Friday, May 17, 2013 - Squirrel

Squirrel

by Sinclair Noe

DOW + 121 = 15354
SPX + 17 = 1667
NAS + 33 = 3498
10 YR YLD +.08 = 1.95%
OIL + .83 = 95.99
GOLD – 25.70 = 1361.20
SILV - .43 = 22.36

Record highs for the Dow and the S&P 500; marking the fourth consecutive week of gains. For the week, the Dow gained 1.6%, the S&P 500 gained 2%, and the Nasdaq was up 1.8%. The S&P 500 is up about 13% year to date.

Someone asked me yesterday if I intended to talk about the scandals in Washington; you know, the Benghazi scandal, the IRS scandal, and the Associated Press scandal. I suppose we can talk about that if you want.The issue I might address right now is, what does all the scandal-mongering mean for the economy?

Well, we could look to the Clinton years, which continued to perform handsomely, but I think that had more to do with the dot.com boom than with Clinton's proclivity. Greenspan warned about irrational exuberance while fostering policy that just pumped the markets to higher highs. Not so different really from Bernanke's warnings about excessive risks while continuing with QE to infinity and beyond.

The market has been profiting from the indulgences of the Fed's easy money, and the Chairman seems more worried that Congress will busy itself with more fiscal austerity in the form of quick-timed spending sequesters and additional tax increases than he is about inflation from easy money. Unspoken is the fear certainly in the Fed quarters and lurking in the markets' subconscious that Congress will go even further and again set up another credit-rating political cliffhanger over the debt ceiling extension.

Maybe, the politicians can pull themselves away from their compulsive partisanship to recognize that the deficit is getting better. The Congressional Budget Office revise its budget projections. The short-term deficit, in particular, is way lower; $200 billion lower; or a $643 billion deficit for 2013 rather than an $845 billion deficit. That should be really big news, just not this week. Both sides of the aisle could take credit for that, but it barely gets a nod. Congress is distracted, like a dog in the presence of a squirrel.

And the longer they keep up their nonsense, the less time they have to meddle with the economy; which might not be such a bad thing. No time to come up with a Grand Bargain on Social Security and Medicare; no time to figure out entitlement cuts; nothing but gridlock through the hazy days of summer.

For a business community that constantly begs for certainty, maybe they would enjoy a lazy summer of slow, steady growth without the distractions from Washington. Fed Chairman Bernanke has begged for Congress to come up with fiscal policy that might help grow the economy, but would probably be happy to see Congress stop stepping on the economy's tail with it's austerity obsession. The politicians are clueless about the economy and they could only screw things up.

Case in point; last week the US House passed the Full Faith and Credit Act, which quickly gained the nickname “Pay China First Act”. The supposed purpose of the act is to prevent default on the public debt as a result of the debt ceiling.

The idea was the act prioritizes the financial obligations of the US government, and authorizes the Secretary of the Treasury to meet only the highest priority obligations when at the debt ceiling; that is how the act is described by its own authors, since the head of the resolution contains the description, “A bill to require that the Government prioritize all obligations on the debt held by the public in the event that the debt limit is reached.”

The act seems to have been designed to provide the Secretary of the Treasury with an alternative mechanism for paying off public debt and meeting Social Security obligations once the government has reached the statutory debt limit. But the new mechanism cannot be applied directly to other government spending commitments, and so Congress would still apparently have the ability use the debt ceiling as a tool for shutting down other government payments and forcing the executive branch to accept further spending cuts.

But remember the politicians are not real strong on economics and it appears this act would provide the Secretary of the Treasury with the power to meet all US spending obligations, and effectively eliminate the debt ceiling as a serious political and operational consideration going forward.

The act specifically authorizes the Treasury to issue “obligations … to pay with legal tender”, the principal and interest on the obligations described in subsection 2(b). Now, an obligation is just another debt instrument. So the act basically permits the Treasurer to issue IOUs to pay the principal and interest on public debt. It permits the Treasurer to redeem conventional government debt obligations – all of the usual bills, notes and bonds the government issues, and that count against the debt subject to the debt limit – with a new kind of debt obligation.

Basically, the Treasury could write IOU's and put them in the Treasury coffers to reduce the debt, and then issue fresh bonds to raise cash to pay for whatever they want to pay for.

Squirrel.

The one thing that has roiled the markets lately is talk of the Federal Reserve tapering off Quantitative Easing. While the economy has shown signs of improvement, it is still a long way from a strong economy. Inflation remains under control, so that's not a problem. Unemployment is still a problem, so that's reason to increase stimulus, not taper off. Several regional Fed presidents have weighed in recently, and yesterday, Fed governor Sarah Bloom Raskin raised the possibility that rising inequality may restrain growth for years to come.

In a speech delivered in Washington, Raskin said: “In my view, the large and increasing amount of inequality in income and wealth, which has been an ongoing development for decades, may have exacerbated the crisis. More research is required to determine whether it may also pose a significant headwind to the recovery from the crisis for years to come.”

Raskin’s comments are among the most forceful to date from any current member of the Fed’s seven-person Board of Governors regarding wealth, income inequality, and how dynamics in household wealth may be impeding growth and prolonging the realization of a full-fledged recovery

Between 1979 and 2007, inflation-adjusted, pretax income for households in the top 1 percent more than doubled, while middle-income households experienced earnings growth of less than 20 percent, according to Congressional Budget Office data. A recent survey by the Fed found that households in the top fifth of annual income owned 72 percent of the total wealth in the economy in 2010, while those in the bottom fifth owned just 3 percent.

Maybe this is the excessive risk Bernanke has been harping on lately.

Here's your weekend reading list:

From the Guardian: A Look at How Apple will petition Washington for a Tax Holiday and what history tells us about tax holidays.

Matt Taibbi continues to dig up wrongdoing by banksters; Everything is Rigged

Thursday, May 16, 2013 - What's Next For the Fed

What's Next For the Fed

by Sinclair Noe

DOW – 42 = 15,233
SPX – 8 = 1650
NAS – 6 = 3465
10 YR YLD - .08 = 1.87%
OIL + .95 = 95.25
GOLD – 6.60 = 1386.90
SILV + .10 = 22.79

The Labor Department reports the consumer price index dropped 0.4% in April from March, the biggest monthly drop since December 2008. The main reason the index fell was that gas prices plunged 8.1 percent. Excluding the drop in fuel costs, prices were largely unchanged. For the 12 months that ended in April, overall prices rose 1.1 percent — the smallest year-over-year increase in 2½ years. Excluding volatile energy and food costs, “core” prices ticked up 0.1 percent last month. Core prices have risen only 1.7 percent in the past 12 months. That’s below the Federal Reserve’s 2 percent inflation target. Yesterday, we reported that wholesale prices declined last month.

Inflation is not the problem right now; it might be a problem at some point down the road, but not now.

John Williams, the San Francisco Fed president gave a speech in Portland and he indicated that the Fed's Quantitative Easing program can be reduced soon, and that the whole program may be halted this year. He pointed out the pace of job growth has picked up since the program was launched in September, with an average pace of job growth of 200,000 over the last six months.

Williams said: “Assuming my economic forecast holds true and various labor-market indicators continue to register appreciable improvement in coming months, we could reduce somewhat the pace of our securities purchases, perhaps as early as this summer. Then, if all goes as hoped, we could end the purchase program sometime late this year.”

Williams was open to the idea of ramping up bond purchases if the economy slows down.

So, let's go back to the Federal Reserve's dual mandate of price stability and maximum employment. Right now, prices are stable; even a little bit of disinflation based upon this week's producer-price index and consumer-price index. No need to taper off.

On the maximum employment side of the mandate, the Fed set a target of 6.5% unemployment, which is still a long way from it's mandate of maximum employment. One of the reasons the unemployment rate has dropped to 7.5% is because the participation rate has dropped; fewer people are considered to be in the labor pool. The economy has been adding about 200,000 jobs per month, on average, over the last six months. We know that many of those jobs are temp jobs; many are part-time jobs; many are lower paying jobs. But they are net new jobs. The problem is that 200,000 jobs is not enough to lower the unemployment rate, unless a lot more people fall out of the labor market.

This morning, the Department of Labor reported initial claims for unemployment increased 32,000 to 360,000.

So, why do we have all this talk of tapering off from QE?

In order for QE to work, rather than just inflate asset prices, there needs to be viable investment opportunities that create productive jobs in the short, medium, and long term. Infrastructure would qualify as filling the bill, but not just building bridges to nowhere. And this is the flawed premise of QE, according to a recent speech by Dallas Federal Reserve President Richard Fisher: “by driving rates to historical lows along the entire length of the yield curve, investors will rebalance their portfolios and reach out to riskier assets, providing the financial wherewithal for businesses to increase capital expenditures and reengage workers, expand payrolls and regenerate consumption. Rising prices of bonds, stocks and other financial instruments will bolster consumer confidence. The CliffsNotes account of this play has the widely heralded “wealth effect” paving the way for economic expansion, thus saving the day.”

Fisher went on to add: “Until job creators are properly incentivized by fiscal and regulatory policy to harness the cheap and abundant money we at the Fed have engineered, these funds will predominantly benefit those with the means to speculate, tilling the fields of finance for returns that are enabled by historically low rates but do not readily result in job expansion.”

There are a few problems here. Cheap money does not encourage speculation. Cheap money encourages prudent lending. If you can only get a small rate on your loan, you are more likely to make certain that loan will be repaid. This is why triple-A rated corporate bonds pay less than junk bonds. This is also why the residential housing mortgages written in the past two years are a much better vintage than the mortgages written in 2005. High rates encourage speculation. The risk is not in the low rates, but rather that the low rates push prudent potential lenders to seek higher returns elsewhere, like in the stock market.

The result, and it must be scaring the Fed, is that we are headed for a speculative bubble. If you always do what you've always done, you'll always get what you've always gotten. The Fed actually has some history with bubbles. The next time you read that a new era has dawned, that the old rules of economics don't apply, and that some asset class or other that’s been rising steadily for a while now is certain to keep on to infinity and beyond; that's just wrong. It really is that simple.  

The problem is that the Fed has been passing out cheap money to speculators and gamblers. And now they're shocked, shocked I tell you, to discover that the speculators are gambling with the cheap money. Speculation demands high rates as compensation for high risk, but the Fed has been passing out super-low rate money to the most high risk players.

And the banksters continue with their rotten ways. They take the zero-interest money from the Fed and they screw anybody and everybody they can. Today a case in point.

In 2006, Congress passed the Military Lending Act, which was designed to prevent predatory lenders from targeting men and women in uniform. But a new report from ProPublica and Marketplace entitled Beyond Payday Loans suggests aggressive lenders have merely shifted tactics and are still very actively going after military personnel.

Rather than a loophole, installment loan companies and so-called payday lenders have found huge gaps in the Military Lending Act. The Military Lending Act set a national interest rate cap of 36 percent APR (annual percentage rate) for loans to military members and their families (excluding mortgages and auto finance loans).

The Act covered three specific types of loans: payday loans (short-term, due in one lump sum after a borrower’s payroll check clears); car-title loans; and tax refund anticipation loans. Further, the loan-terms covered were restricted: 91 days or less for a payday loan, 181 days or less for a car-title loan.

As a result, lenders are offerings payday loans, which typically have annual percentage rates over 400%, with a duration of five months instead of three. Same is true of auto-title loans, which are secured by the vehicle’s title and typically have rates above 100%.

And yes it is the banksters that back the payday lenders, or in many cases the big banks are the payday lenders, through a different division of the company. QE and the other tools of the Fed have not cleaned up some of the worst abuses in the system.

Today, the International Monetary Fund weighed in, claiming the Quantitative Easing by the Fed, and the ECB, and the Bank of Japan had helped to stabilize financial markets and push asset prices higher. The IMF figured that: “While additional unconventional measures may be appropriate in some circumstances, there may be diminishing returns, and benefits will need to be balanced against potential costs.”

Maybe it is time to ask whether the Fed has been effective in its policy over the past five years. Yes, the Fed policy helped avert a global financial meltdown. Yes, the Fed policy prevented the collapse of the biggest banks. Yes, the Fed policy was a part in turning around massive job losses and helping bring down unemployment in a less-than-robust manner. No, the Fed hasn't done much to regulate the financial institutions that caused the problems in the first place. The Fed doesn't seem to believe in regulation; which is kind of like a Pope that doesn't believe in religion.

The Fed hasn't been particularly successful in its mandates. Perhaps the time is coming where they need to change the tools they're using. Maybe it is time to break away from Quantitative Easing, which mainly helps the banks, and maybe they need to start using tools that will promote a healthy economy, with maximum employment – not just a target of 6.5% unemployment – and help people find productive employment. And then they could use their regulatory tools to help ensure financial stability in what has become a casino market.

One of the better moves the Fed could consider is to open up low interest rates to entities other than the member banks; this probably exceeds the Feds generally accepted role, but not the technical limits of its tool box. Infrastructure investment still looks like the best, least speculative way to achieve the dual mandate. Imagine a country with a continental railroad - like what Lincoln did, or an nationwide highway system – like what Eisenhower did, or a country that develop science to the point we could fly to the moon – Kennedy and Johnson. Now imagine a country that is energy independent.

The time is coming for the Fed to move beyond Quantitative Easing, and this is why we've been hearing about tapering off. QE is not as effective as it once was, and it has never been as effective as it should have been. So, maybe a change is coming. The big question is where they go next.

Wednesday, May 15, 2013 - Have Another Cookie

Have Another Cookie

by Sinclair Noe

DOW + 60 = 15275
SPX + 8 = 1658
NAS + 9 = 3471
10 YR YLD - .01 = 1.94%
OIL + .18 = 94.39
GOLD – 33.30 = 1393.50
SILV - .82 = 22.69

More record highs on Wall Street. We celebrate with milk and cookies, and remembrances of the days of rice and beans and tins of tuna. Record highs are fleeting, almost ephemeral. I know the trend is your friend; don't fight the Fed; a rising tide lifts all boats; yada, yada. Why is this starting to feel like an asset bubble?

Stock Traders Daily did a comparison of quarter to quarter earnings and revenue growth rates for the S&P 500 and the Dow Industrials: “For the past two consecutive quarters, the Dow Jones Industrial Average has had zero growth. In fact, this quarter revenue growth declined by 2.65% (25 companies reporting thus far) and earnings have barely budged. Last quarter, there was negative earnings growth with revenue growth less than 1%, and since the third quarter of 2010, the EPS growth rate for the Dow has been declining steadily.”

So, the growth rate is at zero and the prices keep going higher. Don't worry, have another cookie; after 13 years in the market, you should be back to break even.

Meanwhile, the National Association of Home Builders/Wells Fargo housing-market index rose to 44 in May from 41 in April. The NAHB says builders are noting an increased sense of urgency among potential buyers as a result of thinning inventories of homes for sale, continuing affordable mortgage rates and strengthening local economies. Have another cookie.

Wholesale prices dropped in April. The producer-price index declined by a seasonally adjusted 0.7% to mark the biggest drop in more than three years. Wholesale prices over the past 12 months are up just 0.6%. In April, the cost of fuel fell 2.5%, led by a 6.0% drop in gasoline prices. Electricity and home-heating-fuel costs also eased, though natural-gas prices posted the biggest increase since mid-2008.

The price of food, meanwhile, fell 0.8% in April after jumping by the same amount in March. Vegetable prices plunged 10.6%, with the cost of squash, lettuce, celery and cucumbers all taking a dive. Meat prices also fell. Cookie prices were not included in the report.

The muted rate of inflation at both the producer and consumer levels gives the Federal Reserve more leeway to keep interest rates low and continue with QE. So, the talk about tapering off of QE might make more sense if the Fed was actually getting closer to its targets of 6.5% unemployment or 2.5% inflation. They aren't close.

The Federal Reserve Bank of New York reports households reduced debt during the first quarter by 1 percent to the lowest level since 2006. Household debt fell to $11.2 trillion in the first quarter compared with a peak burden of $12.7 trillion in the third quarter of 2008. Consumers reduced debt by $110 billion after increasing their borrowing by $31 billion in the fourth quarter of 2012, while delinquency rates fell across the board. Student debt bucked the trend, rising to a record $986 billion.

Households in the first quarter improved their debt payment patterns as delinquency rates on mortgages fell to 5.4 percent from 5.6 percent, on home equity loans to 3.2 percent from 3.5 percent, on credit cards to 10.2 percent from 10.6 percent and on student loans to 11.2 percent from 11.7 percent. One way to look at this is that reducing debt results in a better vintage of debt. Student lending has surpassed credit cards, auto loans, and home equity loans, and is now the largest form of consumer debt after mortgages.

Last week, Fed Chairman Ben Bernanke said “the Fed could push banks to maintain a higher leverage ratio, hold certain types of debt favored by regulators, or other steps to give the largest firms a ‘strong incentive to reduce their size, complexity, interconnectedness.’

“The Fed chairman acknowledged growing concerns that some financial companies remain so big and complex the government would have to step in to prevent their collapse and said more needs to be done to eliminate that risk.”

And Fed Governor Jeremy Stein said pretty much the same thing; and Fed Governor Daniel Tarullo also picked up on the talking point.

James Kwak raised a vital question about these talking points: Too-big-to-fail banks enjoy implicit subsidies and impose externalities on the rest of us; therefore those subsidies and externalities should be priced; and then those banks can decide whether they want to absorb those costs or make themselves smaller. 

Here’s what they are saying: Too-big-to-fail banks are too big and complex and pose a systemic risk to all of us; therefore they need to become smaller and less complex; and the Fed will tweak the regulations until they become smaller and less complex.

What’s remarkable about this? These three men—probably the three most important on the Board of Governors when it comes to systemic risk regulation (as opposed to monetary policy, for example)—all say that they know that the megabanks are too big and complex. They all say that accurate pricing of subsidies and externalities is not an end in itself.* They all say that the goal is smaller, less complex banks.

If the goal is smaller, less complex banks, why not just mandate smaller, less complex banks? Why beat around the bush with capital requirements and minimum long-term debt levels? Those tools might be appropriate if you think huge, complex banks should exist but you want to make them safer. But if you’ve already concluded that banks need to be smaller and less complex, then they’re just a waste of time.

They also betray a frightening naivete regarding corporate governance. The theory is that higher capital requirements, for example, will lower banks’ profits, which will upset shareholders, who will eventually force the board of directors to eventually convince the CEO to break up his empire. This scenario, unfortunately, depends on the premise that American corporations are run for the benefit of their shareholders, which is only roughly true, and even that often requires long, expensive, and messy shareholder activist campaigns.

Instead, there’s an obvious solution: rules that limit the size and scope of financial institutions. But Bernanke has ruled out “arbitrary” size caps in favor of his cute regulatory dial-tweaking.

Again, Bernanke’s position might be defensible if he wasn’t already sure that today’s banks are too big and complex. Then it might make sense to tweak the incentives and see how the market reacts. But if he knows they are too big and complex, he should eliminate that risk in the simplest, most direct way possible. If he’s not sure how much smaller and simpler banks need to be, he can do it in steps: set one set of size and scope limits, see what he thinks about the outcome, and then set another set of limits if he’s still unhappy.

To use a crude analogy, let’s say we’re concerned about guns on airplanes. Ben Bernanke thinks, like I do, that guns on planes present an unacceptable risk to the safety of air travel. But his approach is to charge a $100 fee for anyone who wants to bring a gun onto a plane. If people keep bringing guns on board, he’ll raise the fee to $200, then $300, and so on until people stop. The sensible, obvious solution is to just ban guns on planes. But that would be “arbitrary.”

It is theoretically plausible that one should simply price the subsidies and externalities and then let the market determine whether big banks provide enough societal benefit to offset the costs they impose on the rest of us. But that is not what Stein, Tarullo, and Bernanke are saying.

Meanwhile, Attorney General Eric Holder was speaking before the House Judiciary Committee hearing today on another subject, but he was asked about comments he made back in March about the idea that the big banks are too big to jail. He said his comments were misconstrued and he added that there is “no bank, there’s no institution, there’s no individual who cannot be investigated and prosecuted by the United States Department of Justice.”

And that was the straightest answer he gave in testimony today. Have another cookie.

Meanwhile, a few years ago, I wrote a book about breaking up the too big to fail banks; Eat The Bankers: The Case Against Usury: The Root Cause of the Economic Crisis and the Fix

Tuesday, May 14, 2013 -

Booms

by Sinclair Noe

DOW + 123 = 15,215
SPX + 16 = 1650
NAS + 23 = 3462
10 YR YLD + .03 = 1.95%
OIL - .94 = 94.23
GOLD – 5.00 = 1426.80
SILV - .24 = 23.51

So, we have record highs. I went back to check some of the earlier in the year predictions. Last December, Goldman Sachs was predicting the S&P 500 would hit 1625; sounded good, even a little bold back then. Of course, in the past week, we've blown past those numbers. Many experts are calling for a correction here. Maybe, maybe not. If your memory is still sharp, you'll recall a few weeks back I was talking about the “Sell in May” strategy; and if you're really sharp, you'll recall I said the way to play that strategy was to wait for a MACD sell signal for an exit, rather than just an arbitrary date on the calendar. We still haven't had the exit signal.

The market is in full melt-up mode, extending further above its longer-term moving averages every single day. The riskier stocks helped pushed the market higher over the past week or so. Technology names blasted higher. Materials broke out and helped lead the market to record heights. This shows that we are finally seeing investors beginning to believe in the market again.

In a recent Gallup survey, only 52% of folks said that they or their spouse own any stocks (that includes mutual funds). That's a jaw-dropping number if only for the fact that the S&P 500 has more than doubled since its 2009 bottom. The data shows that, left to their own devices, most individual investors sold into that 2009 bottom, and they kept selling stocks as the market recovered and pushed to new highs. So, there is a lot of money on the sidelines. If we do get a correction, it will probably happen right after Mom and Pop investor jump in.

The Congressional Budget Office just did a new series of baseline budget deficit projections and they're a lot lower than the old ones. The short-term deficit, in particular, is way lower; $200 billion lower; or a $643 billion deficit for 2013 rather than an $845 billion deficit. That's about half higher-than-expected tax revenues and about half higher-than-expected payouts from Fannie Mae and Freddie Mac. A big reason for the smaller-than-expected deficit is stronger economic growth.

The CBO is also revising the 10-year deficit forecast down by $618 billion, primarily because of the slowdown in health care spending. This doesn't mean the deficit problem is completely fixed. The current projection has the deficit shrinking for the next couple of years and then growing again. So, things will get better before they get worse, but that leaves us with a manageable 2024 deficit. The problem is that it's trending upward, and nothing in this revised projection changes that fact. There's no need to panic about the 2024 deficit, or for that matter, no need to strike a grand bargain. It is possible that we could start to control health care costs and do more to boost economic growth, and ten years from now, we might not have much of a problem at all. Key here is economic growth.

The Department of Labor reports US import prices fell in April due to a drop in oil costs, a positive sign for household finances that also pointed to benign inflation pressures. Import prices slipped 0.5 percent last month, the biggest decline since December. March's data was revised to show a 0.2 percent decline instead of the previously reported 0.5 percent drop. Stripping out petroleum, import prices dipped 0.1 percent.

The tame inflation environment should allow the Federal Reserve to stay on its ultra-easy monetary policy; so this flies directly in the face of those who are worried about the Fed “tapering off” of QE. At its policy meeting earlier this month the central bank decided to continue buying $85 billion worth of bonds every month to push long-term interest rates downward. At the same time, the economy has lately shown signs of resilience despite austerity measures.

The National Federation of Independent Business reports its gauge of confidence for small U.S. businesses rose in April to its highest in six months. Lower oil prices are also helping household finances. The United States imports much of the fuel it consumes. Last month, imported petroleum prices fell 1.9 percent. The Labor Department report also showed export prices fell 0.7 percent last month, the largest decline since June.

Meanwhile, there is a boom in North American energy that may be one of the biggest stories in the global economy, even though we haven't really felt the positive impact in the US; not yet anyway. The boom is related to the shale exploration in the US and the oil sands fields in Canada.

A new report from the International Energy Agency, the IEA, discusses the consequences of the boom, and they are looking at this as a boom. The report describes the US supply "shock" as that is sending "ripples" throughout the world, affecting every aspect of the market.

Here's the key part from the press release announcing the report:

The supply shock created by a surge in North American oil production will be as transformative to the market over the next five years as was the rise of Chinese demand over the last 15, the International Energy Agency (IEA) said in its annual Medium-Term Oil Market Report (MTOMR) released today. The shift will not only cause oil companies to overhaul their global investment strategies, but also reshape the way oil is transported, stored and refined.

According to the MTOMR, the effects of continued growth in North American supply – led by US light, tight oil (LTO) and Canadian oil sands – will cascade through the global oil market. Although shale oil development outside North America may not be a large-scale reality during the report’s five-year timeframe, the technologies responsible for the boom will increase production from mature, conventional fields – causing companies to reconsider investments in higher-risk areas.

In virtually every other aspect of the market, developing economies are in the driver’s seat. This quarter, for the first time, non-OECD economies will overtake OECD nations in oil demand. At the same time, massive refinery capacity increases in non-OECD economies are accelerating a broad restructuring of the global refining industry and oil trading patterns. European refiners will see no let-up from the squeeze caused by increasing US product exports and the new Asian and Middle Eastern refining titans.

“The good news is that this is helping to ease a market that was relatively tight for several years. The technology that unlocked the bonanza in places like North Dakota can and will be applied elsewhere, potentially leading to a broad reassessment of reserves. But as companies rethink their strategies, and as emerging economies become the leading players in the refining and demand sectors, not everyone will be a winner.”

While geopolitical risks abound, market fundamentals suggest a more comfortable global oil supply/demand balance over the next five years. The MTOMR forecasts North American supply to grow by 3.9 million barrels per day (mb/d) from 2012 to 2018, or nearly two-thirds of total forecast non-OPEC supply growth of 6 mb/d. World liquid production capacity is expected to grow by 8.4 mb/d – significantly faster than demand – which is projected to expand by 6.9 mb/d. Global refining capacity will post even steeper growth, surging by 9.5 mb/d, led by China and the Middle East.

Now, when you look at this energy boom, you might think this would be a real positive for US manufacturing. We just haven't seen it yet, and we might not. There has been talk about a renaissance in US manufacturing, and factory output continues to rise, but the truth is that manufacturing has dropped to just 9% of jobs, and in the last month, there were no new manufacturing jobs added. For every $1 of manufacturing output in a community, there’s another $1.48 of wealth created. And there has been a push for new manufacturing jobs which unfortunately has been hampered by austerity measures out of Congress. Any strength we've seen in manufacturing is probably just a short-term bounce reflecting more the relative weakness of Europe and Japan. Lower energy prices might help, but not yet. The ability to make things is fundamental to the ability to innovate things over the long term. When you give up making products you lose a lot of the added value.

Maybe we are on the leading edge of a new oil and natural gas boom in this country, but one thing we'll need to get there is water.

Water and energy are inextricably linked.

Power plants are the largest users of water in the United States, while substantial amounts of energy are needed to supply fresh water to homes, farms and factories and treat waste water prior to safe disposal.

Rising water consumption for hydraulic fracturing and production of biofuels, coupled with severe droughts across more than 60 percent of the continental United States in 2012, have propelled that link up the policymakers' agenda.

The threat to hydroelectric generation is obvious. But in 2007-2009, drought put the water supplies of 24 of the nation's 104 reactors at nuclear plants at risk.

The United States withdrew 410 billion gallons of water from aquifers, rivers and the ocean every day in 2005, of which 350 billion gallons were fresh water and 60 billion gallons were saline or brackish.

Cooling systems for nuclear plants and power plants that burned coal, gas and oil accounted for 41 percent of fresh water withdrawals and 49 percent of all water withdrawals. That put them ahead of irrigation (31 percent) and public supply to homes and offices (11 percent). The remaining uses including industry, mining, livestock and aquaculture accounted for less than 10 percent combined.

In addition to power plants, water used in growing crops for biofuels as well as for drilling and fracking oil and gas wells accounts for a rapidly increasing amount of total consumption.

The broader energy sector has been the fastest growing water consumer in the United States in recent years and is projected to account for 85 percent of the growth in domestic water consumption for the next 20 years.

Environmentalists and community groups cite water scarcity as one reason to ban or restrict fracking. Even in Texas, water conservation districts say they are considering introducing restrictions if reservoirs and the water table drop too low.

Most of the water employed in thermoelectric power stations is in the cooling system. In once-through cooling (OTC) systems, water is withdrawn from a source, normally a river or coastal location, circulated through heat exchangers, then returned to the surface water body. OTC systems withdraw large amounts of water but use comparatively little, returning most to the source.

Most thermal plants in the United States employ OTC systems. Net water consumption is therefore only 3 percent of the total, compared with gross withdrawals of almost 50 percent. The distinction between withdrawals and consumption is crucial. Water that is consumed cannot readily be used for another purpose.

Power plants need sufficient water at a low enough temperature to operate efficiently. Most states impose restrictions on the temperature at which water can be discharged back into rivers and the sea to prevent the animals and plants in the waterway from being cooked. If there is insufficient water or it is too hot, power plants may be forced to close or cut output.

In August 2012, the Illinois Environmental Protection Agency waived the normal environmental restrictions and allowed four coal-fired and four nuclear power stations to release hundreds of millions of gallons of hot water at nearly 100 degrees Fahrenheit into state lakes and rivers to keep the lights on.

On other occasions, low water levels forced power plants to turn down. During the 2003 heat wave in France, which was responsible for more than 10,000 deaths, nuclear plants had to reduce their output, worsening the crisis.

Nuclear and coal-fired power plants with OTC systems are especially vulnerable to droughts and heat waves because they rely on by far the largest volume of water withdrawals. Combined-cycle gas plants are much more efficient. And gas turbines, solar and wind generators use negligible quantities.

Options for reducing the power sector's vulnerability include switching the type of fuel from nuclear and coal to gas, solar or wind; switching to recirculating or dry and hybrid wet-dry cooling systems; or switching the water source from fresh water to saline or waste water.

The drawback is the capital cost and reduced efficiency of the plant.

Oil and gas extraction uses prodigious quantities of fresh water and produces large amounts of brackish waste water, which is normally reinjected far below the drinking water table. Drilling a conventional well uses relatively small quantities of water for drilling mud. Fracking uses vast amounts of water. A typical well drilled and fracked in the Eagle Ford uses 4.3 million gallons.

Pressure to reduce the amount of fresh water used in fracturing operations has led to interest in switching to saline or waste water, recycling water, or fracking with diesel or hydrocarbon gels, though all these systems are less efficient and remain experimental, and represent the threat of contamination to acquifers.

Biofuels present another problem. Huge amounts of water are being used to grow crops to produce ethanol.

Because biofuels need so much water for their growth, they are particularly vulnerable to droughts. Just as traditional agricultural crops are hindered in times of drought, so are energy crops.

We may be looking at a boom in energy production in this country, but it comes at a price.

Monday, May 13, 2013 - Tapering Off – A Taste of Honey

Tapering Off – A Taste of Honey

by Sinclair Noe

DOW – 26 = 15,091
SPX + 0.07 = 1633
NAS + 2 = 3438

10 YR YLD + .02 = 1.92%

OIL – 1.16 = 94.88
GOLD – 17.30 = 1431.80
SILV - .22 = 23.75

The Murdoch Street Journal ran an article Friday claiming the Federal Reserve has mapped out a plan to exit Quantitative Easing, the Fed's $85 billion dollar per month bond buying program. The article said the Fed will cut its bond-buying program in careful and potentially halting steps, though the timing of when to start is still being debated. Now, you might think this is good news; the Fed thinks there is a way to exit QE; they are eager too manage market expectations and to prevent chaos; and the entire idea of an exit would possibly indicate an improving economy.

Not so fast.

Maybe the Fed is getting worried about risks from zero interest rate policy. In a speech devoted to the vulnerabilities in the financial system, Bernanke identified the search for yield, the threat of a run on money-market funds and the possibility that short-term wholesale markets could dry up in a crisis.

At a speech at a Chicago banking conference, Bernanke said: “In light of the current low interest-rate environment, we are watching particularly closely for instances of ‘reaching for yield’ and other forms of excessive risk-taking, which may affect asset prices and their relationships with fundamentals.”

Bernanke again drew attention to money-market funds, noting the Treasury no longer has the legal authority to guarantee investors’ holdings in funds, as it did after the 2008 panic, when the Reserve Primary Fund “broke the buck”.  Bernanke also repeated concerns about short-term wholesale markets, which have the potential to dry up in another Lehman Brothers-like situation. While Bernanke did not draw the link in the speech, the potential for these markets to dry up is a reason regulators are concerned with mortgage REITs. And he said the legacy from the financial crisis of four years ago remains, with the economy still not regaining lost jobs and with the financial system struggling to deal with the economic, legal and reputational consequences. In the question-and-answer session, Bernanke put himself in the camp that more needs to be done on the issue of “too big to fail” banks.

Good timing by the Fed; they dropped this little bombshell in the Murdoch Street Journal on a Friday, allowing for a weekend of digestion, and so today, it was watered down and inconsequential.

The S&P 500 is up a whopping 145% off the March 2009 crisis low. And year-to-date, it's had a remarkably steady rally, adding up to a 15% gain. Earnings growth is slowing down. Top line and bottom line are not as good as they used to be, but margins are high. They could correct, somehow, over time.

But you have the gravitational forces of slow economy leading eventually to correction, but then the levitational forces of QEs, zero policy rates, more money coming in the market – not just from the US, but from other economies – it's going to levitate asset

The arguments for a bull market are not built on a belief in economic strength. They always revolve around asset inflation via money printing.

How bullish can the crowd be if no one is bullish on the real economy? I suppose it's easy to be bullish on Wall Street, but at some point the financials need reinforcement from the real economy.

The Fed doesn't have an easy job. While we hear about the Fed tapering off of QE, or altering the mix of bond buying; all the while trying to keep Wall Street from jumping out a window, don't forget the Fed has another mandate – jobs.

The Fed's forward guidance on unemployment is in danger of giving misleading signals about the need for tightening, and it probably needs to be changed. The difficulty is that unemployment is declining towards the announced threshold in part because large numbers of people have left the labor force altogether as the recession has dragged on, and this probably means that the official unemployment rate is no longer acting as a consistent measuring rod for the amount of slack in the labor market.

The upshot is that the Fed will probably want to keep short rates at zero until unemployment has dropped a long way below 6.5 per cent.

It is a distortion which the Fed cannot afford to ignore. Its mandate requires that it should aim for “maximum employment”, not “minimum unemployment on the official statistics”, which is what it risks doing under its current forward guidance.

Bernanke may have been trying to test the waters to see how the markets react to the idea of tightening too early, but he has a mandate that seems to indicate he should wait until he sees solid evidence of a revival in employment. Maybe the market reaction was really a realization that the Fed is nowhere near to an exit just yet.

Is it possible to have too much central bank easing? For an answer to that question, we turn to Japan, where the dollar/yen has now broken above 100, and it is widely believed the drop in the yen is going to have a positive impact on Japanese imports.  In fact it seems like most economists think that the easing of monetary policy we have seen in Japan is about the exchange rate and the impact on Japanese “competitiveness”.

But if you look at the way Japanese monetary easing is taking place, a funny thing becomes clear. Japanese exporters are not changing prices, but instead just allowing the impact of the weaker Yen to fall straight through to the bottom line. That won't last forever; they will soon turn their attention to leveraging the weaker Yen to cut prices and take market share; and the most likely place to feel a pinch in their market share is Europe.

If Germany and by extension Europe experiences weaker growth, European policymakers will need to respond. And they are not likely to respond by buying Yen to hold its value up. They are likely to respond by stimulating their domestic economy directly via easier monetary policy and, hopefully, easier fiscal policy. In other words, successful domestically-orientated policy in Japan will have second-round effects that will induce further policy easing in Europe.

And specifically, it would be easing for German manufacturers; and if that happens, it will be difficult for the Germans to claim they need further policy easing without allowing easing across Europe. In other words, Abenomics in Japan may be required to break the German grip on austerity for the rest of Europe.

And now, on a completely different note.

Nearly one in three commercial honeybee colonies in the United States died or disappeared last winter, an unsustainable decline that threatens the nation's food supply.

Multiple factors - pesticides, fungicides, parasites, viruses and malnutrition - are believed to cause the losses. We're getting closer and closer to the point where we don't have enough bees in this country to meet pollination demands. Beekeepers lost 31 percent of their colonies in late 2012 and early 2013, roughly double what's considered acceptable attrition through natural causes. The losses are in keeping with rates documented since 2006, when beekeeper concerns prompted the first nationwide survey of honeybee health. Hopes raised by drop in rates of loss to 22 percent in 2011-2012 were wiped out by the new numbers.

The honeybee shortage nearly came to a head in March in California, when there were barely enough bees to pollinate the almond crop.

Had the weather not been ideal, the almonds would have gone unpollinated - a taste, as it were, of a future in which honeybee problems are not solved. If we want to grow fruits and nuts and berries, this is important. One in every three bites of food consumed in the US is directly or indirectly pollinated by bees.

Scientists have raced to explain the losses, which fall into different categories. Some result from what's called colony collapse disorder, a malady first reported in 2006 in which honeybees abandon their hives and vanish. Colony collapse disorder, or CCD, subsequently became a public shorthand for describing bee calamities. Most losses reported in the latest survey, however, don't actually fit the CCD profile. And though CCD is largely undocumented in western Europe, honeybee losses there have also been dramatic. In fact, CCD seems to be declining, even as total losses mount. The honeybees are simply dying. It may have something to do with the way bees are trucked around the country as part of an industrialized pollinating business; it may be widespread use of pesticides; it might even be climate change.

We can debate monetary policy, but without honeybees, there is no debate – we would have a really big problem.

Thursday, May 09, 2013 - First We Start With A Military Bank

First We Start With A Military Bank

by Sinclair Noe

DOW – 22 = 15,082
SPX – 6 = 1626
NAS – 4 = 3409
10 YR YLD + .05 = 1.81%
OIL - .71 = 95.91

Initial claims for state unemployment benefits fell 4,000 to a seasonally adjusted 323,000, the lowest level since January 2008; that's January 2008, not December 2008. The weekly report from the Department of Labor shows layoffs remained contained even as other parts of the economy such as manufacturing show strain from budget cuts in Washington. The improvement in employment contrasts sharply with other data, including retail sales and manufacturing, that have suggested a cooling in the economy at the end of the first quarter. Two possible explanations come to mind; either companies think any economic slowdown is temporary, and so they are not cutting, or companies have already done so much cutting that there just aren't any more easy cuts. If it proves to be the latter, then it would be a challenge to maintain profit margins without finding additional demand.

Meanwhile, productivity gains are flagging, which could be a sign of economic weakness. Bloomberg reports employee output per hour grew at an average 0.7 percent annual rate over the past 12 quarters, which is a pace so slow it’s rarely seen outside of recessions. Gains since the recovery began in June 2009 have averaged 1.5 percent, the weakest of the nine postwar expansions that lasted as long. The two sources of growth are population growth - more people requiring more - and productivity gains – the same number of people producing more in the same amount of time. There are two ways to increase productivity; work harder or work smarter; working smarter usually means an investment in technology.

The pace at which an economy can grow without stoking inflation reflects the rate of growth of the labor force plus how much each worker can produce; it's sometimes called the speed limit for the economy. Smaller gains in productivity therefore mean advances in gross domestic product will also be restrained. Coincident with a sluggish economy, there has been a slump in business investment in equipment and software.

Companies have been slow to boost spending on more sophisticated machinery and time-saving devices such as faster computers -- a driver of the late 1990s boom in productivity. Without bigger gains in efficiency, it will be difficult for economic growth to gain momentum, and worker pay may suffer even as businesses are spurred to boost hiring in the short term.

The idea that technology has been the driver of productivity gains made sense in the 1990s, but over the past five years there is considerable evidence that productivity gains have come from squeezing workers; making workers do more for the same pay or for less pay. This means working with old or outdated equipment and also working harder. Many people who are still employed are doing the work of 2 jobs ten years ago.

There are, of course, limits to how much a company can cut without degrading their product or service to the point where they start losing sales or create a dangerous workplace. If you've noticed poor customer service, this is one possible explanation.

It's interesting that the Murdoch Street Journal just ran an article quoting a VP at McDonald's, the fast food giant, saying that “service is broken.” The number one complaint: “rude or unprofessional employees.”

For McDonald’s, a company that spends an estimated $2 billion annually on advertising to attract customers, having counter personnel who alienate them in the final moments of a transaction is a disaster. Fixing customer service will require more than admonishing hundreds of thousands of employees to smile.

That article has spawned other articles offering ideas on how McDonald's can improve the customer experience. Suggestions include: creating a shared emotion around delivering a great customer experience, invest more in training employees, simplify work processes, encourage employees to share stories of customer satisfaction, and give employees a reason to smile. I have a suggestion for McDonald's: hire more workers and pay them better.

Speaking of more jobs at McDonald's, today or sometime very soon, is graduation day at many universities. And that means that there will be thousands of graduating students hitting the pavement in search of jobs, and that means that in a few short months they will become delinquent on their student loans. It's a big problem.

The New York Fed provided analysis from 2012: ... as many as 47 percent of student loan borrowers appear to be in deferral or forbearance periods, and thus did not have to make payments as of third-quarter 2011. Specifically, 17.6 percent of borrowers had exactly the same balance in the third quarter as in the second quarter of this year, and 29.1 percent increased their overall student loan balance by taking on new originations or accruing interest to the balance. We then recalculate the proportion of borrowers with a past due balance excluding this group of borrowers. We find that 27 percent of the borrowers have past due balances, while the adjusted proportion of outstanding student loan balances that is delinquent is 21 percent.

A few years ago, I wrote a book entitled “Eat the Bankers” and one of my ideas was to create a Military Bank. Any person who is good enough to stand in harm's way and possibly shed blood for their country is good enough to be given a good deal. All active military would be entitled to the best possible terms on legitimate credit that our country has to offer. The Federal Reserve has been lending money to banks at 0.25% to zero percent, therefore the Military Bank could offer credit to active military personnel at a rate not to exceed 0.25%. If it's good enough for the bankers, it's good enough for America's greatest heroes that defend our freedom.

There would have to be some common sense limits; a Private First Class earns a little over $20,000 a year and would not be eligible to borrow a billion dollars from the Military Bank. All lending would be based on legitimate need and legitimate ability to repay. But if the Private First Class needed a loan to buy a car or housing or to pay for education or training – they should get the same rate as the bankers.

I thought that it was a good idea, and it could even be expanded to veterans, and then expanded to first responders, law enforcement, and other people who are certainly as deserving or more deserving than bankers. I thought it was a good idea, and the general concept seems to be gaining some favor.

Elizabeth Warren introduced her first standalone piece of legislation yesterday, calling for the government to give student borrowers the same deal it gives big banks when they need a loan. The measure would allow students who are eligible for federally subsidized Stafford loans to borrow at the same rate that banks get from the Federal Reserve when they need a short-term infusion of cash from the central bank’s discount window.

Speaking on the floor of the Senate, Warren said: "If the Federal Reserve can float trillions of dollars to large financial institutions at low interest rates to grow the economy, surely they can float the Department of Education the money to fund our students, keep us competitive, and grow our middle class."

The proposal drew some blowback from the banking industry. Patrick Sims, a director in policy research at Hamilton Place Strategies, argued a short-term loan from the discount window during a time of crisis is not at all comparable to a long-term student loan.

Sims said that while some people have called for higher rates or penalty rates for banks that access the discount window, the point of the funding is to prevent a liquidity crisis and is not how banks fund themselves over time.

"Using something completely unrelated and feeding into populist animosity toward large banks to increase the sympathy for the student loan body or students in general, it just kind of sounds like a weird way to legislate," Sims said. "I don’t know if it necessarily helps our student loan situation in the United States today."

Under Warren’s proposal, the Fed would make funds available to the Education Department for one year to make loans to students at the same rate offered to large banks. Warren says the bill would give students relief from high interest rates while giving Congress time to find a long-term solution to the increasing costs of Stafford loans.

Warren noted that large banks can currently borrow from the Fed’s discount window at a rate of about 0.75 percent, but if the rate for new Stafford loans increases — as it is set to do on July 1 — a student borrower seeking a loan this summer will pay almost 7 percent.

"In other words, the federal government is going to charge students interest rates that are nine times higher than the rates for the biggest banks — the same banks that destroyed millions of jobs and nearly broke this economy," she said. "That isn’t right."

Student loan debt had topped $1 trillion, and it has warned about the ripple effects on the economy if those borrowers are unable to buy a home or save for retirement. Warren also noted the "serious risk to the recovery" that student debt poses, and said students are just as important to economic growth as big banks. Warren dismissed the idea that the bill would be too expensive. The federal government earns 36 cents in profit on every dollar it lends to students, she said, which will bring in a total of $34 billion next year.

Warren said: "We shouldn’t be profiting from our students who are drowning in debt while we’re giving great deals to big banks."

I think it's a good idea. Either that or the students go get a job at McDonald's; just don't complain about the service.