Hysteria over China has become ridiculous

China is recovering but the world is not yet out of the woods. Capital outflows are dangerous wild card in China's currency drama

By Ambrose Evans-Pritchard

China has accused George Soros of a speculative attack on its currency. The claims are complete fiction 
Hysteria over China has reached the point of collective madness.

Forecaster Nouriel Roubini said in Davos that markets have swung from fawning adulation of the Chinese policy elites to near revulsion within a space of 12 months, and they have done so based on scant knowledge and a string of misunderstandings.
The Chinese themselves are being swept up by the swirling emotions. State media has accused hedge fund veteran George Soros in front page editorials of attempting to smash China's currency regime by "reckless speculation and vicious shorting".
"Soros’s war on the renminbi cannot possibly succeed – about this there can be no doubt,” warned the People's Daily.
Articles are appearing across the world debating whether Mr Soros and his putative wolf pack will succeed in doing to the People's Bank of China (PBOC) what he did to the Bank of England in 1992 - in the latter case with entirely positive consequences.

In fact, Mr Soros issued no such "declaration of war", and nor is he so foolish as to take on a foreign exchange superpower and net global creditor with $3.3 trillion in foreign reserves.

As it happens, I was at the dinner at the Hotel Seehof in Davos - drinking white Rioja - where Mr Soros supposedly revealed his plot. What he did let slip is that he had been shorting some Asian currencies - the Malaysian Ringitt or the Thai Baht, perhaps, out of nostalgia for the 1998 crisis.

Mr Soros made general comments, claiming that credit in China has reached 350pc of GDP and that the hard landing is already happening. "I’m not expecting it, I’m observing it,” he said. The observations were boilerplate, what are called "tourist" insights in hedge fund parlance. He is not a player in China.

So let us return to reality. The economic facts are in plain view. China is not slowing. It is picking itself up slowly after a "recession" in early 2015.

Car sales give us a steer. They collapsed early last year and touched bottom at 1.27m in July.

Sales have been rising every month since, surging to a record 2.44m in December thanks to lower taxes.

New registrations were up by 37pc for GM and 36pc for Ford and Mercedes.

House prices have been climbing for three months. The nationwide index was up 1.6pc in December. Shanghai rose 15.5pc and Shenzhen 47pc. Even the "Tier 3 and 4" cities are coming back from an epic glut.

The economy did indeed hit a brick wall early last year due to a fiscal shock and ferocious monetary tightening (passive) in late 2014. That was the time to lambast the Chinese authorities for errors of judgment, and some of us did so.

Capital Economics estimates that growth slowed to 4pc based on its proxy indicator, and others broadly concur. These indicators are not derived from the now useless "Li Keqiang index" of rail freight, electricity use and credit growth, which overstate the slowdown.

Growth of total freight traffic has risen to 5.4pc from 3.5pc in June. That is a plausible gauge of what is really happening.

A short-term economic rebound is already baked into the pie. Fiscal spending jumped 30pc in October and November. New bank loans and local government bond issuance - together, the proper measure of credit - reached a 12-month high of 14.4pc in December.

It is stimulus as usual. The Politburo is back to its bad old ways. "Despite talk of deleveraging, credit growth continues to expand far more rapidly than GDP growth because, quite simply, they are not willing to tolerate any slowdown," said Prof Christopher Balding from Peking University.

"Right now, I think it highly unlikely that Beijing would let any financial institution of any real significance collapse. They won’t let any firms collapse, much less the stock market. Their entire strategy appears to be 'paper things over and deal with it later'," he said.

"The current leadership is acutely aware of its place in history and the comparisons to the USSR. They are absolutely determined to not suffer the same fate."

Yet there are limits to what the Communist Party can achieve by flicking its fingers at this late stage of China's $26 trillion debt debacle. The Achilles Heel is capital flight.
The authorities botched their switch from a dollar peg to a trade-weighted currency basket in August, and botched it again in December when they fleshed out the details. The result was an exodus of money in two big bursts. Both Chinese and foreign investors concluded that this was camouflage for devaluation.

Fang Xinghai, a top adviser to president Xi Jinping, admitted in Davos that communications had gone horribly wrong. "We're learning," he said.

He vowed that the Party is absolutely committed to the defence of its new basket. "It is the decided policy of China," he said.

The facts bear him out. JP Morgan estimates that the authorities spent a record $160bn defending the yuan in December, a colossal mobilisation of resources.

Mr Fang said a country with a current account surplus of $300bn and a tight labour market does not need a devaluation. It would go against the central thrust of policy, undermining the planned switch to consumption-led growth.

He insisted that China funds itself from internal savings, unlike the usual suspects in emerging markets. "If China was relying largely on foreign capital, any major financial risk could derail our growth. But China is different," he said.

What he omitted, however, is the painful fact that running down reserves at the current pace entails monetary tightening, compounding the internal credit crunch.

This is the Impossible Trinity. A country cannot manage its exchange rate and keep control of monetary policy at the same time in a regime of free capital flows.

Haruhiko Kuroda, governor of the Bank of Japan, said one must give. He suggested that tougher capital controls "could be useful", the lesser of evils.

The Impossible Trinity is the nub of the issue. It is this that threatens to overwhelm the PBOC and ultimately force China to devalue - against its wishes - setting off a pan-Asian currency crisis to dwarf 1998, and transmitting a wave of deflation through the world economy.

So the vital question is the scale and make-up of the capital outflows. Fresh data from the Bank for International Settlements show that the foreign liabilities of Chinese companies and investors dropped to $877bn in September from a $1.1 trillion peak in September 2014.

Short-term debts have dropped from $858bn to $626bn, and have undoubtedly fallen much further over the past three months. In other words, the Chinese are paying off dollar debts and unwinding the dollar "carry trade" as fast as possible in advance of further rate rises by the US Federal Reserve.

Bhanu Baweja from UBS said the repayment of foreign debts accounted for almost all the capital flight in the third quarter. It is therefore arguably harmless, potentially a one-off effect that will play itself out.

Yet views differ. The Institute of International Finance in Washington estimates that $676bn left China last year, and that only half of this was used to pay off debts or balance books. It says outflows reached $187bn in the fourth quarter. There has been a surge in “errors and omissions”, a cover for capital flight through false trade invoices and other tricks.

Foreign liabilities are falling, especially in dollars

The IIF said China is not in meltdown and Chinese companies are now far less exposed to foreign currency debt. There is a fair chance that "tactical" outflows will slow down of their own accord, taking the pressure off the central bank. Nevertheless, the risk of a broader rush for the exit has "materially increased".

There is a world of difference between precautionary moves to cut dollar debt, and a mass exodus by Chinese and foreigner investors because they think Beijing has lost control. Exactly which of these two themes dominates will shape world events this year.

Any hint of relative optimism on China in the currently wildly-polarized mood can easily be misunderstood. My view has long been - and continues to be - that China has left it too late to wean the economy off debt-driven growth and over-investment in industry, and will therefore drift into the middle-income trap.

Since China's banking system is an arm of the state, bad debts will be rolled over in perpetuity. There will be a slow loss of dynamism rather than a "Minsky" moment. It will be a denouement "a la japonaise", a landscape of soporose companies.

The Communist Party may have bought another year to 18 months. If so, the reckoning has been delayed again. Optimism means nothing more than that.

The Return of the Currency Crash

Carmen Reinhart
. Coins

CAMBRIDGE – Currency-market volatility has been around for decades, if not centuries.

Wide gyrations in exchange rates became a staple of international financial markets after the Bretton Woods system broke down in the early 1970s, and mega-depreciations were commonplace later in the decade and through much of the 1980s, when inflation raged across much of the world. Even through much of the 1990s and early 2000s, 10-20% of countries worldwide experienced a large currency depreciation or crash in any given year.
And then, suddenly, calm prevailed. Excluding the mayhem associated with the global financial crisis of late 2008 and early 2009, currency crashes were few and far between from 2004 to 2014 (see figure). But recent developments suggest that the dearth of currency crashes during that decade may be remembered as the exception that proves the rule.
The near-disappearance of currency crashes in the 2004-2014 period largely reflect low and stable international interest rates and large capital flows to emerging markets, coupled with a commodity price boom and (mostly) healthy growth rates in countries that escaped the global financial crisis. In effect, many countries’ main concern during those years was avoiding sustained currency appreciation against the US dollar and the currencies of other trade partners.
That changed in 2014, when deteriorating global conditions revived the currency crash en masse. Since then, nearly half of the sample of 179 countries shown in the figure have experienced annual depreciations in excess of 15%. True, more flexible exchange-rate arrangements have mostly eliminated the drama of abandoning pre-announced pegged or semi-pegged exchange rates. But, thus far, there is little to suggest that the depreciations have had much of a salutary effect on economic growth, which for the most part has remained sluggish.
The average cumulative depreciation versus the US dollar has been almost 35% from January 2014 to January 2016. For many emerging markets, where depreciations have been considerably greater, weakening exchange rates have aggravated current problems associated with rising foreign-currency debts.
Moreover, in an interconnected world, the effects of currency crashes do not end in the country where they originate. Back in 1994, China reformed its foreign-exchange framework, unified its system of multiple exchange rates, and, in the process, devalued the renminbi by 50%. It has been persuasively argued that the Chinese devaluation resulted in a loss of competitiveness for Thailand, Korea, Indonesia, Malaysia, and the Philippines, which had pegged (or semi-pegged) their currencies to the US dollar. Their cumulative overvaluation, in turn, helped set the stage for the Asian crisis that erupted in mid-1997.
Overvalued exchange rates have been among the best leading indicators of financial crises. So one cannot help but wonder if we are facing a repeat of what happened from 1994 to 1997 – only this time with the roles reversed. Since early 2014, the renminbi has depreciated by a mere 7.5% against the dollar, compared to the euro’s roughly 25% depreciation in this period, not to mention even faster currency weakening in many emerging markets. For a manufacturing-based economy such as China’s, the overvaluation-growth connection should not be underestimated.
China’s announcement last August of its intent to allow modest depreciation and eventually move the renminbi toward greater exchange-rate flexibility triggered a roller-coaster ride in financial markets. To provide reassurance, policymakers issued statements to the effect that China would move only gradually in that direction. But perhaps the cautionary tale from the Asian crises is that gradualism on this front carries its own risks.
Of course, the potential beggar-thy-neighbor effects of the spike in currency crashes in the past two years are not unique to China. They may also apply to any country that has maintained a comparatively fixed exchange rate (a category that includes major oil producers).
What distinguishes the Chinese case from others is the sheer size of its economy relative to world GDP, as well as its effects on numerous countries across regions, from suppliers of primary commodities to countries that depend on Chinese funding or direct investment. The broader point is a simple one: Emerging markets now account for around 60% of world GDP, up from about 35% in the early 1980s. Restoring global prosperity requires a much broader geographical base than it did back then. The return of the currency crash may make achieving it all the more difficult.

How The Fed is Suffocating The Economy

By: Clif Droke

Investors are worried over the prospects that the long-term momentum behind the stock market recovery of 2009-2015 may be in danger of complete dissipation this year. That would mean a certain date with an extended bear market and, potentially, an economic recession perhaps sometime later this year.

Normally, within the context of an established bull market, worry would be a good thing given that the bull tends to proceed along a "wall of worry." In view of recent actions undertaken by central banks, however, those worries are legitimate as I'll explain in this commentary.

There are two established ways of killing forward momentum and induce economic recession.

One is to sharply reverse monetary policy or margin maintenance policy from very loose to very tight. An example of this is what happened in the months leading up to the 1929 crash; yet another example was the margin requirement tightening in the gold, silver and copper markets in 2011.

The other way of reversing forward momentum is to slowly suffocate the financial market through subtle, incremental policy shifts which favor holding cash over equities. The central banks of Europe and the U.S. have opted for the latter course. The ultimate outcome of this policy are being felt even now in Europe and elsewhere, but likely won't become abundantly clear in the U.S. until later this year.

Tight money policy, especially at a time when the financial market is vulnerable to overseas weakness, is nothing short of a recipe for disaster. Timothy Cogley, an economist with the San Francisco Federal Reserve Bank, admitted in a 1999 research paper that the Fed's tight monetary policy in 1928-29 likely contributed to the stock market crash of 1929. Cogley observed:

"In 1928 there was a synchronized, global contraction of monetary policy, which occurred primarily because the Fed was concerned about stock prices. These actions had predictable effects on economic activity. By the second quarter of 1929 it was apparent that economic activity was slowing. The U.S. economy peaked in August and fell into a recession in September." ["Monetary Policy and the Great Crash of 1929: A Bursting Bubble or Collapsing Fundamentals?"]

The Fed's mistake in those days was in trying to prevent a speculative bubble in the equity market. In so doing, however, the Fed inadvertently contributed to an even greater problem: the implosion of a speculative bubble. Moreover, the speculative bubble was fueled in part by a loose monetary policy in the years leading up to the 1928-29 run up in stock prices.

Cogley concluded: "In retrospect, it seems that the lesson of the Great Crash is more about the difficulty of identifying speculative bubbles and the risks associated with aggressive actions conditioned on noisy observations. In the critical years 1928 to 1930, the Fed did not stand on the sidelines and allow asset prices to soar unabated. On the contrary, its policy represented a striking example of The Economist's recommendation: a deliberate, preemptive strike against an (apparent) bubble. The Fed succeeded in putting a halt to the rapid increase in share prices, but in doing so it may have contributed one of the main impulses for the Great Depression."

While the Fed's recent quarter-point interest rate increase may seem insignificant at face value, the magnitude of the move can only be appreciated by realizing the rate of change involved.

The following graph provides some idea of just how huge in percentage terms the Fed's policy tightening is.

Effective Fed Funds Rate

It's important to put this chart into its proper long-term context. The bull market which began in 2009 was largely fueled by a loose monetary policy, courtesy of then Fed Chairman Ben Bernanke. His successor, Janet Yellen, has reversed Bernanke's accommodative measures and seems intent on tightening the noose around the economy's throat.

Although many observers denigrate Bernanke's stimulus measures as being excessive, there can be no denying that they were successful in not only reviving the stock market and housing market, but also the overall economy to some degree. Many economists consistently underestimate the extent to which the U.S. economy is tied to the financial market. Yet the saying has never been more apropos than it is today: "As goes the stock market, so goes the economy."

Fed Chair Yellen evidently doesn't understand that truism. Her restrictive monetary policy, if pursued further, will eventually choke the last remnants of forward momentum in the economy, particularly in the manufacturing sector. Truly, now is the time the Fed should pursue an aggressively looser policy.

As one observer put it, "With as much headway as the economy has made since 2009, why not open up the monetary floodgates and gun for prosperity?" Why not, indeed!

One of the biggest criticisms the Fed faced when it initiated quantitative easing (QE) and Operation Twist is that its loose policy would inevitably lead to runaway inflation. Yet here we are some seven years later and inflation is nowhere to be seen. Nay, deflation actually threatens the global economy and, by extension, aspects of the U.S. financial system. Why not then throw all caution to the wind and open up the monetary spigots full throttle? What have we possibly got to lose?

I've long maintained that the single biggest threat to the financial system is not an aggressively loose money policy, but an unjustifiably tight one. Everyone fears financial bubbles these days, but bubbles wouldn't necessarily lead to catastrophe if central banks and governments didn't consistently pop them by tightening money. While it's true that every bubble has its natural limit, they need not always end in catastrophic implosion. Indeed, bubbles in an economy as dynamic as ours are welcome events which bring quantum leaps forward in technological progress. They also tend to raise living standards for nearly everyone. One could argue that without the many bubbles of the last 30 or so years, America wouldn't enjoy her current high standard of living.

Let's now briefly turn our attention to the stock market outlook. While several reasons were given by analysts for the latest stock market rally attempt, the most common one was the hope for additional stimulus from the Bank of Japan and the European Central Bank (ECB). On Jan. 21, ECB President Mario Draghi indicated the bank would consider additional stimulus at its next meeting in March.

Investors were elated by this statement, though it's surprising that the ECB is sufficiently unconcerned by the global financial crisis to wait until March before even considering action. If anything, Draghi's statement is a further testament to the complacency that's still rife despite the trillions of dollars in damage already inflicted by the crisis.

That word "complacency" seems to capture the prevailing sentiment among both retail investors and policymakers right now. Remember that in a bull market the "wall of worry" is what helps to establish the upward trend in stock prices. In a bear market it's the "slope of hope" that predominates.

There seems to be a lot of "holding and hoping" going on right now, and that's not promising from a contrarian's perspective. We need to see a much bigger manifestation of fear, doom and gloom among mainstream investors before we completely cast our concerns about the bear aside.

Another aspect in great need of improvement is the market's internal momentum picture. Since last spring, the number of stocks making new 52-week lows on the NYSE has consistently been above 40. That's a sign that internal weakness is still present in the broad market. Moreover, the important 200-day rate of change in the new highs-new lows has been declining now for over a year. The last time this happened was heading into the 2008 bear market. The following graph shows the enormity of the decline in this indicator since last year.

NYSE 200-Day New Highs - New Lows

As long as this indicator is declining it's warning us that there is a significant undercurrent of weakness within the market. This indicator will obviously need to improve before we have any indication that the bear market is ending and a new bull market is forming. Until then, a continued defensive stance is warranted for long-term investors.

Why QE Was the Worst Thing in the


Jared Dillian
The 10th Man
Long before I started writing for Mauldin Economics, I was a gold bull.
A mega-gold bull.
This started in 2005. I was making markets in ETFs at the time, and as head of the ETF desk at Lehman Brothers, I signed the firm up to be one of the early authorized participants in the SPDR Gold Shares fund (GLD). I was pretty excited.
It may seem quaint now, but at the time, there really wasn’t an easy way to invest in gold outside of coins or bars (high transaction costs, cumbersome) or futures (high barriers to entry). Physical gold, of course, is preferable, but you can’t really trade it, per se.
So I bought some GLD in 2005, bought more, bought more, bought more in 2008 with veins popping out of my neck, and was caught massively long in 2011.
I figured, oh well, it’s just a correction, I’ll ride it out. Except I didn’t know that it was going to be a 40+% drawdown and last five years. If I’d had that knowledge, I probably would have sold.
But my investment thesis on gold hadn’t changed.
Let me explain.
Why Gold
When the financial system was melting down in 2008, I predicted (possibly before anyone else) that Ben Bernanke would conduct unconventional monetary policy: quantitative easing. In retrospect, it wasn’t a hard call. He basically said he was going to do it in a 2002 speech.
I remember the day. The long bond rallied nine handles.
Anyway, that’s when the veins popped out of my neck, because I said all this printed money was going to slosh around the financial system and cause hyperinflation. Of course, I wasn’t the only one saying this, but I was saying it pretty loudly.
Never happened. All that money never ended up sloshing around—it ended up deposited as excess reserves back at the Fed. Years later, people theorized that quantitative easing actually caused the opposite to happen: deflation.
Anyhow, in finance, it is okay to be right for the wrong reasons. Gold went up for three more years, the best-performing asset class, even though the underlying thesis was totally wrong. There was no inflation whatsoever. Eventually, gold got the joke as sentiment turned, and you know what the last five years have been like.

The Weimar Experience

When the gold bugs start talking about hyperinflation, they usually start talking about Weimar Germany, probably the best-documented example of a situation where inflationary psychology took hold.
I don’t want to rehash the whole story here, but basically, post WWI, the League of Nations saddled Germany with a bunch of war reparations it could not possibly ever repay. In the end, though, Germany did repay—with printed money.
The funny thing about inflation is that it is always fun at first. Weimar Germany boomed for a couple of years, before the inflation began to get out of control. Ultimately, the deutsche mark collapsed, replaced by the rentenmark, which was actually backed by something of tangible value: land.
The ensuing financial collapse brought about political instability, which led to the rise of Hitler, and you know the story from there.
Now, clearly that hasn’t happened in the US, and it isn’t likely to happen. We did not get inflation… of goods and services. Interestingly, though, we got inflation of financial asset prices. Stocks and bonds went up, as well as real estate—even art. Great, but as you know, not everybody owns stocks, usually only people with some money to invest.
So as all the research shows, the rich have gotten richer, and the poor have gotten poorer. Inequality has increased massively, which has brought about political instability, which will lead to… who, as president, exactly?
Perish the thought.
Anyway, whether gold goes up or down, I continue to assert that printing money is absolutely the worst thing a central bank can do. Even under the best of circumstances, the unintended consequences are colossally bad. Even now, the Fed is just getting around to acknowledging the fact that QE might have actually caused wealth inequality.
There are those who will always say, “What, was the Fed supposed to do nothing? What do you think would have happened?”
An unimaginably bad depression. Then, the best recovery ever. And nobody would be mad at each other.

Gold Is Bouncing

You can’t deny the price action. Over the last few weeks, it is positively buoyant. If I were short, my butt cheeks would be tightening up.
I’m starting to develop a theory, which is crazy, but then again… it might not be entirely crazy. You can help me decide.
Maybe gold is starting to price in some of this political instability. Maybe it is starting to price in a Sanders or Trump presidency.
After all, if Bernie Sanders were to become president, he would double the debt overnight. If it were Trump, probably the same thing—we are talking about a guy who has spent his entire career screwing creditors.
This increases the possibility, however remote, of debt monetization. Also, populists are great for gold prices.
Like I said, maybe not so crazy. Regardless of whether gold goes up or down, or if you think gold bugs are total idiots, it makes sense (for a lot of portfolio theory reasons) to have it as part of your portfolio.
Sometimes a bigger part than others.

miércoles, febrero 03, 2016



China’s Bumpy New Normal

Joseph E. Stiglitz

 Rooftop in China

SHANGHAI – China’s shift from export-driven growth to a model based on domestic services and household consumption has been much bumpier than some anticipated, with stock-market gyrations and exchange-rate volatility inciting fears about the country’s economic stability. Yet by historical standards, China’s economy is still performing well – at near 7% annual GDP growth, some might say very well – but success on the scale that China has seen over the past three decades breeds high expectations.

There is a basic lesson: “Markets with Chinese characteristics” are as volatile and hard to control as markets with American characteristics. Markets invariably take on a life of their own; they cannot be easily ordered around. To the extent that markets can be controlled, it is through setting the rules of the game in a transparent way.
All markets need rules and regulations. Good rules can help stabilize markets. Badly designed rules, no matter how well intentioned, can have the opposite effect.
For example, since the 1987 stock-market crash in the United States, the importance of having circuit breakers has been recognized; but if improperly designed, such reforms can increase volatility. If there are two levels of circuit breaker – a short-term and a long-term suspension of trading – and they are set too close to each other, once the first is triggered, market participants, realizing the second is likely to kick in as well, could stampede out of the market.
Moreover, what happens in markets may be only loosely coupled with the real economy. The recent Great Recession illustrates this. While the US stock market has had a robust recovery, the real economy has remained in the doldrums. Still, stock-market and exchange-rate volatility can have real effects. Uncertainty may lead to lower consumption and investment (which is why governments should aim for rules that buttress stability).
What matters more, though, are the rules governing the real economy. In China today, as in the US 35 years ago, there is a debate about whether supply-side or demand-side measures are most likely to restore growth. The US experience and many other cases provide some answers.
For starters, supply-side measures can best be undertaken when there is full employment. In the absence of sufficient demand, improving supply-side efficiency simply leads to more underutilization of resources. Moving labor from low-productivity uses to zero-productivity unemployment does not increase output. Today, deficient global aggregate demand requires governments to undertake measures that boost spending.
Such spending can be put to many good uses. China’s critical needs today include reducing inequality, stemming environmental degradation, creating livable cities, and investments in public health, education, infrastructure, and technology. The authorities also need to strengthen regulatory capacity to ensure the safety of food, buildings, medicines and much else.
Social returns from such investments far exceed the costs of capital.
China’s mistake in the past has been to rely too heavily on debt financing. But China also has ample room to increase its tax base in ways that would increase overall efficiency and/or equity.
Environmental taxes could lead to better air and water quality, even as they raise substantial revenues; congestion taxes would improve quality of life in cities; property and capital-gains taxes would encourage higher investment in productive activities, promoting growth. In short, if designed correctly, balanced-budget measures – increasing taxes in tandem with expenditures –could provide a large stimulus to the economy.
Nor should China fall into the trap of emphasizing backward-looking supply-side measures. In the US, resources were wasted when shoddy homes were built in the middle of the Nevada desert. But the first priority is not to knock down those homes (in an effort to consolidate the housing market); it is to ensure that resources are allocated efficiently in the future.
Indeed, the basic principle taught in the first weeks of any elementary economics course is to let bygones be bygones – don’t cry over spilt milk. Low-cost steel (provided at prices below the long-term average cost of production but at or above the marginal cost) may be a distinct advantage for other industries.
It would have been a mistake, for example, to destroy America’s excess capacity in fiber optics, from which US firms gained enormously in the 1990s. The “option” value associated with potential future uses should always be contrasted with the minimal cost of maintenance.
The challenge facing China as it confronts the problem of excess capacity is that those who would otherwise lose their jobs will require some form of support; firms will argue for a robust bailout to minimize their losses. But if the government accompanied effective demand-side measures with active labor-market policies, at least the employment problem could be effectively addressed, and optimal – or at least reasonable – policies for economic restructuring could be designed.
There is also a macro-deflationary problem. Excess capacity fuels downward pressure on prices, with negative externalities on indebted firms, which experience an increase in their real (inflation-adjusted) leverage. But a far better approach than supply-side consolidation is aggressive demand-side expansion, which would counter deflationary pressures.
The economic principles and political factors are thus well known. But too often the debate about China’s economy has been dominated by naive proposals for supply-side reform – accompanied by criticism of the demand-side measures adopted after the 2008 global financial crisis. Those measures were far from perfect; they had to be formulated on the fly, in the context of an unexpected emergency. But they were far better than nothing.
That is because using resources in suboptimal ways is always better than not using them at all; in the absence of the post-2008 stimulus, China would have suffered substantial unemployment.
If the authorities embrace better-designed demand-side reforms, they will have greater scope for more comprehensive supply-side reforms. Moreover, the magnitude of some of the necessary supply-side reforms will be markedly diminished, precisely because the demand-side measures will reduce excess supply.
This is not just an academic debate between Western Keynesian and supply-side economists, now being played out on the other side of the world. The policy approach China adopts will strongly influence economic performance and prospects worldwide.

The Dollar Dog Ate Corporate America’s Homework: 6 Casualties of the Strong US Dollar

Tony Sagami

“At current spot rates, we would expect a significant impact to revenue and profit again in 2016.”

—Martin Schroeter, CFO of IBM


We’re in the middle of earnings season, and one of the themes I am hearing over and over from American companies is how the strong dollar is killing their profits.

How strong? Since mid-2014, the US dollar has appreciated about 15% against a basket of trade-weighted foreign currencies. In 2015 alone, it was up 12%, the biggest one-year gain since the 1970s.

If you’ve traveled abroad recently, you know exactly what I’m talking about.

While a strong dollar is a positive for vacationing Americans, it is bad, bad news for American companies with significant international business because it makes US exports more expensive to foreign buyers and reduces the conversion of foreign profits from foreign currencies into dollars.

And it is only going to get worse. Wall Street economists predict that the US dollar will appreciate by another 4% against the euro and by another 6% against the Japanese yen.

In the third quarter of 2015, the strong US dollar decreased the average American company’s earnings by 12 cents per share, and a growing list of American companies are suffering even more dollar-related pain.

Dollar Casualty #1: Kimberly-Clark

Kimberly-Clark sells a lot of Huggies diapers all around the world. However, it reported that its 2015 revenues were down by 6%. Worse yet, it warned Wall Street that its 2016 revenues would fall by another 3%.

That sounds like business is bad, but Kimberly-Clark is actually pulling in more sales than ever. It is just the currency impact that makes its business look awful—if it weren’t for the effect of the strong US dollar, management said sales would actually be up 3%–5%.

Dollar Casualty #2: Procter & Gamble

Procter & Gamble gets 60% of its revenues from outside of North America, so it is one of the most vulnerable companies to a rising US dollar.

The company reported a 9% drop in quarterly revenues to $16.9 billion because of the dollar.

Dollar Casualty #3: Johnson & Johnson

Johnson & Johnson said its revenues were reduced by 7.5% in 2015 by currency losses.

Dollar Casualty #4: Monsanto

Monsanto is the world's largest seed company and gets 43% of its revenues from outside the US. The company just reported a loss for the fourth quarter of 2015, citing the strong dollar as one of the main reasons. It also cut its 2016 profit forecast from $4.44–$5.01 per share to $4.12–$4.79 per share.

Dollar Casualty #5: DuPont

Chemical company DuPont reported a quarterly loss of $0.29 per share, compared with a net income of $0.74 per share a year earlier. Sales slid 9.3% to $5.3 billion, but without the effect of the strong dollar, sales would have been down only 1%.

A 1% decline isn’t good, but a 9.3% is horrendous.

Dollar Casualty #6: 3M

3M, the maker of Post-it Notes, gets about two-thirds of its revenues from outside the US, and that global reach has cost it dearly. 3M reported an 8.3% drop in profits to $1.66 per share and expects the currency effects to reduce this year’s earnings by 5%.

The Dollar Dog Ate My Homework”

Those are just a few examples from last week. We are certainly going to hear a lot more companies blaming the strong dollar for disappointing earnings.

And those the-dog-ate-my-homework excuses are going to continue for the rest of 2016.

Here’s what you need to do: Take a look at every stock you own and find out what percentage of the company’s revenues comes from outside the US.

If the answer is more than 40%, you should consider dumping the stock before the dollar shrinks profits (and stock price) even more.

There are always exceptions—but fighting the strong dollar is going to be a battle that your portfolio is going to lose.

miércoles, febrero 03, 2016



The FED Can’t Save Us Now – QE4

Chris Vermeulen

Federal Reserve

 With the fall in crude oil prices, the average American’s gas expense is now more affordable. Similarly, the transportation sector should normally benefit from lower crude oil prices. Most of the companies in the transportation sector should post strong results, as crude oil prices are expected to remain low for most of 2016 (according to the EIA).
As the stock markets reward clarity in earnings, the participants are known to reward high valuations to such companies. Under normal conditions, prices of such stocks should rise. However, the chart below shows a different story. The Dow Transportation Index, which was regularly making new highs, made a dash to the upside when crude oil started falling (as indicated in the chart).
Whenever, we have such “disconnects”, it leads to a larger fall (similar to the one we had in 2008).

During that crash, the Dow Transportations Index followed the drop in crude oil prices. Are we going to see a repeat of 2008? Yes, all signs are pointing in that direction.
Chart 1
Dow Transports vs Crude Oil Price
Why are we referring back to the 2008?
After any crisis, the economy goes through a corrective phase during which time the excesses of the crisis are washed away. This is generally a painful period, but it is the only solution. The excesses before the beginning of “The Great Depression”, took many years to correct. It was followed by a long-term growth throughout the world, which was followed by a very strong bull market.
The US had similar excesses in the 2007-2008 period, during “The Great Recession”, but the FED panicked and did not allow the excesses to be washed away.
The FED has been wrong all along in its perceived solution of the financial crisis:
Many experts have criticized the FED for the 2007- 2008 financial crisis, and rightly so. The crisis was due to the easy monetary policy of the FED and the need to earn quick profits by the large financial institutions in order to support the “lofty valuations”.
With all of these resources, at hand, it is surprising how the FED wanted to solve the problem with the very same instruments, which, in fact, caused the crisis. Since 2008, they maintained an “easy monetary policy”. All of the financial institutions have used the “easy money” in order to strengthen their balance sheet and earn returns by pumping money into the stock markets. The famous Albert Einstein once stated “Insanity: doing the same thing over and over again and expecting different results”, is very reflective of the FED actions.
The FED has blown the problem into an unmanageable proportion:
In 2008, the problem was manageable, with only a few large financial institutions having balance sheets full of bad debts. Rather than solving the problem, the FED has blown it into such large proportions that now it needs insolvency of the nation in order to sort out the “excesses”. Who has been the beneficiary of all of this excess liquidity? The Stock Markets….
Chart 2
Looking at the chart above, it seems that the FED was working as a personal banker to the stock markets and supporting it each time the markets went down. The market participants brought the SPX down by 5%-7%, causing the FED to “panic” and announce another QE as well as a rate cut. After the recent drop, there are whispers of a likely QE4. by the FED, and reflecting on their history, it does seem like a possibility.
This will end with ‘The Great Reset’:
If you thought that ‘The Great Recession’ was bad, wait for ‘The Great Reset’. The Chinese stock market is a good example of how QE might work in the short-term, but in the long-term, it is not the solution.
The US markets are nearing the same period within the stock market. The QE4 and other announcements by the FED, will not be able to stem the forthcoming slide with in the stock market thought it may provide a temporary lift last a few months, but the downside pressure and weight the market is carriing I think will overpower QE4 eventually. The world will have to go through ‘The Global Reset’ in order to wash away the excesses.
If the stock markets are going to tank and the commodity markets are already scraping the bottom (led by crude oil) where does one invest? Over the next five years, the best investment in terms of currency is likely to be ‘Gold and Silver’, which are currently out of favor.
Watch My Video About What Is About To Happen Next: www.TheGoldAndOilGuy.com
Chris Vermeulen

China Or Soros: Who Is Right?

By Valentin Schmid

The falling yuan and slowing economy must be wearing on the Chinese regime. Otherwise, why would they publish a childish op-ed on the People's Daily front page attacking billionaire investor George Soros, titled "Declaring War on China's Currency? Ha Ha."
First of all, nobody knows whether Soros is really declaring war on the yuan. He only said he was sure Asian currencies and China would have a hard landing at an interview at the World Economic Forum in Davos last week.
Maybe it was this statement that rubbed the Communist Party mouthpiece the wrong way, as they also defended the Chinese economy at large after making this statement about the currency:
"Soros's challenge for the renminbi and the Hong Kong dollar is unlikely to succeed-there is no doubt."
Aside from the fact that there is doubt if it is just unlikely and not impossible, Soros never said he was targeting the renminbi and the Hong Kong dollar, and even granted China the ability to manage a hard landing.
This did not prevent the People's Daily from blaming him for the steady decline of the yuan.
"Because of his influence, fluctuations in the international financial markets has intensified already existing speculative attacks. Asian currencies obviously feel greater pressure."
So, if we assume Soros is indeed short the onshore or offshore yuan or the Hong Kong dollar, who would be right, the People's Daily or him?
Maybe the Chinese regime thought it had to nip Soros's influence in the butt, because he is usually right about when currencies have to devalue, especially when they are pegged to other currencies.
For starters, he made 1 billion pounds betting against the bank of England on September 16, 1992, when Britain had to withdraw the pound sterling from the rigid European Exchange Rate Mechanism (ERM). Estimates vary, but the Bank of England spent 2 billion an hour in the morning of that day to defend the currency against Soros. Incidentally, this number is close to the $3.5 billion China spent every day in December to defend its exchange rate. At least the Brits gave up in the afternoon. China is still fighting on.

Several officials and politicians have also accused Soros of participating in the demise of the Asian currencies during the Asian financial crisis in 1997, although it is unclear to what degree and how much money he made.
The People's Daily doesn't think this matters much, though, and we should look at the larger historical context: "The continued appreciation of one currency against the US dollar for such a long time, and with an amplitude so large is rare. A slight pullback now is normal."
Of course, it helps if the currency devalues 33 percent before it starts to appreciate, like in 1994, which took the rate from 4.7 yuan per dollar to 8.7, but this is beside the point. The point is Soros sees the same problems he saw in Europe in the early '90s and in Asia in the late '90s.
(Raymond James)
The first commonality is a dominant central bank tightening monetary policy. This was the Bundesbank in 1992 and the Federal Reserve in 1997, although both started their cycle much earlier.
In this decade, the Fed started tightening monetary policy in 2013 with the beginning of the end of quantitative easing. The recent 0.25 percent rate hike is just the continuation of that policy.

Relatively tighter monetary policy made the Deutsche mark more attractive versus the pound and the dollar more attractive compared to the Asian currencies in 1997 and now.
The other commonality is a combination of debt and deteriorating assets. Although China has paid down a large portion of its foreign debt, there is still $877 left. This is the unwinding of the carry trade, which was the biggest factor in the Asia currency crisis of 1997 and plays a relatively smaller part for China in 2016.
China shares the fate of the United Kingdom in 1992 that domestic and international investors are losing confidence in the economy and asset markets. Even though the UK raised interest rates from 10 to 15 percent in one day, it did not convince the markets it would sustain that level given a faltering economy.

China is far away from raising rates, and, in fact, is trying to ease domestic liquidity conditions because of an unprecedented economic slowdown. In addition, much like Germany's government bonds were preferred to the UK's in 1992 because of a stronger economy and lower inflation, the United States' stocks, bonds, and real estate are preferred to Chinese real estate, stocks, and bank deposits because of deflation and systemic risks in the banking system.
Of course, don't tell this to the People's Daily. It hopes speculative attacks, which just profit from fundamental economic problems and never cause them, will lead to more financial cooperation between the Asian nations and even a single currency.
"International monetary cooperation from low to high is divided into international financing cooperation, joint intervention in currency markets, macroeconomic policy coordination, joint exchange rate mechanism, and a single currency. The direct power of its deepening is usually pressure from speculative currency attacks," it states.
Of course, the editors missed the point that Germany did not intervene on the UK's behalf in 1992 and founded the euro single currency with the countries who were still part of the ERM - after it won the war against the pound.