revealed that the news and entertainment site had removed more than 1,000 posts for different reasons.
BMW recalls minis over air-bags. German auto maker BMW says it is recalling 91,800 Mini Coopers to fix a defect that may prevent the air bag on the front passenger side of the cars from deploying in a crash, the WSJ reports. The problem affects the 2005 to 2008 models of the Mini Cooper and Cooper S.
Chevron case to test racketeering law. Chevron Corp. will go head-to-head in an appeals court Monday with the lawyer who has tried for years to get the oil giant to pay a $9.5 billion environmental-damage award, the latest development in one of the longest-running legal battles in corporate history, the WSJ reports. At issue on Monday: a ruling made by U.S. District Judge Lewis Kaplan, who found last year that the multibillion-dollar award New York lawyer Steven Donziger won against Chevron in Ecuador was tainted by bribery and other corrupt misconduct. Mr. Donziger has denied the allegations of wrongdoing. Legal experts say the outcome of the appeal could clarify the scope of the federal anti-racketeering law Chevron used to sue Mr. Donziger.
HSBC, Standard Chartered consider quitting U.K. HSBC and Standard Chartered are looking at the viability of quitting London for a new home in Asia because a big jump in a tax on U.K. banks makes staying in Britain increasingly painful, Reuters reports. Several investors told Reuters they want the two banks to do a thorough analysis on whether it makes sense to move after Britain raised the bank tax by a third last month.
Deutsche Bank may sell Postbank. Deutsche Bank AG’s executive board is leaning toward disposing of Postbank, a mass-market retail operation, and cutting around 200 billion euros ($216 billion) in investment-banking assets as it puts the final touches on a review of strategy, people familiar with the matter told the WSJ. The move would also mark the latest step by a global lender to slim down at a time of intense scrutiny from regulators and shareholders, both of whom are questioning whether universal banks are too complex for their own good.
China Warns North Korean Nuclear Threat Is Rising
Pyongyang could double nuclear-weapons arsenal by next year, according to latest Beijing estimates
By Jeremy Page in Beijing and Jay Solomon in Washington
April 22, 2015 7:35 p.m. ET
China’s top nuclear experts have increased their estimates of North Korea’s nuclear weapons production well beyond most previous U.S. figures, suggesting Pyongyang can make enough warheads to threaten regional security for the U.S. and its allies.
The latest Chinese estimates, relayed in a closed-door meeting with U.S. nuclear specialists, showed that North Korea may already have 20 warheads, as well as the capability of producing enough weapons-grade uranium to double its arsenal by next year, according to people briefed on the matter.
A well-stocked nuclear armory in North Korea ramps up security fears in Japan and South Korea, neighboring U.S. allies that could seek their own nuclear weapons in defense. Washington has mutual defense treaties with Seoul and Tokyo, which mean an attack on South Korea or Japan is regarded as an attack on the U.S.
“I’m concerned that by 20, they actually have a nuclear arsenal,” said Siegfried Hecker, a Stanford University professor and former head of the Los Alamos National Laboratory, who attended the closed-door meeting in February. “The more they believe they have a fully functional nuclear arsenal and deterrent, the more difficult it’s going to be to walk them back from that.”
Chinese experts now believe North Korea has a greater domestic capacity to enrich uranium than previously thought, Mr. Hecker said.
The Chinese estimates reflect growing concern in Beijing over North Korea’s weapons program and what they see as U.S. inaction while President Barack Obama focuses on a nuclear deal with Iran.
A well-armed North Korea may prompt the U.S. to adopt countermeasures, especially in missile defense. Adm. William Gortney, head of U.S. Northern Command, said this month that defense officials believe North Korea can now mount a nuclear warhead on an intercontinental ballistic missile called the KN-08. U.S. officials don’t believe the missile has been tested, but experts estimate it has a range of about 5,600 miles—within reach of the western edge of the continental U.S., including California.
An increase in North Korea’s nuclear arsenal feeds international concern about proliferation from a country that, U.S. officials said, previously exported nuclear technology to Syria and missile components to Iran, Yemen and Egypt.
In Washington, some Republican lawmakers said the pending White House deal with Iran could mirror the 1994 nuclear agreement the Clinton administration made with North Korea.
The deal was intended to halt Pyongyang’s nuclear weapons capabilities, but instead, they allege, provided diplomatic cover to expand them. North Korea tested its first nuclear device in 2006.
“We saw how North Korea was able to game this whole process,” U.S. Rep. Ed Royce (R., Calif.), chairman of the House Foreign Affairs Committee, said in an interview. “I wouldn’t be surprised if Iran had its hands on the same playbook.”
The pace of North Korea’s nuclear arms growth depends on its warhead designs and its uranium-enrichment capacity, Mr. Royce said: “We know they have one factory; we don’t know if they have another one.”
Recent estimates by U.S. experts range from 10 to 16 nuclear bombs today.
Mr. Royce said he met Chinese academics on a recent trip to Beijing and was struck by the concerns he heard about Pyongyang’s nuclear capabilities.
Relations between North Korea and China have deteriorated since Xi Jinping became China’s leader in 2012 and North Korea’s leader, Kim Jong Un, took power following the death of his father in late 2011.
China, which is North Korea’s largest investor, aid donor and trade partner, has for most of the past decade underestimated Pyongyang’s nuclear capabilities, nuclear experts said, including its capacity to produce fissile material.
Estimates of North Korea’s capabilities by Chinese experts began to align with those in the U.S. after 2010, and moved beyond after 2013, according to people familiar with exchanges on the matter between China and the U.S.
Until recently, the Chinese “had a pretty low opinion of what the North Koreans could do,” said David Albright, an expert on North Korea’s nuclear weapons and head of the Institute for Science and International Security in Washington. “I think they’re worried now.”
China’s foreign and defense ministries didn’t respond to requests for comment. Diplomats at North Korea’s mission to the United Nations didn’t respond to attempts to seek comment. The White House, State Department and Pentagon declined to provide U.S. estimates of North Korea’s nuclear arsenal.
“We have been and remain concerned about North Korea’s nuclear program and believe China should continue to use its influence to curtail North Korea’s provocative actions,” said Patrick Ventrell, a spokesman for the U.S. National Security Council.
He said the U.S. was working with other countries to implement U.N. sanctions designed to press North Korea “to return to credible and authentic denuclearization talks and to take concrete steps to denuclearize.”
The U.S. hasn’t engaged in regular high-level talks with Pyongyang since 2012, when North Korea conducted a long-range missile test. The U.S. has instead pressed China to use its economic leverage to rein in North Korea.
The latest Chinese estimates of North Korea’s nuclear capability were shared during a February meeting at the China Institute of International Studies, the Chinese foreign ministry’s think tank. The Chinese brought technical, political and diplomatic experts on North Korea’s nuclear program, as well as military representatives, said people familiar with the meeting.
Mr. Hecker, the U.S. team’s lead technical expert, has long been part of international efforts to understand North Korea’s nuclear program. In 2010, he revealed North Korea had a large uranium enrichment program after he saw the facilities during a visit there.
The estimate that North Korea may have had 20 warheads at the end of last year—and could build 20 more by 2016—was given during a presentation by one of China’s top uranium enrichment experts, according to people familiar with the meeting. They said it was the first time they had heard such a high Chinese estimate.
Mr. Hecker declined to comment on the meeting but said he had met with Chinese experts to discuss North Korea’s capabilities at least once a year since 2004.
“They believe on the basis of what they’ve put together now that the North Koreans have enough enriched uranium capacity to be able to make eight to 10 bombs’ worth of highly enriched uranium per year,” said Mr. Hecker, who added that estimates by China and the U.S. involved a great deal of guesswork.
U.S. officials didn’t attend the meeting but some expressed surprise when they were later briefed on the details, said people familiar with the matter. Some Chinese experts said the estimates revealed in February were at the higher range among local peers. Mr. Hecker said he estimated North Korea could have no more than 12 nuclear bombs now, and as many as 20 next year.
“Some eight, nine or 10 years ago, they had the bomb but not much of a nuclear arsenal,” he said. “I had hoped they wouldn’t go in this direction, but that’s what happened in the past five years.”
Corporate America’s Millstone of Too Much Cash
April 21, 2015
Corporate America is flush with cash. Amazing amounts of cash.
- Pay down debt
- Buy other companies
- Pay out dividends
- Buy back its own shares
- Let it sit in the bank and earn interest
—Nathan Muir (Robert Redford), the movie Spy Game
The Crowning Glory of Keynesianism
by Jeff Thomas
April 20, 2015
Readers of this publication will know that for some time, I’ve forecasted the creation of a new monetary system by which governments and banks gain total control over all monetary transactions.
On the surface of it, this may seem an impossible goal, as it would be so all-encompassing and would eliminate economic freedom entirely. Surely, it would not be tolerated. However, I believe that it’s not only relatively easy to create, but it will be sold in such a way that the public will see it as an absolute panacea to their economic woes. Only those who are far-sighted will understand its level of destruction in advance of its implementation.
It might transpire like this:
Part 1: The Currency
· Any one of a number of triggers (decline of the petrodollar, dumping of US debt back into the US market, Europe defaults on its debt, sanctions backfire, etc.) causes a crash in markets.
· Deflation kicks in.
· The Fed creates massive QE to reverse deflation, ending in dramatic inflation and possibly hyperinflation.
· Government declares a state of economic emergency, states that cash is (and has been) the problem and must be done away with for recovery to occur.
· A new electronic currency is created, to be issued by banks.
· All economic transactions of any kind—both debits and credits—are to be done through a currency card (purchases as small as a candy bar or as large as a home; all credits, including wages, dividends, sales of goods, etc.).
· Entire economic system becomes greatly simplified, as only the currency card (or smart phone) is now needed by anyone.
Part 2: Taxation
· At this point, every transaction, no matter how small, is on record, so government can assess the cardholder’s income to the penny, without the need to file for income tax each year.
· Government announces that the tax system is a mess and that it must be simplified to relieve the people of the burden. In future, tax will be taken by direct debit from the currency card account.
· Government later announces that, as the annual filing is such a hardship on the average person, tax debits will in future be done monthly.
It would be easy to present the above as a boon to all citizens. Indeed, it might well be peddled as “the only possibility for a return to prosperity.” It will take a while for the fact to sink in that citizens have entered into a state of complete economic bondage to their bank and government, and that to operate outside the system is difficult in the extreme.
There can be no doubt that barter would become more common (whether legal or not), but virtually all other transactions would be centrally controlled and audited.
David Stockman, in a recent edition of Zero Hedge, stated,
Harvard economist Kenneth Rogoff even argues in the daily paper FAZ that cash currency should be banned altogether. Central banks could impose negative interest rates more easily that way, he explained. Tax evaders and criminals would also find life more difficult. From this perspective, banknotes and coins appear superfluous, he said at a presentation at the IFO institute in Munich. Measures to spur the economy could be implemented more easily that way.
This, of course, is the concept detailed above, although he adds two nice touches. First, he suggests that negative interest rates are desirable; that cashless currency is the answer. He also adds that a new system will help to eliminate criminal behaviour.
In 1936, John Maynard Keynes published his signature book, The General Theory of Employment, Interest and Money. It was an instant success with both socialists and governments around the world—the latter, because his new “economic principles” stated that governments should control the monetary system—full stop. It was music to their ears, and most governments have been devotees ever since.
Mister Keynes was, first and foremost, a socialist. Although he received his education in economics, right from the start, he treated economics as a philosophy, not a science. By his own admission, he sought to redraft the laws of economics to serve an unrelated end: the advancement of socialism. Like the best socialists, he believed that truth was irrelevant; all that mattered was the objective.
However, in recent years, we’ve seen a small rebirth in the popularity of Classical Economics. More and more people, observing the repeated failures of Keynesian Economics, have been crediting Adam Smith and likeminded economists as having had the right idea all along. After all, economics is the science of how money works, not an art form that may be altered at the whim of the theorist to fit some political preference.
And so, there are many (myself included) who are eager to see what we believe would be the well-deserved downfall of Keynesianism, as the debt-ridden, entitlement-driven economies of the world collapse under their own ponderous weight.
But this hope may well be premature. In my belief, there is a final rabbit in the Keynesian hat, and that rabbit is the electronic currency described above. And if such a currency could be sold to a gullible public in one country, it could be sold just as easily in other jurisdictions.
This being the case, it would not be much of a leap if the concept were to be discussed universally and many governments were to announce that an international electronic currency, issued by the IMF, would solve all the currency problems, including those of currency exchange and international trade.
For at least one hundred years, there have been those who have hoped for and worked toward a one-world currency. There can be no doubt that the push for such a creation would receive support at the highest levels, internationally.
If so, daydreams of a return to Adam Smith or a realisation of the dreams of Ludwig von Mises and Friedrich Hayek may, for the foreseeable future, be just that: daydreams.
As to what the overall effect might be, we might consider the words of uber-financier Mayer Rothschild:
“Let me issue and control a nation’s money and I care not who writes the laws.”
Herr Rothschild knew whereof he spoke. This principle led him and his descendants to become immensely wealthy and powerful on an international scale.
An electronic currency leads directly toward the bondage of the people—directly away from freedom. As a hedge against such controls, diversification into hard assets such as precious metals and real estate might be considered. Just as important, assets held outside any country that is increasing its controls might be a positive move.
The ultimate way to diversify your savings internationally is to transfer it out of the immediate reach of your home government and into something tangible.
Something that cannot be easily confiscated, nationalized, frozen, or devalued at the drop of a hat or with a couple of taps on the keyboard—while retaining as much privacy as legally possible. Physical gold and silver stored abroad in a non-bank vault fits the bill.
Gold and silver have served as money for centuries and across many different civilizations. They have always been inherently international assets. There is nothing at all particularly American, Chinese, Russian, or European about gold or silver. Buying gold and silver is perhaps the easiest step you can take toward internationalizing your savings. The next step is to store your precious metals in a safe foreign jurisdiction.
The Costs Of Deflations: A Historical Perspective
The authors "test the historical link between output growth and deflation in a sample covering 140 years for up to 38 economies. The evidence suggests that this link is weak and derives largely from the Great Depression. But we find a stronger link between output growth and asset price deflations, particularly during postwar property price deflations. We fail to uncover evidence that high debt has so far raised the cost of goods and services price deflations, in so-called debt deflations. The most damaging interaction appears to be between property price deflations and private debt."
But there is much more than this to the paper. So some more colour on the above.
Concerns about deflation [are] …shaped by the deep-seated view that deflation, regardless of context, is an economic pathology that stands in the way of any sustainable and strong expansion."Do note that I have been challenging this thesis for some time now, precisely on the grounds of: 1) causality (deflation being caused by weak growth, not the other way around) and 2) link between corporate and household debt and deflation via monetary policy / interest rates channel.
The almost reflexive association of deflation with economic weakness is easily explained. It is rooted in the view that deflation signals an aggregate demand shortfall, which simultaneously pushes down prices, incomes and output. But deflation may also result from increased supply. Examples include improvements in productivity, greater competition in the goods market, or cheaper and more abundant inputs, such as labour or intermediate goods like oil. Supply-driven deflations depress prices while raising incomes and output."Besides the supply side argument, there is more:
…even if deflation is seen as a cause, rather than a symptom, of economic conditions, its effects are not obvious. On the one hand, deflation can indeed reduce output. Rigid nominal wages may aggravate unemployment. Falling prices raise the real value of debt, undermining borrowers' balance sheets, both public and private - a prominent concern at present given historically high debt levels. Consumers might delay spending, in anticipation of lower prices. And if interest rates hit the zero lower bound, monetary policy will struggle to encourage spending. On the other hand, deflation may actually boost output. Lower prices increase real incomes and wealth. And they may also make export goods more competitive."Note: the authors completely ignore the interest cost channel for debt.
…while the impact of goods and services price deflations is ambiguous a priori, that of asset price deflations is not. As is widely recognised, asset price deflations erode wealth and collateral values and so undercut demand and output. Yet the strength of that effect is an empirical matter. One problem in assessing the cost of goods and services price deflations is that they often coincide with asset price deflations. It is possible, therefore, to mistakenly attribute to the former the costs induced by the latter."The BIS paper analysis is "based on a newly constructed data set that spans more than 140 years, from 1870 to 2013, and covers up to 38 economies. In particular, the data include information on both equity and property prices as well as on debt."
The study reaches three broad conclusions:
- "First, before accounting for the behaviour of asset prices, we find only a weak association between goods and services price deflations and growth; the Great Depression is the main exception."
- "Second, the link with asset price deflations is stronger and, once these are taken into account, it further weakens the association between goods and services price deflations and growth."
- "Finally, we find some evidence that high private debt levels have amplified the impact of property price deflations but we detect no similar link with goods and services price deflations." Note: this means that the ECB-targeted deflation (goods and services deflation) is a completely wrong target to aim for in the presence of private debt overhang. Just as I have been arguing for ages now.
(click to enlarge)
The idea is that, as prices fall, the real debt burden of borrowers increases, inducing spending cutbacks and possibly defaults. This harks back to Fisher (1933), who coined the term.16 Fisher's concern was with businesses; today the focus is as strong, if not stronger, on households and the public sector. This type of debt deflation should be distinguished from the strains on balance sheets induced by asset price deflations. This interaction has an even longer intellectual tradition and has been prominent in the public debate ever since the re-emergence of financial instability in the 1980s."Yep, you got it - the entire monetary policy today is based on the ideas tracing back to the 1930s and anchored in the experience that is only partially replicated today. In effect, we are fighting a new disease with false ancient prescriptions for an entirely different disease.
To assess the link between debt and deflation effects on growth, the authors take two measures into account:
- "One is simply its corresponding debt ratio to GDP."
- "The other is a measure of "excess debt", which should, in principle, be more relevant. We use the deviation of credit from its long-term trend, or the "credit gap" - a variable that in previous work has proved quite useful in signalling future financial distress."
The results point to little evidence in support of the debt deflation hypothesis, and suggest a more damaging interaction of debt with asset prices, especially property prices. Focusing on the cumulative growth performance over five year horizons for simplicity, there is no case where the interaction between the goods and services price peaks and debt is significantly negative. By contrast, we find signs that debt makes property price deflations more costly, at least when interacted with the credit gap measure."So deflation in asset prices (property bust) is bad when household debt is high. Why?
…these results suggest that high debt or a period of excessive debt growth has so far not increased in a visible way the costs of goods and services price deflations.
Instead, it seems to have added to the strains that property price deflations in particular impose on balance sheets. …Why could the interaction of debt with asset prices matter and that with goods and services prices not matter, or at least less so?
A possible explanation has to do with the size and nature of the corresponding wealth effects. For realistic scenarios, the size of the net wealth losses from asset price deflations can be much larger. Consider, for instance, the 2008 crisis in the United States,... the corresponding losses amounted to roughly $9.1 trillion and $11.3 trillion, respectively. By contrast, a hypothetical deflation of, say, 1% per year over three years would imply an increase in the real value of public and private debt of roughly $1.1 trillion (about $0.4 trillion for households and roughly $0.35 trillion each for the non-financial corporate and public sector). Moreover, the nature of the losses is quite different in the two cases. Asset price deflations represent declines in (at least perceived) aggregate net wealth; by contrast, declines in goods and services prices are mainly re-distributional. For instance, in the case of the public sector, the higher debt burden reflects the increase in the real purchasing power of debt holders."And herein rests a major omission in the study: following asset (property) busts, accommodative monetary policy leads to a reduced cost of debt servicing for households that suffer simultaneous collapse in their nominal incomes and in their net wealth. This accommodation is deflating the cost of debt being carried. If it is accompanied by goods and services price deflation, such deflation is also boosting purchasing power of reduced nominal incomes. In simple terms, there is virtuous cycle emerging: debt servicing deflation reinforces real incomes support from goods and services deflation.
Now, reverse the two: raise rates and simultaneously hike consumer prices. what do you get?
- Debt servicing costs rise, disposable income left for consumption and investment falls;
- Inflation in goods and services reduces purchasing power of the already diminished income.
I have none.
Les doy cordialmente la bienvenida a este Blog informativo con artículos, análisis y comentarios de publicaciones especializadas y especialmente seleccionadas, principalmente sobre temas económicos, financieros y políticos de actualidad, que esperamos y deseamos, sean de su máximo interés, utilidad y conveniencia.
Pensamos que solo comprendiendo cabalmente el presente, es que podemos proyectarnos acertadamente hacia el futuro.
Gonzalo Raffo de Lavalle
Las convicciones son mas peligrosos enemigos de la verdad que las mentiras.
Quien conoce su ignorancia revela la mas profunda sabiduría. Quien ignora su ignorancia vive en la mas profunda ilusión.
“There are decades when nothing happens and there are weeks when decades happen.”
Vladimir Ilyich Lenin
You only find out who is swimming naked when the tide goes out.
No soy alguien que sabe, sino alguien que busca.
Only Gold is money. Everything else is debt.
Las grandes almas tienen voluntades; las débiles tan solo deseos.
Quien no lo ha dado todo no ha dado nada.
History repeats itself, first as tragedy, second as farce.
We are travelers on a cosmic journey, stardust, swirling and dancing in the eddies and whirlpools of infinity. Life is eternal. We have stopped for a moment to encounter each other, to meet, to love, to share.This is a precious moment. It is a little parenthesis in eternity.
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- THE BULL MARKETS IN STOCKS IS ALIVE AND WELL / BAR...
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- CHINA WARNS NORTH KOREAN NUCLEAR THREAT IS RISING ...
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- THE COST OF DEFLATIONS : A HISTORICAL PERSPECTIVE ...
- HOW TO REFORM THE IMF NOW / PROJECT SYNDICATE
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- CROWDING IN AND THE PARADOX OF THRIFT / THE NEW YO...
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