domingo, septiembre 15, 2019




The corrupting of democracy

Cynicism is gnawing at Western democracies

DEMOCRACIES ARE generally thought to die at the barrel of a gun, in coups and revolutions. These days, however, they are more likely to be strangled slowly in the name of the people.

Take Hungary, where Fidesz, the ruling party, has used its parliamentary majority to capture regulators, dominate business, control the courts, buy the media and manipulate the rules for elections. As our briefing explains, the prime minister, Viktor Orban, does not have to break the law, because he can get parliament to change it instead. He does not need secret police to take his enemies away in the night. They can be cut down to size without violence, by the tame press or the taxman. In form, Hungary is a thriving democracy; in spirit, it is a one-party state.

The forces at work in Hungary are eating away at other 21st-century polities, too. This is happening not just in young democracies like Poland, where the Law and Justice party has set out to mimic Fidesz, but even the longest-standing ones like Britain and the United States. These old-established polities are not about to become one-party states, but they are already showing signs of decay. Once the rot sets in, it is formidably hard to stop.

At the heart of the degradation of Hungarian democracy is cynicism. After the head of a socialist government popularly seen as corrupt admitted that he had lied to the electorate in 2006, voters learned to assume the worst of their politicians. Mr Orban has enthusiastically exploited this tendency. Rather than appeal to his compatriots’ better nature, he sows division, stokes resentment and exploits their prejudices, especially over immigration. This political theatre is designed to be a distraction from his real purpose, the artful manipulation of obscure rules and institutions to guarantee his hold on power.

Over the past decade, albeit to a lesser degree, the same story has unfolded elsewhere. The financial crisis persuaded voters that they were governed by aloof, incompetent, self-serving elites. Wall Street and the City of London were bailed out while ordinary people lost their jobs, their houses and their sons and daughters on the battlefield in Iraq and Afghanistan. Britain erupted in a scandal over MPs’ expenses. America has choked on the lobbying that funnels corporate cash into politics.

In a survey last year, over half of voters from eight countries in Europe and North America told the Pew Research Centre that they were dissatisfied with how democracy is working. Almost 70% of Americans and French people say that their politicians are corrupt.

Populists have tapped into this pool of resentment. They sneer at elites, even if they themselves are rich and powerful; they thrive on, and nurture, anger and division. In America President Donald Trump told four progressive congresswomen to “go the broken and crime-infested places from which they came”. In Israel Binyamin Netanyahu, a consummate insider, portrays official inquiries into his alleged corruption as part of an establishment conspiracy against his premiership. In Britain Boris Johnson, lacking support among MPs for a no-deal Brexit, has outraged his opponents by manipulating procedure to suspend Parliament for five crucial weeks.

What, you might ask, is the harm of a little cynicism? Politics has always been an ugly business. The citizens of vibrant democracies have long had a healthy disrespect for their rulers.

Yet too much cynicism undermines legitimacy. Mr Trump endorses his voters’ contempt for Washington by treating opponents as fools or, if they dare stand on honour or principle, as lying hypocrites—an attitude increasingly mirrored on the left. Britain’s Brexiteers and Remainers denigrate each other as immoral, driving politics to the extremes because compromising with the enemy is treachery. Matteo Salvini, leader of Italy’s Northern League, responds to complaints about immigration by cutting space in shelters, in the knowledge that migrants living on the streets will aggravate discontent. Mr Orban has less than half the vote but all the power—and behaves that way. By ensuring that his opponents have no stake in democracy, he encourages them to express their anger by non-democratic means.

Cynical politicians denigrate institutions, then vandalise them. In America the system lets a minority of voters hold power. In the Senate that is by design, but in the House it is promoted by routine gerrymandering and voter-suppression. The more politicised the courts become, the more the appointment of judges is contested. In Britain Mr Johnson’s parliamentary chicanery is doing the constitution permanent damage. He is preparing to frame the next election as a struggle between Parliament and the people.

Politics used to behave like a pendulum. When the right made mistakes the left won its turn, before power swung back rightward again. Now it looks more like a helter-skelter. Cynicism drags democracy down. Parties fracture and head for the extremes. Populists persuade voters that the system is serving them ill, and undermine it further. Bad turns to worse.

Fortunately, there is a lot of ruin in a democracy. Neither London nor Washington is about to become Budapest. Power is more diffuse and institutions have a longer history—which will make them harder to capture than new ones in a country of 10m people. Moreover, democracies can renew themselves. American politics was coming apart in the era of the Weathermen and Watergate, but returned to health in the 1980s.

Scraping Diogenes’ barrel

The riposte to cynicism starts with politicians who forsake outrage for hope. Turkey’s strongman, Recep Tayyip Erdogan, suffered a landmark defeat in the race for the mayoralty in Istanbul to a tirelessly upbeat campaign by Ekrem Imamoglu. Anti-populists from all sides should unite behind rule-enforcers like Zuzana Caputova, the new president of Slovakia. In Romania, Moldova and the Czech Republic voters have risen up against leaders who had set off down Mr Orban’s path.

The bravery of young people who have been protesting on the streets of Hong Kong and Moscow is a powerful demonstration of what many in the West seem to have forgotten. Democracy is precious, and those who are lucky enough to have inherited one must strive to protect it.

Central banks can no longer afford to act in isolation

International spillovers from monetary policy have been amplified by increased globalisation

Megan Greene

Federal Reserve chairman Jay Powell with Mark Carney, governor of the Bank of England, at Jackson Hole © Bloomberg

Just as some of the world’s political leaders are adopting a go-it-alone attitude, the central bankers who gathered in Jackson Hole, Wyoming, last week are acknowledging the benefits of co-ordination and the downsides of pursuing purely domestic objectives.

Facing trade and currency wars, they are concluding the best approach to monetary policy is to recognise that what they do — particularly at the US Federal Reserve — spills over to the rest of the world.

For decades, monetary policy experts had believed central banks should focus on keeping their own houses in order. Floating exchange rates would absorb global shocks so that domestic employment and growth would not be significantly affected by developments abroad. Exchange rate moves would pass through to import prices, and the central bank could respond with rate moves to keep prices stable and growth near potential.

That theory has gone helter-skelter in a world of growing trade tensions and international financial markets. Fed chairman Jay Powell acknowledged this in his speech in Jackson Hole when he highlighted the global factors affecting the US outlook, from threats of a hard Brexit to rising tensions in Hong Kong.

International spillovers from monetary policy have been amplified by globalisation in recent decades. World trade has doubled as a share of global gross domestic product since 1970. The volume of gross financial flows has also shot up, speeding the transmission of financial shocks across borders.

One of the biggest drivers of spillovers is the dominant role of the US dollar. Roughly half of international trade is invoiced in dollars, five times the US’s share in world goods imports and three times its share in world goods exports. This is partly because of the rise of global supply chains and network effects — it is easier to do business with firms using dollars if you use them too. Two-thirds of global securities issuance and official foreign-exchange reserves are denominated in dollars as well, largely driven by demand for safe assets.

The largest effects are on emerging markets. A dominant dollar reserve currency works well in an environment of synchronised growth. But when the US economy outperforms, the Fed’s monetary policy stance shifts tighter and the dollar appreciates, hitting emerging markets disproportionately.

A stronger dollar also raises import prices for trade denominated in dollars, pushing up inflation, even if supply and demand between trading partners has not changed. Dollar appreciation makes it more difficult for emerging markets to service their dollar-denominated debt. Fluctuations affect the risk appetite of global investors. Combined with country-specific issues, this drives capital flows in and out of emerging markets, amplifying their imbalances.

But emerging markets are not the only ones hit by such spillovers. Hoarding of safe dollar assets has exacerbated a global savings glut, reducing investment.

These factors have in turn pushed down the global long-run neutral rate — the interest rate that achieves stable inflation around the world. It exerts significant influence on domestic neutral rates and therefore anchors all policy rates, according to a paper presented in Jackson Hole.

This makes it more difficult for monetary policy to diverge across countries without affecting exchange rates, current accounts, credit flows and growth. Accordingly, divergence in domestic monetary policy between the US, UK, Germany and Japan is now at its lowest point since 1960.

We witnessed these spillover effects when the Fed raised rates in the most recent cycle. As rate rises kicked in with a lag, the share of the global economy growing below potential rose from about 67 per cent in early 2019 to 80 per cent today. This had a blowback effect on the US, as weaker demand from abroad contributes to softer growth and inflation domestically.

Central bankers are split on what to do about disruptive spillovers. One option is to incorporate them into their planning and pursue a degree of international policy co-ordination, but this is politically tricky. Another option is to reduce the dominance of the dollar. Bank of England Governor Mark Carney suggested a new global electronic currency controlled by central banks. But the technology for this does not yet exist.

Expect the debate to continue. Central bankers have discovered what the politicians deny: globalisation has gone so far it cannot be turned off. With slower global growth and fewer tools to respond to the next recession, they can’t avoid being their neighbours’ keepers.

The writer is a senior fellow at Harvard Kennedy School

The Big Short’s Michael Burry Explains Why Index Funds Are Like Subprime CDOs

By Reed Stevenson

- Investor from ‘The Big Short’ is worried about passive funds  
- ‘The longer it goes on, the worse the crash will be’

For an investor whose story was featured in a best-selling book and an Oscar-winning movie, Michael Burry has kept a surprisingly low profile in recent years.

But it turns out the hero of “The Big Short” has plenty to say about everything from central banks fueling distortions in credit markets to opportunities in small-cap value stocks and the “bubble” in passive investing.

One of his most provocative views from a lengthy email interview with Bloomberg News on Tuesday: The recent flood of money into index funds has parallels with the pre-2008 bubble in collateralized debt obligations, the complex securities that almost destroyed the global financial system.

Burry, who made a fortune betting against CDOs before the crisis, said index fund inflows are now distorting prices for stocks and bonds in much the same way that CDO purchases did for subprime mortgages more than a decade ago. The flows will reverse at some point, he said, and “it will be ugly” when they do.

“Like most bubbles, the longer it goes on, the worse the crash will be,” said Burry, who oversees about $340 million at Scion Asset Management in Cupertino, California. One reason he likes small-cap value stocks: they tend to be under-represented in passive funds.

Here’s what else Burry had to say about indexing, liquidity, Japan and more. Comments have been lightly edited and condensed.

Index Funds and Price Discovery

“Central banks and Basel III have more or less removed price discovery from the credit markets, meaning risk does not have an accurate pricing mechanism in interest rates anymore.

And now passive investing has removed price discovery from the equity markets. The simple theses and the models that get people into sectors, factors, indexes, or ETFs and mutual funds mimicking those strategies -- these do not require the security-level analysis that is required for true price discovery.

“This is very much like the bubble in synthetic asset-backed CDOs before the Great Financial Crisis in that price-setting in that market was not done by fundamental security-level analysis, but by massive capital flows based on Nobel-approved models of risk that proved to be untrue.”

Liquidity Risk

“The dirty secret of passive index funds -- whether open-end, closed-end, or ETF -- is the distribution of daily dollar value traded among the securities within the indexes they mimic.

“In the Russell 2000 Index, for instance, the vast majority of stocks are lower volume, lower value-traded stocks. Today I counted 1,049 stocks that traded less than $5 million in value during the day. That is over half, and almost half of those -- 456 stocks -- traded less than $1 million during the day. Yet through indexation and passive investing, hundreds of billions are linked to stocks like this. The S&P 500 is no different -- the index contains the world’s largest stocks, but still, 266 stocks -- over half -- traded under $150 million today. That sounds like a lot, but trillions of dollars in assets globally are indexed to these stocks. The theater keeps getting more crowded, but the exit door is the same as it always was. All this gets worse as you get into even less liquid equity and bond markets globally.”

It Won’t End Well

“This structured asset play is the same story again and again -- so easy to sell, such a self-fulfilling prophecy as the technical machinery kicks in. All those money managers market lower fees for indexed, passive products, but they are not fools -- they make up for it in scale.”

“Potentially making it worse will be the impossibility of unwinding the derivatives and naked buy/sell strategies used to help so many of these funds pseudo-match flows and prices each and every day. This fundamental concept is the same one that resulted in the market meltdowns in 2008. However, I just don’t know what the timeline will be. Like most bubbles, the longer it goes on, the worse the crash will be.”

Bank of Japan Cushion

“Ironically, the Japanese central bank owning so much of the largest ETFs in Japan means that during a global panic that revokes existing dogma, the largest stocks in those indexes might be relatively protected versus the U.S., Europe and other parts of Asia that do not have any similar stabilizing force inside their ETFs and passively managed funds.”

Undervalued Japan Small-Caps

“It is not hard in Japan to find simple extreme undervaluation -- low earnings multiple, or low free cash flow multiple. In many cases, the company might have significant cash or stock holdings that make up a lot of the stock price.”

“There is a lot of value in the small-cap space within technology and technology components. I’m a big believer in the continued growth of remote and virtual technologies. The global retracement in semiconductor, display, and related industries has hurt the shares of related smaller Japanese companies tremendously. I expect companies like Tazmo and Nippon Pillar Packing, another holding of mine, to rebound with a high beta to the sector as the inventory of tech components is finished off and growth resumes.”

Cash Hoarding in Japan

“The government would surely like to see these companies mobilize their zombie cash and other caches of trapped capital. About half of all Japanese companies under $1 billion in market cap trade at less than tangible book value, and the median enterprise value to sales ratio for these companies is less than 50%. There is tremendous opportunity here for re-rating if companies would take governance more seriously.”

“Far too many companies are sitting on massive piles of cash and shareholdings. And these holdings are higher, relative to market cap, than any other market on Earth.”

Shareholder Activism

“I would rather not be active, and in fact, I am only getting active again in response to the widespread deep value that has arisen with the sell-off in Asian equities the last couple of years. My intention is always to improve the share rating by helping management see the benefits of improved capital allocation. I am not attempting to influence the operations of the business.”

Betting on a Water Shortage

“I sold out of those investments a few years back. There is a lot of demand for those assets these days. I am 100% focused on stock-picking.”

— With assistance by Heejin Kim

The Trump Narrative and the Next Recession

So far, with his flashy lifestyle, the US president has been a resounding inspiration to many consumers and investors. But his personal narrative is unlikely to survive an economic downturn, because people pull back during such periods and reassess their views and the stories they find believable.

Robert J. Shiller

shiller126_ANDREW HARNIKAFPGetty Images_trump g7 summit

NEW HAVEN – US President Donald Trump concluded his remarks at the recent G7 summit by inviting the assembled leaders to hold next year’s meeting at his Doral country club near Miami, describing a fantasy-like world of “magnificent buildings” whose “ballrooms are among the biggest in Florida and the best.” It was yet another instance of Trump’s public narrative, which has been on a rising growth path for nearly a half-century.

One can observe this by searching Trump’s name in digital news sources, like Google Ngrams. His narrative has been slow to grow by contagion, but it has been growing for a long time, such that his domination of public discourse in the United States almost seems implausible.

Part of Trump’s genius has been to pursue for a lifetime the features that have sustained narrative contagion: showcasing glamor, surrounding himself with apparently adoring beautiful women, and maintaining the appearance of vast influence.

Trump had firmly embraced this career strategy by 1983, when an article in the New York Times entitled “The Empire and Ego of Donald Trump” reported that he was already, in that year, “an internationally recognized symbol of New York City as mecca for the world’s super rich.”

Consider his interest in professional wrestling – a form of entertainment that attracts crowds who by some strange human quirk seem to want to believe in the authenticity of what is obviously staged. He has mastered the industry’s kayfabe style and uses it effectively everywhere to increase his contagion, even going so far as to participate in a fake brawl in 2007.

Trump had the good luck to be invited to host a new reality television show in 2004 called The Apprentice, which featured real-life business competition. He immediately saw the opportunity of a lifetime to advance his public persona, becoming famous for a tough-love narrative. “You’re fired!” he would bark at losers on his show, while also showing some warmth to winners and losers alike.

Now that Trump has established a contagious narrative, he continues to live out his TV show persona. At the Republican Party’s 2016 convention, after portraying the US as a declining power, he declared, “I alone can fix it.” Accordingly, he has fired his top officials at an unprecedented rate, ensuring that no one of independent stature remains part of his administration. This has established a new form of arbitrariness in the US government, the Trump whim, which, given the linkages of the US and global economies, can affect the entire world.

None of this is original. Trump has been pursuing a variation on a recurrent narrative that dates back thousands of years. The ancient cynic Lucian of Samosata, in a second-century essay on oratory, “A Professor of Public Speaking,” describes to would-be leaders how one can exploit a power narrative by acting it out in one’s own life:

“ ... In your private life, be resolved to do anything and everything, to dice, to drink deep, to live high and keep mistresses, or at all events to boast of it even if you do not do it, telling everyone about it and showing notes that purport to be written by women. You must aim to be elegant, you know, and take pains to create the impression that women are devoted to you. This also will be set down to the credit of your rhetoric by the public, who will infer from it that your fame extends even to the women’s quarters.”

For Lucian, this narrative does not describe reality, but creates it. What matters is not substance, but consistency:

“Bring with you, then, as the principal thing, ignorance; secondly recklessness, and thereto effrontery and shamelessness. Modesty, respectability, self-restraint, and blushes may be left at home, for they are useless and somewhat of a hindrance to the matter in hand … If you commit a solecism or a barbarism, let shamelessness be your only remedy.”

Of course, in an era when people usually did not live as long as they do today, Lucian could not have imagined that one could plan to maintain narrative consistency for 50 years. But nor can such a narrative be sustained forever. And the end of confidence in Trump’s narrative is likely to be associated with a recession.

During a recession, people pull back and reassess their views. Consumers spend less, avoiding purchases that can be postponed: a new car, home renovations, and expensive vacations. Businesses spend less on new factories and equipment, and put off hiring. They don’t have to explain their ultimate reasons for doing this. Their gut feelings and emotions can be enough.

So far, with his flashy lifestyle, Trump has been a resounding inspiration to many consumers and investors. The US economy has been exceptionally “strong,” extending the recovery from the Great Recession that bottomed out just as Barack Obama took over the US presidency in 2009. The subsequent US expansion is the longest on record, going back to the 1850s. Ultimately, a strong narrative is the reason for the US economy’s strength.

But motivational speakers often end up repelling the very people they once inspired. Witness the reactions of students at Trump University, the fraud-based school its namesake founded in 2005, which shut down by multiple lawsuits a half-decade later. Or consider the sudden political demise of US Senator Joe McCarthy in 1954, after he carried his anti-communist rhetoric too far.

There is too much randomness in Trump’s management of the presidency to make persuasive predictions. He will surely try to stick to his public narrative, which has worked so well for so long. But a severe recession may be his undoing. And even before economic catastrophe strikes, the public may begin paying more attention to his aberrations – and to contagious new counternarratives that crowd out his own. 
Robert J. Shiller, a 2013 Nobel laureate in economics, is Professor of Economics at Yale University and the co-creator of the Case-Shiller Index of US house prices. He is the author of Irrational Exuberance, the third edition of which was published in January 2015, and, most recently, Phishing for Phools: The Economics of Manipulation and Deception, co-authored with George Akerlof. His forthcoming book is Narrative Economics: How Stories Go Viral and Drive Major Economic Events.

Crypto Expert: Central Bankers Are Dead Men Walking

Chris Reilly, managing editor, Casey Daily Dispatch: Marco, I know you’ve been doing a lot of traveling this year… uncovering the biggest opportunities in the blockchain space.

In June, you went to the UNCHAIN Convention in Berlin. You also attended the Crypto Valley Blockchain Conference in Zug, Switzerland.

What was the vibe like over there?

Marco Wutzer, senior analyst, Disruptive Profits: It was buzzing with activity. This year’s conference drew 1,200 attendees, 300 companies, and had 150 speakers.

One of the things that was surprising to me is how deeply banks are already involved in the blockchain space.

They have to be. Or risk getting left behind.

Multinational Dutch banking giant Rabobank is one example. As I learned, it will soon offer a real-time “blockchain bank account” to its millions of customers.

So the way I see it, it's probably going to look a lot like when online banking came out.

Initially, only a few banks had it, but eventually, more and more banks used it. Nowadays, I don't think you can survive anymore with online banking. Who goes to a bank branch anymore these days? It's all online.

And I think with the blockchain bank account, it will be a similar thing. As soon as a few banks come out with it, and the retail users get familiar with buying tokens, then at some point all the banks have to do it.

Otherwise, they'll no longer be competitive.

Rabobank is just one of the banks that I learned in detail about what they're doing. But I would imagine that many other banks and brokerages are working on similar things. So I think over the next few months we will see that roll out in quite a few countries from quite a few institutions.

Chris: In your July issue of Disruptive Profits, you said, “Central bankers are dead men walking.” Can you get more into that?

Marco: Well, the trend is clearly towards a decentralized future. And this is something where piece by piece, little by little, central bankers will become completely irrelevant over time.

Because once we reach a critical mass where people, companies, and banks realize the benefits of the trustless, decentralized nature of the Blockchain Ecosystem, at some point, it will no longer be feasible to work with fiat currencies. Because if you look at the history of fiat currencies, all of them have failed. All of them. And even if you look at the U.S. dollar, it has lost 90%-plus of its value already.

Right now, a lot of the third-world countries and emerging markets have really, really crappy currencies that are really not worth anything outside of their borders. They fail so often that we will very soon reach a point where people are used to using crypto tokens. We’ll get to a point where launching a new fiat currency will become a futile endeavor. People will just stick with the crypto tokens.

And so, slowly but surely, this will then roll out across the globe. And, of course, this is a process that will take decades. So we're just in the very, very beginning of this. But it's interesting to see how the central bankers come to a small little crypto conference, and these are central banks running hundreds of billions and trillions of dollars’ worth of assets. They come to little crypto conferences to see what's going on and to interact with the people. They actually think they will be relevant in the future.

Chris: You say this is a process that will take decades. Is there anything big happening in the space as we speak?

Marco: Yes, one thing that I think will happen fairly quickly is the security tokens.

The Blockchain Ecosystem is made up of five layers. The first four layers – hardware, core, blockchain, and protocol – make up the ecosystem’s infrastructure.

Beyond the infrastructure is the token/asset layer.

The token/asset layer will eventually become the biggest one, as more and more assets become tokenized, meaning they’re represented on blockchains.

And now, Security Token Offerings, or STOs, are a new trend that will soon take off and become huge.

This new trend is picking up, and it needs to be on our radar as the ecosystem builds out.

All existing securities like stocks and bonds will become tokenized.

There are already many security token platforms where you can issue a token that then represents an asset, which could be a company, a royalty stream, or a piece of real estate. Any kind of asset, really.

And this was something where I was surprised to see how many asset managers and people and companies were interested in the space. People were at the Crypto Valley Conference specifically for that.

So this is one of the spaces within the world of blockchain that will pretty much take off next year, as we get more regulatory clarity and these platforms mature just a little bit more.

There is a lot of demand for it, and it will bring a lot of liquidity to assets that are not that liquid now. So it's marginally better for things like real estate because it improves the process a lot. But it brings all kinds of things, like niche assets from any kind that are not easily tradable, like royalties, entertainment royalties, art, collectible cars, and stuff like that.

It will get to a point where even small businesses can be tokenized and you can own shares in iconic buildings, little corner stores, or even a food truck. So the whole space is about to take off. It's all starting to come together.

Chris: That sounds like a huge development in the space.

Marco: It is. And another thing…

On the conference’s networking cruise, I had a long conversation with a Geneva-based Greek investment advisor.

Now, this is not just some small-time wealth manager. He’s advising Greek shipping magnates.

These are ultra-high-net-worth individuals…

And he is looking to get his clients positioned in STOs.

I talked to many asset managers that either work for or advise institutional investors. They were all trying to figure out the best way to invest in security tokens.

In other words, eventually these asset managers will want to own a part of the infrastructure that powers the security tokens they are buying now.

Institutional money moves slowly, step by step. Eventually, they will make the full transition from the legacy financial system to the Blockchain Ecosystem.

Overall, I got the impression there is a tidal wave of institutional money waiting to enter the space.

Chris: Very exciting. It sounds like we have a lot to look forward to from blockchain technology.

Marco: Yes, definitely.

Chris: That’s all for today. Thanks, Marco. We’ll talk soon about the latest developments.

Marco: Sounds good, Chris.

Chris’ note: As we’ve shown you, Marco’s no stranger to spotting the best opportunities to profit from blockchain technology. And he believes he’s found the next breakthrough in the space… one that will deliver early investors a fortune.

It all has to do with a deadly flaw in America’s national security. A tiny, $10 million company is developing a solution to this problem… and it could disrupt a $2.9 trillion market. This would open the door for a potentially life-changing payday.