Greenspan on Bubbles

Doug Nolan

Bloomberg’s Tom Keene (Monday, June 27, 2016): “If I take Paul Krugman and Alan Greenspan’s primal cry, ‘we want simple models.’ Is our solution now to think simple or is there a value to the complexity of globalization and the complexity of institutions? Which way should we turn now?”

Alan Greenspan “You want to have as simple a model as you can get that actually captures the complexity of the forces in play… The FRBUS (Federal Reserve Board US) model… that model works exceptionally well for the non-financial area… The financial model was awful. It captured nothing. It didn’t grasp what the issue is. And I tried to reproduce what I would do in ‘The Map and the Territory 2.0’… And I demonstrate what we have going - that we don’t measure correctly - are bubbles and their implications. Bubbles per se are not toxic. The 2000 bubble collapsed. We barely could see a change in economic activity. On October 19, 1987, the Dow Jones went down 23% in one day. You will not find the slightest indication of that collapse of that bubble in the GDP number – or in industrial production or anything else. So I think that you have to basically decide what is causing what. I think the major issue in the financial models has got to be to capture the bubble effect. Bubbles are essentially part of of the fact that human nature is not wholly rational. And you can see it in the data very clearly.”

As Mr. Greenspan spoke on Bloomberg Radio Monday morning, the UK’s FTSE 100 Index was trading just above 6,000. Europe’s STOXX 600 Banks Index was down 7.2% for the session at 120. Germany’s DAX index was quoted at 9,370. Also suffering post-Brexit effects, S&P500 futures were trading just above 2000. Bloomberg ran the headlines: “Greenspan: Brexit ‘Terrible Outcome in All Respects.’” “Greenspan: Euro is Unstable Currency.” The former Fed chairman was extraordinarily gloomy on the UK, Europe and the world. Markets that morning appeared wholly rational.

Yet market rationality was not wholly apparent the rest of the week. The FTSE rallied a full 10% off of Monday’s lows. European banks jumped almost 7.0%. The DAX ended the week at 9,776, up 6.2% from Monday’s lows. The S&P500 rose 5.0% from the Monday low, and the biotechs rallied more than 10%.

I’m no fan of Alan Greenspan, but he remains impressively sharp for a man of 90. I appreciate his analytical focus on Bubbles, though his framework is deeply flawed. At their core, Bubbles are about Credit excess and market distortions. Major Bubbles almost certainly have a major government component. They are indeed toxic, seductively so. Had the Greenspan Fed not backstopped the markets and flooded the system with liquidity post the ’87 Crash, Credit would have tightened and bursting Bubble effects would have been readily apparent throughout the data. Instead, late-eighties (“decade of greed”) excess ensured spectacular Bubbles in junk debt, M&A and coastal real estate. It’s been serial Bubbles ever since.

One could reasonably argue that Bubble toxicity has for almost 30 years been diluted with the tonic of recurring Credit and speculative excess. Non-financial debt expanded 9.2% in 1988, a slight increase from ‘87’s 9.0%. Corporate borrowings accelerated to a blistering 10.9% the year following the crash, as much of the economy maintained a strong inflationary bias. After slipping to 4.8% with the bursting of “tech Bubble” in 2000, non-financial debt growth jumped to 5.8% in 2001, 6.7% in 2002, 7.7% in 2003 and 9.2% in 2004. Beginning in 2001, household mortgage debt expanded at a double-digit annual pace for six straight years, as mortgage finance and housing demonstrated powerful Bubble Dynamics.

Alan Greenspan these days laments public anger, entitlements and stagnant productivity growth – all on a global basis. But what should we expect after decades of Bubble-induced resource misallocation, malinvestment and wealth redistribution? Myriad Bubble-related issues have finally risen to surface. The dilemma for policymakers is that there’s no New New Bubble of sufficient proportions to reflate the global economy. Frantic efforts to reflate through securities markets inflation have at this point nurtured interminable financial and economic fragilities.

Conventional analysis views the U.S. equities market as notably resilient, with trading action confirming the ongoing bull market. From my perspective, this week’s trading is further evidence of dysfunctional markets. The U.S. stock market casino in particular has reached the point of being incapable of discounting the deteriorating fundamental backdrop. And any doubts that securities markets are now virtually commanded by global central banks can be put to rest. Policymakers continue to foment dangerous Bubble Dynamics. Is it human nature and the markets that have a propensity toward irrationality, or is the culprit instead hopelessly flawed monetary management?

There’s surely no better mechanism available for quick gains in the marketplace than a short squeeze. Throw in a global pool of speculative finance of now unimaginable dimensions – coupled with heavy hedging and shorting activity and a proliferation of Crowded Trades – and one has the firepower necessary for wildly unstable markets with a propensity for destabilizing melt-ups. That’s where we’re at. Performance pressure has become so intense that no rally can be missed.

It’s been Only 19 Weeks since I titled a CBB “Crisis Management.” Market tumult back in January and February forced global central bankers into ever more desperate measures. Risk markets rallied strongly, though policy measures have demonstrated notably shorter half-lives. Moreover, policies are clearly having much more pronounced impacts on the Financial Sphere than upon the Real Economy Sphere.

June 30 – Financial Times (Adam Samson): “The universe of negative-yielding government debt has increased by more than $1tn in the last month to reach a high of almost $12tn in one of the most tangible results of Britain’s decision to leave the EU… Low sovereign bond yields reflect gloomy economic outlooks and expectations of central bank stimulus. In turn a record $11.7tn of global sovereign debt has now entered sub-zero territory — an increase of $1.3tn since the end of May…”

UK yields sank to record lows this week, with 10-year gilt yields ending down 22 bps this week to 0.86%. And despite the big equities rally and surging risk markets generally, the British pound has taken Brexit seriously, sinking 3.0% this week to a 30-year low. With London as Europe and much of the world’s financial center, investors needn’t be bothered with fundamental factors such a perpetual Current Account Deficits and massive external debts. Suddenly many things have changed.

In a way, the UK is the poster child for financial Bubble maladjustment. I would strongly argue that it’s no coincidence that after residing at the center of contemporary finance, it is the UK that now finds itself at the epicenter of disenchantment with European integration and globalization more generally. The UK economy has deindustrialized, as the economic focus shifted to finance and services. As a global financial hub, enormous amounts of wealth have gravitated to London, enriching the fortunate few while papering over deep structural deficiencies. Meanwhile, with much of the population suffering from economic stagnation and egregious wealth disparities, the backlash against “globalization” has reached a turning point.

I would contend that globalization is not the true culprit, just as I argue that Capitalism is certainly not the root of all evil. The problem lies with unfettered finance and monetary mismanagement. Pricing mechanisms and resource allocation, the lifeblood of free-market Capitalism, will not function well within a backdrop of unlimited cheap finance. Similarly, so-called “globalization” is destined for failure in a backdrop of limitless financial claims.

I remain a proponent of “free trade.” Yet in the long-term it’s imperative that trading relationships involve exchanging things for things, rather than IOUs for things. I would go so far as to argue that this simple concept would go a long way toward nurturing healthy trading relationships, sound economic underpinnings and a more stable global financial backdrop.

For decades now, the U.S. and UK became accustomed to exchanging IOUs for goods and services. It has worked miraculously, or seemingly so. Consequences have included deep economic maladjustment and a world inundated with debt/financial claims. Look no further for the root cause of endemic financial instability and serial boom and bust dynamics that now afflict the entire world.

I wish to be clear: I am not arguing for barter between individual nations. Trade deficits and surpluses can exist between individual countries. But overall, countries should avoid running persistently large overall Current Account Deficits. Deficits with some countries should be offset by surpluses with others. Persistent trade deficits should be countered with tighter monetary policy.

The pound closed Friday trading near 30-year lows. British IOUs, in currency terms, have been devalued about 10% since Brexit. How robust is Britain’s economic structure if it loses the benefits associated with being Europe’s financial hub and with it financialization more generally? 

Benefiting from the prospect of aggressive monetary stimulus and devaluation, UK stocks participated in this week’s global equities rally. Notably, UK bank stocks were slammed hard again Monday and closed Friday down for the week.

Bank stocks again badly lagged during this week’s global rally. Deutsche Bank (the IMF’s “most important net contributor to systemic risks”) dropped another 7% this week (to a 30-year low), increasing 2016 losses to almost 44%. Italian bank stocks sank another 5.4% (down 54% y-t-d), as talk turned to contentious issues such as rescue packages and measures to avert bank runs. While European equities indices rallied, Europe’s STOXX Bank index declined 2.4% (down 31% y-t-d). And despite Japan’s Nikkei 225 equities index rallying 4.9%, the TOPIX Banks Index slipped 0.4% (down 37% y-t-d). The S&P500 jumped 3.2% this week approaching record highs, while the banks (BKX) rallied only 1.1% and the broker/dealers (XBD) ended the week little changed.

Central banks lined up this week to offer support for vulnerable financial markets. Post-Brexit mayhem created a critical juncture, and policymakers got the market bounce they desperately needed. Clearly, central bankers retain the capacity to incite powerful short squeezes. There was considerable hedging going into the UK referendum, and the unwind of derivative trades and short positions provided fuel for this week’s recovery.

But it’s one things inciting higher prices in an over-liquefied Financial Sphere and quite another stimulating sustainable activity in the maladjusted Real Economy Sphere. Indeed, I’ve argued that a fundamental risk associated with inflationist monetary policies is the widening divergence between inflated securities markets and deflating economic prospects. This schism widened meaningfully this week.

Certainly, fixed income, the precious metals and global bank stocks view the world much differently than equities. Pondering such an extraordinary backdrop, I’ll return to Greenspan. 
Bubbles are toxic and, regrettably, toxicity has been accumulating for several decades. Fissures in global finance – the Financial Sphere - have uncovered pernicious forces undermining economies and societies around the world.

It was also a fascinating week in the commodities and currencies. Gold stocks (HUI) surged 8.9%. Silver jumped 11.6% and copper rose 5.0%. The commodities currencies caught bids versus the dollar, with the Brazilian real gaining 4.1%, the South African rand 3.5%, the Mexican peso 3.0%, the Norwegian krone 1.1%, the Canadian dollar 0.7%, the New Zealand dollar 0.7% and the Australian dollar 0.4%. EM equities were notable strong. Stealth U.S. dollar weakness and/or anticipation of QE4?

Everyone knows the U.S. economy is the “least dirty shirt.” We all appreciate that U.S. financial markets win by default in such a messed up world. “Money” has to go somewhere. 
London may be Europe’s financial hub and the UK the poster child for globalization/financialization. But a strong case can be made that the U.S. economy is more dependent on Wall Street and securities market inflation than anyone. More than ever before, take away asset price inflation and the U.S. economic structure will reveal serious deficiencies. 
And even after succumbing to desperate measures, global central bankers are at this point failing at global reflation.

I’m remain comfortable with the view that Brexit is a catalyst for a crisis of confidence in Europe and European integration. And despite a surprising burst of equity market exuberance, I suspect Brexit will, as well, be recognized as a key inflection point for the realm of globalization/financialization. This bodes ill for U.S. and Chinese economies.

Global markets at this point seem rather convinced that a lot more QE is in the offing. Bond markets are confident that this liquidity deluge will have minimal lasting real economy impact. 
It’s a replay of 2007/08, when mortgage finance, global M&A and equities kept dancing, but safe haven bonds knew the party couldn’t last. Objectively, $12 TN of negative yielding bonds is about the strongest evidence I could have imagined that central bank inflationism and a multi-decade global Bubble are nearing the end of the line.

Artificial intelligence

March of the machines

What history tells us about the future of artificial intelligence—and how society should respond

EXPERTS warn that “the substitution of machinery for human labour” may “render the population redundant”. They worry that “the discovery of this mighty power” has come “before we knew how to employ it rightly”. Such fears are expressed today by those who worry that advances in artificial intelligence (AI) could destroy millions of jobs and pose a “Terminator”-style threat to humanity. But these are in fact the words of commentators discussing mechanisation and steam power two centuries ago. Back then the controversy over the dangers posed by machines was known as the “machinery question”. Now a very similar debate is under way.

After many false dawns, AI has made extraordinary progress in the past few years, thanks to a versatile technique called “deep learning”. Given enough data, large (or “deep”) neural networks, modelled on the brain’s architecture, can be trained to do all kinds of things. They power Google’s search engine, Facebook’s automatic photo tagging, Apple’s voice assistant, Amazon’s shopping recommendations and Tesla’s self-driving cars. But this rapid progress has also led to concerns about safety and job losses. Stephen Hawking, Elon Musk and others wonder whether AI could get out of control, precipitating a sci-fi conflict between people and machines. Others worry that AI will cause widespread unemployment, by automating cognitive tasks that could previously be done only by people. After 200 years, the machinery question is back. It needs to be answered.

Machinery questions and answers
The most alarming scenario is of rogue AI turning evil, as seen in countless sci-fi films. It is the modern expression of an old fear, going back to “Frankenstein” (1818) and beyond. But although AI systems are impressive, they can perform only very specific tasks: a general AI capable of outwitting its human creators remains a distant and uncertain prospect. Worrying about it is like worrying about overpopulation on Mars before colonists have even set foot there, says Andrew Ng, an AI researcher. The more pressing aspect of the machinery question is what impact AI might have on people’s jobs and way of life.

This fear also has a long history. Panics about “technological unemployment” struck in the 1960s (when firms first installed computers and robots) and the 1980s (when PCs landed on desks). Each time, it seemed that widespread automation of skilled workers’ jobs was just around the corner.

Each time, in fact, technology ultimately created more jobs than it destroyed, as the automation of one chore increased demand for people to do the related tasks that were still beyond machines.

Replacing some bank tellers with ATMs, for example, made it cheaper to open new branches, creating many more new jobs in sales and customer service. Similarly, e-commerce has increased overall employment in retailing. As with the introduction of computing into offices, AI will not so much replace workers directly as require them to gain new skills to complement it. Although a much-cited paper suggests that up to 47% of American jobs face potential automation in the next decade or two, other studies estimate that less than 10% will actually go.

Even if job losses in the short term are likely to be more than offset by the creation of new jobs in the long term, the experience of the 19th century shows that the transition can be traumatic.

Economic growth took off after centuries of stagnant living standards, but decades passed before this was fully reflected in higher wages. The rapid shift of growing populations from farms to urban factories contributed to unrest across Europe. Governments took a century to respond with new education and welfare systems.

This time the transition is likely to be faster, as technologies diffuse more quickly than they did 200 years ago. Income inequality is already growing, because high-skill workers benefit disproportionately when technology complements their jobs. This poses two challenges for employers and policymakers: how to help existing workers acquire new skills; and how to prepare future generations for a workplace stuffed full of AI.

An intelligent response
As technology changes the skills needed for each profession, workers will have to adjust. That will mean making education and training flexible enough to teach new skills quickly and efficiently. It will require a greater emphasis on lifelong learning and on-the-job training, and wider use of online learning and video-game-style simulation. AI may itself help, by personalising computer-based learning and by identifying workers’ skills gaps and opportunities for retraining.

Social and character skills will matter more, too. When jobs are perishable, technologies come and go and people’s working lives are longer, social skills are a foundation. They can give humans an edge, helping them do work that calls for empathy and human interaction—traits that are beyond machines.

And welfare systems will have to be updated, to smooth the transitions between jobs and to support workers while they pick up new skills. One scheme widely touted as a panacea is a “basic income”, paid to everybody regardless of their situation. But that would not make sense without strong evidence that this technological revolution, unlike previous ones, is eroding the demand for labour.

Instead countries should learn from Denmark’s “flexicurity” system, which lets firms hire and fire easily, while supporting unemployed workers as they retrain and look for new jobs.

Benefits, pensions and health care should follow individual workers, rather than being tied (as often today) to employers.

Despite the march of technology, there is little sign that industrial-era education and welfare systems are yet being modernised and made flexible. Policymakers need to get going now because, the longer they delay, the greater the burden on the welfare state. John Stuart Mill wrote in the 1840s that “there cannot be a more legitimate object of the legislator’s care” than looking after those whose livelihoods are disrupted by technology. That was true in the era of the steam engine, and it remains true in the era of artificial intelligence.

Getting Technical

Don’t Chase This Rally; Weak Outlook for Stocks

As stocks roar back from Brexit lows, bonds, defensive sectors and gold are leading the charge higher.

By Michael Kahn

Photo: Pixabay
After two days of free fall, the stock market has now spent three days rallying back, and the Standard & Poor’s 500 retraced about three quarters of what it lost. Fear as measured by the CBOE Volatility Index, a.k.a. VIX, is already significantly below where we were before the Brexit vote.
On the surface, it seems that the panic was indeed overblown, as I wrote here Tuesday. However, I also thought the market was still weak, and there is now more technical evidence to support that view.
It is borne out of two key observations. The first comes from the bond market as interest rates remain at very low levels. Rates fell Friday and Monday as stocks plunged, but they did not move higher as stocks recovered. This suggests that the bond market still believes that something is still wrong in the economy.

Further, the yield curve flattened a bit more. The spread between the yields on the 10-year Treasury note and the two-year Treasury note remains quite narrow. That hurts bank stocks directly but also keeps the narrowing trend intact. A flat yield curve is often a precursor to a recession.
The second observation comes directly from the stock market. Sectors that outperform in times of uncertainty or trouble are indeed leading. As the chart of the relative performance of several Select Sector SPDR exchange-traded funds shows, two traditionally defensive groups — Consumer Staples and Healthcare  — have recovered all that they lost after the Brexit vote (see Chart 1).

Chart 1

And the two sectors that are worse off relative to the market since that time are Basic Materials and Financial.
This chart overlays the performance of various sector ETFs with the S&P 500 and lines them up with the close last Thursday before the Brexit vote. It shows us very clearly which sectors are mostly unscathed and which are damaged in its aftermath.
The other sectors, such as Consumer Discretionary and Energy, sport performances on par with the S&P 500, so they were omitted from the chart for clarity.
I interpret this chart to mean that the market, despite a bear-busting recovery rally, is still looking for trouble ahead.
In the next chart, the Utilities and the VanEck Vectors Gold Miners ETF are added (see Chart 2). As we’d expect, utilities outperform the S&P 500 as they track closer to the bond market.

Chart 2

However, gold stocks blow everything else away. This may not be much of a surprise, but considering that gold mining stocks are components of the basic materials sector it makes the lagging performance of that group even more exaggerated. Remove gold from the sector and the remainder — chemicals, packaging and construction materials — look that much weaker.
Combine the signals from the bond market and the stock market and it makes this week’s recovery look to be just the erasure of last week’s end-of-the-economic-world panic. The overall look for stocks and the economy by extension remains as it was before the vote — weak.
Heading for the hills is not necessary. But preparing for a downturn makes abundant sense.
Michael Kahn, a longtime columnist for, comments on technical analysis at A former Chief Technical Analyst for BridgeNews and former director for the Market Technicians Association, Kahn has written three books about technical analysis.

A British Tragedy in One Act

Chris Patten


OXFORD – Thursday night is said to have been momentous for those who campaigned to leave the European Union and turn Britain’s back on the twenty-first century. On that, at least, I can agree. As Cicero wrote: “O wretched and unhappy was that day.”
The decision to leave the EU will dominate British national life for the next decade, if not longer. One can argue about the precise scale of the economic shock – short- and long-term – but it is difficult to imagine any circumstances in which the United Kingdom does not become poorer and less significant in the world. Many of those who were encouraged to vote allegedly for their “independence” will find that, far from gaining freedom, they have lost their job.
So, why did it happen?
First, a referendum reduces complexity to absurd simplicity. The tangle of international cooperation and shared sovereignty represented by Britain’s membership of the EU was traduced into a series of mendacious claims and promises. The British people were told there would be no economic price to pay for leaving, and no losses for all those sectors of its society that have benefited from Europe.
Voters were promised an advantageous trade deal with Europe (Britain’s biggest market), lower immigration, and more money for the National Health Service and other cherished public goods and services. Above all, Britain, it was said, would regain its “mojo,” the creative vitality needed to take the world by storm.
One of the horrors that lie ahead will be the growing disappointment of “Leave” supporters as all of these lies are exposed. The voters were told that they would “get their country back.” I do not believe they will like what it turns out to be.
A second reason for the disaster is the fragmentation of Britain’s two main political parties. For years, anti-European sentiment has corroded the authority of Conservative leaders. Moreover, any notion of party discipline and loyalty collapsed years ago, as the number of committed Conservative supporters dwindled. Worse is what has happened in the Labour Party, whose traditional supporters provided the impetus behind the big “Leave” votes in many working-class areas.
With Brexit, we have now seen Donald Trump-style populism come to Britain. Obviously, there is widespread hostility, submerged in a tsunami of populist bile, to anyone deemed a member of the “establishment.” Brexit campaigners like Justice Secretary Michael Gove rejected every expert as part of a self-serving conspiracy of the haves against the have-nots. So, whether it was the governor of the Bank of England, the Archbishop of Canterbury, or the President of the United States, their advice counted for nothing. All were portrayed as representatives of another world, with no relationship to the lives of ordinary British people.
That points to a third reason for the pro-Brexit vote: growing social inequity has contributed to a revolt against a perceived metropolitan elite. Old industrial England, in cities like Sunderland and Manchester, voted against better-off London. Globalization, these voters were told, benefits only those at the top – comfortable working with the rest of the world – at the expense of everyone else.
Beyond these reasons, it doesn’t help that for years hardly anyone has vigorously defended British membership in the EU. This created a vacuum, allowing delusion and deception to blot out the benefits of European cooperation, and encouraging the view that the British had become the slaves of Brussels. Pro-Brexit voters were fed a ludicrous conception of sovereignty, leading them to choose pantomime independence over the national interest.
But moaning and rending one’s garments won’t do any good now. In grim circumstances, concerned parties must honorably try to secure what is best for the UK. One hopes the Brexiteers were at least half right, as difficult as that is to imagine. At any rate, one must make the best of the hand that has been dealt.
Still, three immediate challenges come to mind.
First, now that David Cameron has made clear that he will resign, the Conservative Party’s right wing and some of its sourer members will dominate the new government. Cameron had no choice. He could not possibly have gone to Brussels on behalf of his backstabbing colleagues to negotiate something he didn’t support. If his successor is a Brexit leader, Britain can look forward to being led by someone who has spent the last ten weeks spreading lies.
Second, the bonds that hold the UK together – particularly Scotland and Northern Ireland, which both voted to stay in Europe – will come under great strain. I hope the Brexit revolt will not lead inevitably to a vote for the breakup of the UK, but that outcome is certainly a possibility.
Third, Britain will need to begin negotiating its exit very soon. It is difficult to see how it can possibly end up with a better relationship with the EU than it has now. All Britons will have their work cut out for them to convince their friends around the world that they have not taken leave of their moderate senses.
The referendum campaign revived nationalist politics, which in the end is always about race, immigration, and conspiracies. A task we all have in the pro-Europe camp is to try to contain the forces that Brexit has unleashed, and to assert the sort of values that have in the past earned us so many friends and admirers around the world.
All of this began in the 1940s, with Winston Churchill and his vision of Europe. The way it will end can be described by one of Churchill’s more famous aphorisms: “The trouble with committing political suicide is that you live to regret it.”
In fact, many “Leave” voters may not live to regret it. But the young Britons who voted overwhelmingly to remain a part of Europe almost certainly will.


The Security Consequences of Brexit

Apart from creating economic turmoil, Britain’s calamitous vote to leave the European Union could have no less profound foreign policy consequences, weakening the interlocking web of Western institutions and alliances that have helped guarantee international peace and stability for 70 years.

This is also a testing moment for President Obama, who has been understandably preoccupied with building alliances in Asia, but must once again make Europe and the trans-Atlantic alliance a priority and find ways to rebuild consensus and chart a united path forward.

Otherwise, the major beneficiaries will be Russia and China, both challenging the established Western-led order.

Since World War II, the United States, aided principally by Britain, has worked to reduce the potential for international conflict, with particular success in Europe; encourage democratic governance; promote free markets; and lift billions of people out of poverty. This was achieved by working with its allies to establish multiple reinforcing institutions, including NATO, the military alliance that now has 28 members; the E.U., the economic alliance that will have 27 members when Britain leaves; the World Bank; and the International Monetary Fund. In short, together America and Europe wrote the rules and norms by which much of the world now lives.

The policies pursued by the West have sometimes been flawed and sometimes failed, but the system that linked America and Europe in a common defense and common political cause ended the Cold War, reunited Germany, built a new Europe and sought in one way or another to address every other major threat. A crucial brick in that system is now in danger of being removed.

This stunning development comes at a time when these institutions were already under stress and when many people on both sides of the Atlantic had grown complacent about the relationship and its reinforcing commitments. Europe is economically battered, overwhelmed by refugees fleeing chaos in the Middle East and fearful of attacks within its borders by the Islamic State and other terrorists.

Compounding the problem is Russia’s president, Vladimir Putin. Ruthlessly playing a weak hand, he has worked hard to undermine NATO and challenge the post-Cold War order by invading Ukraine, funding right-wing groups in France and elsewhere and recklessly brandishing his military power from the Baltics to Syria. European countries have struggled to remain united on issues ranging from NATO’s budget to how best to respond to Mr. Putin.

Meanwhile, China, a rising power that sometimes makes common cause with Russia, has been challenging the United States by expanding its control over the South China Sea and establishing its own Asian regional development bank as a means of wielding economic influence.

Britain’s departure must be negotiated with the E.U. and could take as long as two years. Even with this break, Britain would remain in NATO, but less as a leading European power than as a more inward-looking nation consumed with national politics. That would mean a Britain less able or willing to address the economic and security challenges of Europe as a whole and less inclined to support American-led responses to crises across the globe. The referendum could also inspire nationalist forces elsewhere in Europe to step up their own assault on European integration.

The vote is a setback for President Obama, who urged Britain to remain in the E.U. when he visited London in April. On Friday, he insisted that Britain and the E.U. would both remain America’s indispensable partners. Other administration officials promised to work closely with Britain to ease the E.U. transition.

It’s hard to imagine that Europe could once again deteriorate into rival nation-states and that Europe and America could drift apart. Even so, Mr. Obama must work with Germany and France, the other two European powers, to understand the forces behind the Brexit vote, address the grievances that produced such a result and reaffirm and strengthen the alliance and its common agenda. Next month’s NATO summit meeting is an opportunity to begin that process.

U.K. Exit Is Different This Time

Last break from Europe was in 1992; ‘Brexit’ decision raises risks for the pound, real estate and economy

By Paul Davies

Freed from the shackles of Europe, many who voted for a British exit expected the U.K. to prosper. The pound may fall, but this and a slashing of EU regulatory restrictions should only add to the country’s competitiveness. Stocks should rally.

That didn’t happen. The FTSE 100 finished more than 3% lower, which in dollar terms is closer to 10% down. Many companies—especially banks and home builders—did far worse.

The most worrisome, though expected move, was in the pound, which fell 6% versus the dollar.

That highlights the U.K. economy’s major vulnerability—it needs to borrow from abroad to fund its day-to-day spending. A decision by foreign investors to stop that funding or make it more expensive could be damaging to the economy and the Banks.

The hopeful might look back to the last time the U.K. made a break from Europe. In 1992, another Conservative government pulled out of the Exchange Rate Mechanism that linked the continent’s currencies due to massive pressure on the pound.

But the differences between then and now are striking and help to explain why not only U.K. share prices are falling but also why the outlook for property prices might take a bleak turn, too.

Back in September 1992, the FTSE 100 had fallen by 15% over the previous five months and house prices had been drifting down from recent highs, according to Credit Suisse. CS -16.11 % Interest rates were at 10% and in one day the government had said it would lift rates to 12% then 15% before it capitulated and quit the currency regime.

Over the next six months after the pound’s fall, the U.K. stoked the economy by cutting rates to less than 6%.

Today, U.K. stocks have been held up near historic highs by ultraloose monetary policy. House prices are at all-time highs and affordability is stretched to precrisis extremes.

The U.K. economy is very likely to suffer a slowdown as a result of the uncertainty. This break with Europe is far more significant than in 1992 because the whole trading relationship with the country’s biggest export market has to be renegotiated.

The willingness of foreign investors to fund the U.K.’s large current-account deficit was already waning in the run-up to the vote, weighing on capital flows. U.K. government bonds have rallied a little on the result, but Bank of America-Merrill Lynch analysts reckon this won’t last.

Bearish sentiment will come to dominate.

And that is the other big difference between 1992 and today. Back then the U.K. current-account deficit was running at less than 2% of gross domestic product; now it is closer to 7% of a bigger economy.

Mark Carney, governor of the Bank of England, highlighted the risk in one of his early interventions in the “Brexit” debate. Speaking to British politicians at a committee hearing, he warned it would be dangerous for the U.K. economy to find itself “relying on the kindness of strangers” to fund its borrowing and spending in what would be more volatile markets after a vote to leave Europe.

A New Balance Of Power In The Gold Market

By: John Rubino

Gold analyst Michael Ballanger just posted an article noting how much things have changed -- perhaps for the better -- in the gold market. Here's an excerpt:

Commercial Traders Have Just Gone Over the Top 
(24hGold) - With Friday's Commitment of Traders Report, the ridiculous has just metastasized into the sublime as the Commercial Cretins have just gone "over the top" and added another 5.4M "ounces" to their synthetic gold short position. At 298,077 contracts declared short, they are now carrying the largest short position in Crimex history. The scary part is that these figures don't include the big rise in open interest yesterday and you just KNOW that it ballooned out due to more Cartel shorting. 

Gold CoT

 While these numbers are synonymous with prior tops like in 2008 and 2011, the difference today lies in two realities: 1) The Shanghai Gold Exchange is keeping the Crimex and LBMA (London Bullion Market Association) thieves at bay through some voracious arbitrage, and 2) Raw demand from the Far East and from Western investment pools are keeping inventories tight. If this was back in 2011-2015, the market would be limit down on Monday as the criminals have their way with us. However, this is a NEW bull market and dips are to be bought while holding onto your core position for dear life as I have been trying to do with my GDXJ (Market Vectors Junior Gold Miners ETF) position. I can't tell you how many times I have had to lock myself in the wine cellar during trading hours because the temptation to "SELL!" was so overwhelming. 
The bullion banksters and their well-armed trading desks have now arrived into somewhat of a "pickle" in that the movie reel that they thought would play out with the bad guys winning and gold following through to the downside on what should have been another Freaky Friday where gold and silver get clobbered. Since it DIDN'T, they now have to await selling from the Asian markets in order to give them the slightest chance of a downside flush this coming week. 
What IS a certainty is that the PMs are trading in a totally bizarre fashion, and anyone who fails to pay attention to Commercials are indeed paying no attention to "that man behind the curtain" who most certainly is pulling levers and spinning dials frantically in order to secure the desired effect while being short nearly 30 Moz of phony, synthetic gold that closed within a whisker of a new closing high for the move. There must be carloads of Pepto and adult diapers being handed out to the Cretins as the wait in agony for the Sunday night opening.

Let's expand on that "voracious arbitrage" idea: The Shanghai exchange is a physical market, where buyers go to get actual gold and silver. So prices there are set by sellers with metal to move and buyers who want to take delivery. On the Western paper exchanges, in contrast, the players mostly gamble on price movements using futures contracts with very little actual metal changing hands.

But if the price set in the Shanghai physical market is higher than in the paper markets -- reflecting the different aims of the respective sets of traders -- then it becomes profitable for holders of long futures contracts in the West to demand delivery of the metal, ship it to China and sell it at the higher Shanghai price.

Once this process gets going it will quickly clear out the inventories of the Western exchanges, leaving nothing for future arbitrageurs. The exchanges will then force those wanting delivery to accept cash instead, in effect defaulting on their promises. Then it's game over, with the big futures manipulators no longer a factor in pricing.

Presumably from then on gold and silver prices will reflect rising physical demand in the East (and in the West from individual stackers). And gold will begin its long climb to the $10,000 or so price necessary to balance the amount of fiat currency created during the inflation of the Money Bubble.

This phase change could take a while, creating the possibility of some more nasty corrections while the paper players retain the upper hand. And once it gets going it could be steady and relatively peaceful or a "punctuated equilibrium" move where the failure of an exchange or bullion bank sends gold from $2,000 one day to $6,000 the next. Either way, the dominance of physical exchanges implies that much higher prices are coming.