Friday, May 31, 2013 - Economic Wallbanger

Economic Wallbanger

by Sinclair Noe

DOW – 208 = 15,115
SPX – 23 = 1630
NAS – 35 = 3455
10 YR YLD + .04 = 2.16%
OIL – 1.98 = 91.63

GOLD – 25.40 = 1389.30
SILV - .51 = 22.37

We finish the month of May with the Dow Industrials up 1.9% on the month; the S&P 500 posted a monthly gain of 2.1%, and the Nasdaq Composite added 3.8% for the month. With this week's declines, the MACD indicator for the Sell in May strategy, finally turned negative, just in case you had been waiting. The S&P 500 marked seventh monthly advance, its longest monthly winning streak since one ending in September 2009. The Dow industrials recorded their sixth straight monthly gain.

Treasury prices dropped again today to finish their worst monthly performance since December 2010; the yield on the 10-year note climbed 46 basis points on the month. At one point during today's trading, the yield topped 2.20%.

Next week, we'll see how the labor market is behaving. Today we found out that the unemployment rate for the 17 nation Eurozone has increased to 12.2%, the highest level since data has been compiled starting in 1995. Consumer price inflation was far below the ECB’s target of just below 2%, coming in at 1.4% in May, slightly above April’s 1.2% rate.

Price increases may quiet concerns about deflation, but the deepening unemployment crisis is a threat to the social fabric of the eurozone, with almost two-thirds of young Greeks unable to find work exemplifying southern Europe’s threat of creating a ‘lost generation’. In France, Europe’s second largest economy, the number of jobless rose to a record in April, while in Italy, the unemployment rate hit its highest level in at least 36 years, with 40% of young people out of work. Youth unemployment across the Eurozone came in at 24.4%, double the wider jobless rate and up from 24.3% in March.

In the past, the eurozone has needed economic growth of around 1.5% to create new jobs. With the Organisation for Economic Cooperation and Development forecasting this week that the eurozone economy would contract by 0.6% this year, unemployment is set to worsen long before it turns around.

The next formal meeting of the ECB is June 6. EU leaders are scheduled to meet in Brussels at the end of June. Rate cuts and quantitative easing might be on the agenda, but it will take much more than that. The main problem for the Eurozone economy is no longer market driven factors, but the possibility of social breakdown.

Several thousand protesters blocked the ECB offices in Frankurt today. The subway workers were on strike in Lisbon yesterday. Portuguese teachers are scheduled to strike next month. It is a similar story across large parts of the eurozone. There have been mass protests in Madrid, Dublin and Athens against policies designed to reduce budget deficits and bring about economic reform.

The European commission has told six countries – France, Spain, Portugal, Poland, the Netherlands and Slovenia – that they will have up to two extra years to put their public finances in order. In truth Brussels had little choice, because weak growth had reduced tax revenues and made it impossible for exacting budget targets to be met. The continued depression in parts of the Eurozone means that people think austerity on its own is a doomed strategy. And so the IMF, spurred on by an Obama regime deeply troubled by the depression in the Eurozone, has been advising member governments to ease up. Politically, austerity is no longer feasible. Of course, that doesn't mean that the Eurozone governments have adopted pro-growth policies; they haven't moved from a pro-cyclical fiscal stance to a neutral one, let alone a counter-cyclical position. There are still big differences between the French, Spanish, and Italians on one side and the Germans and a few other countries on the other side. For now it's a standoff, and not much is getting done. Eurozone austerity isn't dead, they just pressed the pause button.

Deficit reduction efforts in the rest of the world seem to clearly show that austerity efforts have been unsuccessful nearly always and everywhere in that their costs in economic damage have been far greater than any gains that have been made by nations purposefully pursuing these efforts. In the Eurozone, deficit reduction efforts have actually made debt problems worse than they were before austerity cuts were made, because their negative effects on national economies and employment have also reduced tax revenues by more than the savings achieved from cutting government programs.

Austerity in the US is far from dead. In the US, our cuts have been shallow but wide; meaning the cuts have been scheduled to be spread out over several years. Which means the economy has been improving, but not enough to reach solid, sustainable growth. Sometimes the absence of pain feels like pleasure. Today's economic reports are the case in point.

The final May reading of the University of Michigan and Thomson Reuters consumer-sentiment index jumped to 84.5 — the highest level since July 2007 — from 76.4 in April. That puts consumer-sentiment back to the level of 2007.

Meanwhile, the Commerce Department reports consumer spending fell 0.2% in April. Income growth was flat in April. Adjusted for inflation, disposable income declined by 0.1% last month. Disposable income is the money left after people pay taxes. Soft consumer spending in April points to a weaker reading on second quarter gross domestic product, barring a sharp uptick in May and June. GDP is expected to slow to 1.9% from 2.4% in the first quarter.

The personal savings rate has dropped to 2.5%, which means consumers have very little room to increase spending unless they get more income, or more wealth, or more debt. Most consumers don't want more debt or find it difficult to get more debt. The fiscal policy out of Washington has been pushing down income, as we're just starting to see the effects of sequester cuts. The Federal Reserve is finding there are limits to the possible benefits of the wealth effect to stimulate the economy.

And when we have semi-decent economic reports, like today, it just worries the market that the Fed will take away the stimulus and cut the $85 billion per month in bond purchases. If the absence of pain starts to feel too pleasurable, just bang your head against the wall for a while.

And now, the latest on Monsanto. Last month an Oregon farmer sprayed one of his fields with Roundup weed killer, only to find that several wheat plants survived. He had the wheat tested, and the Department of Agriculture determined that the plants were an unapproved genetically modified strain made by the biotech giant Monsanto. So-called “Roundup Ready” modifications allow farmers to apply much higher levels of pesticides without harming crops, and are common in soy and corn; the thinking is that those plants are used more for animal feed; of course, humans then feed on the animals, but don't let that stop you. Wheat is ingested directly, and most people aren't ready to go there. No GM wheat is currently approved for sale or production in the US, or anywhere else in the world.

The wheat is probably not harmful to humans—although since testing was never completed, we can’t be sure.  Nevertheless, most of Asia (not to mention Europe and a certain portion of the United States) is firmly opposed to GM crops made for human consumption. Where did the wheat come from? Well, in the 1990s Monsanto conducted field tests of wheat in 16 states. Monsanto dropped the wheat project. It never asked for government approval, and it ended its field trials of wheat in 2005. The last field test in Oregon stopped in 2001. The reality of GM testing a product in open fields is that it’s quite easy for cross-contamination. It’s like the dinosaurs in “Jurassic Park”—no matter how well-designed the safeguards, life always finds a way to jump the fence.

Japan has canceled its imports of some types of US wheat. Japan imports around five million tons of wheat a year, 60 percent of which is from the US, making it one of the largest importers of the crop. It does not allow GM wheat. Imports make up 90 percent of the wheat the country consumes.

China, South Korea and the Philippines have all said that they are monitoring the ongoing US investigation, and the European Union said it was stepping up testing. The US supplies about 20% of the global supplies of wheat.

Extra Notes: 

The financial crisis destroyed some $16 trillion in household wealth. Americans have only recovered 45 percent of that amount, according to the Fed report. But when you break down that wealth recovery by income level, it gets worse. The Fed estimates that 62 percent of that wealth people have regained since the depths of the recession has come in the form of higher stock prices. And 80 percent of stock wealth is held by people in the top 10 percent of the income distribution. "Recent gains in the stock market mean that the recovery of wealth is nearly complete for white and Asian households and older Americans,"

But many families have not experienced any recovery at all, and some are still losing wealth, William Emmons, chief economist for at the St. Louis Fed’s Center for Household Financial Stability, told the Post. "The families that lost homes are not the families making money off stocks," Mui notes. Though the number of foreclosures has dropped off a lot, it is still more than double what it was pre-crisis.

The report found that the most vulnerable households tended to be either relatively young and/or black or Hispanic, and not well-educated. Those families had low savings and high debt and had gained most of their wealth through their homes.

It gets worse. Because the housing market is improving overall, there is less of an incentive for the government to push any new measures to help underwater homeowners. Prominent economists say that allowing initiatives that would reduce borrowers' loan principle balances is the single most important thing the administration could do to help the Americans who lost all that home wealth. But for more than a year, the head of the Federal Housing Finance Agency (FHFA), which oversees the government-backed home-loan giants Fannie Mae and Freddie Mac, blocked initiatives that would have done just that. President Barack Obama has nominated a new FHFA director, but as a report released Friday by the Progressive Policy Institute notes, it might be too late: "US housing markets have come roaring back to life, and while that's great news, it has probably closed the window for principal reduction."

The wealthiest 1 percent now control 39 percent of the world's wealth, and their share is likely to grow in the coming years, according to a new report.

The world's total private wealth grew 7.8 percent last year to $135 trillion, according to the Boston Consulting Group's Global Wealth report. The top 1 percent control $52.8 trillion, and those worth $5 million or more control nearly a quarter of the world's wealth.

That concentration is likely to increase in the coming years as the wealth of the wealthy grows faster than overall global wealth. The number of millionaires in the world surged by 10 percent year, reaching 13.8 million. The study predicts that global wealth will grow around 4.8 percent a year over the next five years-though millionaires will see their wealth grow nearly twice as fast.

Those worth $5 million or more will see their wealth grow 8 percent, while those worth more than $100 million will see their wealth grow 9.2 percent. The $100-million-plus group will see their share of global wealth grow to 6.8 percent in 2017 from the current 5.5 percent.

What's driving the wealth of the wealthy? It depends on the country. In the developed world-the U.S. and Europe- it's mainly stocks. And stocks have been on a tear this year in the U.S., which has mainly benefited the top 5 percent, who own 60 percent of all individually held stocks.

In developing markets, the main wealth creator is economic growth and savings. Yet the amount of wealth held in stocks and in offshore wealth (again mainly held by the wealthy) in developing countries is also growing. The amount of wealth held in equities in Asia (excluding Japan) surged by 21.9 percent in 2012.

Thursday, May 30, 2013 - The Money Laundering Criminals at HSBC and Standard Chartered Continue to Skate

05302013 Script

The Money Laundering Criminals at HSBC and Standard Chartered Continue to Skate

by Sinclair Noe

DOW + 21 = 15,324
SPX + 6 = 1654
NAS + 23 = 3491
10 YR YLD un = 2.12%
OIL + .45 = 93.58
GOLD + 21.00 = 1414.70
SILV + .32 = 22.88
PLAT + 31.00 = 1487.00
PAL + 8.00 = 761.00

So, apparently Wall Street moved higher today because the economy looks weaker and that means the Fed won't taper or quit QE. It's twisted logic, but we figured it out a while back.

The weak economic news started with this week's initial claims for jobless benefits; applications increased by 10,000 to 354,000. One week does not make a trend. Next week we'll get the jobs report for the month of May. Today's figures were just a reminder that the Fed won't have an easy path to end QE without crushing the labor market.

In a separate report, the Commerce Department said first-quarter gross domestic product was revised down to 2.4%, down from an initial estimate of 2.5%.  The gain in first-quarter growth follows a sluggish increase of 0.4% in the fourth quarter. Consumer spending increased, but that was likely due to higher prices for gasoline and electricity. Government expenditures fell by 4.9%, up from initial estimates of a 4.1% drop. The bulk of the decline was in military spending. Inflation as measured by the PCE index was muted, rising just 1.0% overall or by 1.3% excluding food and energy.

So, the economy is slowing, the sequester cuts are just starting to kick in and act as a drag on the economy, and inflation is running at half the Fed's target, and the jobs market is weak. And don't forget the Fed is finding no help in the form of fiscal policy. Against this backdrop, it will be hard to make a case for ending QE.

There is a market “disconnect” between the world’s gloomy outlook and talk of tapering by the US Federal Reserve, the supposed moment when it starts to wind down its $85bn of monthly bond purchases. Yet the markets seem to be betting that the central banks will come to the rescue yet again if needed.

Maybe, but there is that slight risk the central bankers might feel the compulsion to strike a blow against moral hazard and display their displeasure for asset bubbles. In other words, we could see a nasty sell-off at some point. We have been through these episodes of putative Fed tightening twice since the Lehman crisis. Markets tanked in 2010 and again in 2012 after the Fed turned off the spigot.

Yet QE critics clearly have a point. As Pimco’s Bill Gross points it, there are “bubbles everywhere”. The Credit Suisse index of Global Risk Appetite has been flirting with the “euphoria” line, not far short of levels seen in 1987, 2000 and 2007. There is a big market disconnect. The Gini co-efficient of wealth inequality is soaring, which means that all the money that's been pouring into the markets isn't trickling down.

American households have rebuilt less than half of the wealth lost in the financial crisis, leaving them without the spending power to fuel a robust economic recovery. From the peak of the boom to the bottom of the bust, households watched nearly 40% of their net worth disappear amid sinking stock prices and the rubble of the real estate market. Since then, Americans have only been able to recapture 45 percent of that amount on average, after adjusting for inflation and population growth.

The report from the St. Louis Federal Reserve showed most of the improvement was due to gains in the stock market, which primarily benefit wealthy families. That means the recovery for other households has been even weaker. The report states: “A conclusion that the financial damage of the crisis and recession largely has been repaired is not justified.”

The economy is twice as large as it was three decades ago, and yet the typical American is earning about the same, adjusted for inflation. The notion that we can’t afford to invest in the education of our young, or rebuild our crumbling infrastructure, or continue to provide Social Security and Medicare and Medicaid, or expand health insurance is absurd. Maybe the Fed should look at tapering off QE. It doesn't really work. That doesn't mean they should eliminate stimulus; it just means they need to inject the stimulus directly into the veins of the middle class.

Remember last September when US authorities decided to fine HSBC for money laundering? It seemed a mere slap on the wrist. A new batch of emails and letters were released to a Washington-based advocacy group, Public Citizen, and they paint a picture of the Treasury Department making hasty decisions following more than a 10 year investigation. The pressure started to build when a New York state regulator threatened to revoke the banking license of another British bank, Standard Chartered.

Public Citizen is hoping to obtain even more documents under the Freedom of Information Act. The New york Department of Financial Services determined that Standard Chartered had laundered $250 billion in illegal transactions over nearly a decade of business with US-sanctioned countries including Libya, Burma and Sudan. The bank was fined $327 million.

HSBC took money laundering to the next level. In total, the bank's US and Mexican units failed to monitor more than $670 billion in wire transfers and more than $9.4 billion in purchases of US dollars from HSBC Mexico. - Bloomberg

HSBC laundered billions for murderous drug gangs around the world; in Mexico, they changed their teller's cages to accommodate the boxes of drug cash. HSBC aided Iranian entities to evade US financial sanctions on Iran. If Iran ever develops nuclear weapons, we can thank HSBC and Standard Chartered. HSBC aided terrorist organizations including Hamas, Hezbollah, and al Qaeda.

HSBC was fined $1.9 billion.

Now, Judge John Gleeson is considering cancelling December’s so-called deferred prosecution agreement that gave HSBC immunity from money laundering claims. This could leave the bank open to criminal prosecution and a ban from operating in America. However, HSBC disputes this.

The US Department of Justice (DoJ) is reportedly challenging Mr Gleeson’s need to sign off on the deal. The judge last mentioned the case in February, stating that he had not yet approved nor disapproved of the settlement.

In a statement, HSBC said: “For more than two years, our new leadership team in both New York and London has been implementing reforms and new controls, investing in compliance systems and staff, and putting in place the most effective global standards across our network to combat financial crime on a global basis.

“We are focused on taking all necessary steps to fulfill our obligation under the agreements with the US and UK governments, and on implementing effective global standards across HSBC.”

That would sound more credible if only they had stopped laundering money. In March, fresh money laundering and tax evasion allegations surfaced in Argentina.

Standard Chartered was forced to admit it had violated the International Emergency Economic Powers Act, and if they didn't misbehave, then the charge would be dismissed in two years. It only took a couple of months for Standard Chartered's Chairman John Peace to lie to reporters, and investors by claiming there was no “willful intention” to violate financial rules. US regulators then forced Chairman Peace to write an apology for lying about money laundering.

Nobody went to jail.

Nobody.

On Wednesday, the Department of Justice announced arrests for money laundering. The DOJ statement says: "Today, we strike a severe blow against a professional money laundering enterprise charged with laundering over $6 billion in criminal proceeds."

Nope, not Standard Chartered, not HSBC; they arrested some guy running an online mish-mash out of Costa Rica called Liberty Reserve, or as the Department of Justice described it: “a massive criminal enterprise”, and “the largest international money laundering prosecution in the history of the Department."

It sounds like puffery, but it's true, I guess. The Department of Justice did not prosecute HSBC or Standard Chartered for a combined $929 billion in money laundering. Now, that would have been something to brag about, but they handed out deferred prosecution agreements, which have been violated. Of course, the judge hasn't signed off on the deferred prosecution agreement; apparently feeling a twinge of remorse in letting these criminals off the hook in light of the fact that 35,000 people were brutally murdered at the hands of drug traffickers in Mexico, who then laundered money through HSBC. Or maybe the judge can't reconcile how HSBC faces no jail time, while the FBI reports that in 2011 there were 663,032 arrests in this country for marijuana possession.

Meanwhile, the Washington Post reports the Office of the Comptroller of the Currency is expanding a probe that began in 2011 with allegations that JPMorgan Chase was using error-filled documents in lawsuits against debtors. The regulatory agency is examining the process several banks use to verify consumers’ outstanding debt before taking legal action.

If it sounds familiar it is. Remember the housing crisis, and how mortgage servicers were accused of falsifying records and robo-signing thousands of documents without review? The banks did pretty much the same thing, filing thousands of lawsuits against delinquent credit card holders. Consumer lawyers began noting a number of collection cases built on shoddy records. 

Authorities in California, for example, say JPMorgan flooded the courts with lawsuits against credit card holders based on flimsy evidence that cardholders were in default. California Attorney general Kamal Harris filed a case against JPMorgan. Iowa attorney general Tom Miller is organizing a 50 state effort, a replay of the 50 state attorney general effort on mortgages. So, the OCC is now getting involved because it looks bad when the state AG's take the reins and the federal regulators act like they're in a coma.

A former JPMorgan employee claims nearly 23,000 delinquent accounts were riddled with inaccuracies. The bank fired her; she sued; the case was settled out of court.

And still, none of the banksters has been jailed.

Wednesday, May 29, 2013 - Behind the Curtain

Behind the Curtain

by Sinclair Noe

DOW – 106 = 15,302
SPX – 11 = 1648
NAS – 21 = 3467
10 YR YLD - .01 = 2.12%
OIL – 2.12 = 92.89
GOLD + 11.30 = 1393.70
SILV + .19 = 22.56

Earlier today, I listened to one of the talking heads on CNBC trying to explain why the markets were up yesterday and down today. It was very entertaining.

When mortgage interest rates fall, the probability that an individual will re-finance a mortgage increases. When mortgage interest rates increase, the likelihood of a re-financing of the mortgage goes down. Therefore, in a rising rate environment, the average life of a pool of mortgages increases. For example, if a bond fund held Mortgage Backed Securities (MBS) with an assumed 10-year average life, and interest rates rose, the average life of the MBS portfolio would be extended for a few years. The last thing that a bond manager wants in a rising rate environment is to have the average maturity of the portfolio extended, as this adds to the losses. As a result, MBS players hedge their portfolios against “duration risk” by shorting Treasuries. The higher rates go, and the speed that rates are increasing, forces more and more selling.

Is there a level of support that we can watch? There is, and it's probably 2.2% to 2.5% on the 10-year bond that will bring out an avalanche of selling. The 2.2% tipping point is very close to where the T-bond sits today. Others say we have a huge concentration of bonds that would go out of the money around 2.5% - again, very close to where we are.

The more the price on the 10-year drops, and the higher the yield climbs, the more selling is required. Is the Big Sell-off going to happen? That depends on the performance of the bond market, and on how the dealer community is positioning themselves against event risk.

There are risks: generally speaking, and in regards to ‘taper’ of QE, soon as the Fed pulls back, we will see a spike/knee-jerk higher in rates (which we are seeing in ‘anticipation’ of this happening). Remember, all the movement we've seen in bonds in the past two weeks is just from jawboning about the possibility of taper.

Bernanke has recently said that the Fed is in the process of  changing the monthly QE purchases. Here's a big question to be considered – does taper of QE indicate the economy is better? That would be the reason to raise rates; the economy is improving – raise rates; everything else is artificial, or just an attempt to tamp down an impending asset bubble.

Yesterday, we heard that consumer confidence was up, a big jump in May to 76.2. It sounds like everybody believes the economy is improving. And while the confidence numbers are up, they're not out of the gutter. The average consumer confidence number during a recession is about 79, and even with our recent boost, we're still lagging below that low bar. The May data shows the highest measure of consumer confidence since February 2008. That was a time in which a housing crash was already well underway, and only a month before before Bear Stearns collapsed and confirmed that the country was in a financial crisis.

Yesterday, we also had the S&P/Case-Shiller House Price Index posting a 10.9% increase year over year in March. Well, that certainly sounds like things are improving. Except, in nominal terms, the Case-Shiller National index (SA) is back to the third quarter of 2003 levels. Inflation adjusted, prices are back to the second quarter of 2000. The biggest price gains were noted in Phoenix, Las Vegas, and San Francisco; all areas that were smashed by the housing crash. So, in some ways, the great rebound in housing is just another stage in the foreclosure crisis. And that is a crisis that is not yet finished.

Last year $192 billion-dollars was lost as a result of foreclosures.  On average per household, this number equates to about $1,700 of loss in 2012. The foreclosure crisis is still ongoing despite the fact that foreclosure volumes are on the decline. Why are the number of foreclosures on the decline? Last month, three major banks, including Citigroup, JPMorgan Chase, and Wells Fargo, halted all their sales of homes in foreclosure; this also reduced the supply of homes on the market. The apparent problem is that the banks still weren't following the rules for foreclosures, in violation of the national mortgage settlement. The reduction in housing supply, then, is largely artificial.

There is one thing that housing prices do accomplish, however: the so-called "wealth effect." Along with a booming stock prices, higher property values make people feel rich. This then encourages them to go out and spend money. Here's the problem with the wealth effect, you have to realize your gains. In other words, you would have to sell your stocks and your real estate and put the profit in your wallet, otherwise the wealth effect is so much smoke and mirrors, and you're spending money you don't really have. Which is one thing that Americans have apparently mastered.

Half of working Americans now earn less than they did 10 years ago, adjusted for inflation. Middle class incomes have barely budged in 44 years. Around 12 million people are unemployed, about 40% of whom have been out of work for six months or more. Remember the Summer of 2012? All the politicians were talking about jobs, jobs, jobs. Now, they can't even spell it. Poverty is on the rise, and it would be in your face and on the sidewalks except that now we have food stamps, so we don't have to look at the lines of people waiting outside soup kitchens like in the Great Depression. Still, 15% of the country depends on foods stamps.

For people who do have jobs, the quality of the jobs continues to decline, and if you were thinking about retiring, well, you probably are having to re-think your personal exit strategy. According to a recent Gallup survey, 37% of nonretired Americans claim that they will quit working after age 65. A decade ago, that percentage was 22, and in 1995, only 14% guessed they'd be retiring after 65. Is it possible that work is now more fulfilling for so many more people? Were so many employers discriminating against willing 65-year-olds a couple decades ago? Not likely. People are working longer to keep food on the table and a roof over their head.

Besides not having saved enough, today's would-be retiring baby boomers have more debt. The Census Bureau reports that from 2000-2011, the largest percentage increases in median household debt were in the 55-64 age bracket (up 64%, to $70,000) and the 65-and-over bracket (more than doubling, to $26,000). And while many were taking on more debt, median net worth (assets minus liabilities) for all age groups fell. In 2000, median net worth was $81,821. In 2005, median net worth had jumped to $106,585, before dropping to $68,828 in 2011 (in 2011 constant dollars).

In 1985 taxable money market funds were yielding 7.71%. A one-year CD was yielding 8.53%. Nowadays, CD's and money market funds offer rates that start with a decimal point. The Fed has been forcing people into the equity market and if you just don't have the stomach for stocks, you've been forced into the bond market.

The Fed's bond holdings alone have almost tripled since March 2008. And since last fall, the Fed has purchased mortgaged-backed securities and bonds by $85 billion each month. As a result, Fed's holdings in securities will amount to $4 trillion by the year-end of 2013. At the same time, the balance sheets of the big four central banks (the Fed, European Central Bank, Bank of Japan, and People's Bank of China) have more than quadrupled from $3 trillion to more than $13 trillion during the past half a decade.

As rounds of QE have pushed nominal interest rates below the rate of inflation in the United States, it was hoped that negative "real" interest rates would encourage lending and borrowing, and thus to stimulate economic activity. But this is growth by addiction, not growth by fundamentals.

Ben Bernanke knows this economy is not strong. This is no time to back away from trying to prop up the economy. Or as Bernanke said: “A premature tightening of monetary policy could lead interest rates to rise temporarily but would also carry a substantial risk of slowing or ending the economic recovery and causing inflation to fall further.”

Is the economy in better shape than a couple of years ago? Yes, but it's a little early to break into a chorus of “Happy Days are Here Again”. While economic growth has picked up, it remains anemic at 2.2 percent real GDP growth on average since the end of the recession in mid-2009. As long as the US is growing well below potential; about 2.2 percent since the Great Recession/depression, inflation risks remain low and disinflation is the new normal, which serves as a still another reason to keep interest rates low. A lot of people would like to press the idea that the economy is improving; Congress can keep ignoring the unemployment and equality crises and enjoy ginning up imaginary problems.

“The loss of output and earnings associated with high unemployment reduces revenues and increases spending on income-support programs, thereby leading to larger budget deficits and higher levels of public debt than would otherwise occur.” At least that's what Bernanke claimed in his recent testimony to Congress. Maybe Winston Churchill said It better: “Americans can always be counted on to do the right thing, after they have exhausted all other possibilities.”

A mythical recovery gives cover to a lot of irresponsible people hoping that Americans won't look behind the curtain.

Tuesday, May 28, 2013 - The Central Banks Grand Experiment, Continued

The Central Banks Grand Experiment, Continued

by Sinclair Noe

DOW + 106 = 15,409
SPX + 10 = 1660
NAS + 29 = 3488
10 YR YLD + .12 = 2.13%
OIL + .88 = 95.03
GOLD – 4.90 = 1382.40
SILV - .12 = 22.37

New record highs for the Dow, not for the S&P 500.

Last week there was considerable hand wringing and flop sweat about the idea that the Federal Reserve might pull back from QE. And you may recall that I told you that I didn't think so; we might see the Fed change the composition of the accommodative monetary policy in order to avoid particular asset bubbles, but they would not abandon a loose money policy; they might even try out some new tools.

The economic stagnation of the major developed nations has driven central banks in the United States, Japan, Britain and the European Union to take increasingly aggressive action. Because governments are not taking steps to revive economies, like increasing spending or cutting taxes, the traditional concern of central bankers that economic growth will cause too much inflation has been supplanted by the fear that growth is not fast enough to prevent deflation, or falling prices. The European Central Bank faces legal and political restraints that make it harder for the bank to imitate the other major central banks. It cannot finance governments, which limits its ability to buy any country’s bonds. Still, there has been a shift in sentiment from the ECB, including lower rates and a change in attitude away from austerity.

Both the Bank of Japan and the European Central Bank reaffirmed that their policies would remain in place. Yesterday, an executive board member of the European Central Bank said the policy would stay as long as necessary. Today, a Bank of Japan board member said it was vital to keep long- and short-term interest rates stable.

What are we learning from this global shift towards super-easy money? After years of sluggish or no growth, Japan is serving as the laboratory for this grand experiment in easy money economics. Last month, Haruhiko Kuroda, the new chairman of the Bank of Japan, steered the central bank toward a bold new policy of reinflating the Japanese economy by doubling the money supply. It is considered the boldest step so far by a central bank.

The good news is that the Japanese economy is recovering. The Japanese stock market is red hot. The bad news is that the austerity hawks and conservative pundits still want to see Abenomics — the economic policies put forward by Prime Minister Shinzo Abe on taking office last year — as a mere flash in the pan. More sizzle than steak. Yet despite some hiccups that sizzle now looks like turning into a full-fledged conflagration. Abenomics seems to be winning out against bad economics.

Perhaps the biggest mistake of the bad economists was failure to realize how much the yen depreciation triggered by Abenomics can benefit an economy. They like to point out how any boost to exporters is canceled out by losses to import-dependent industries. But even in Economics 101 we learn that currency depreciation benefits not just exporters. A large swath of domestic industries also benefit — everything from pig farmers and parts makers competing with imports to universities and tourist hotels seeking foreign customers.

It's still too early to declare a victory for Japanese easy money. Bank of Japan monetary easing urgently needs to be reinforced by  fiscal measures and new growth policies. To date, neither has offered much promise. The growth policies are not yet fleshed out and the austerity hawks are still able to kill any talk of serious fiscal stimulus.

The austerity people seem to see increased fiscal spending purely in terms of adding to national debt. But that really is bad economics. Well-chosen government spending can have multiplier effects that increase tax revenues as much as the spending increases. By the same logic, spending cuts can very easily end up cutting tax revenues to the point where the national debt increases rather than falls. This is especially true for Japan where rises and falls in asset prices strongly influence tax revenue.

In Japan, they've been dealing with a weak economy for so long, they've learned some of the moves that don't work. The spending cuts only pushed the economy into recessions. Tax revenues fall and stay depressed despite the later spending increases to counter those recessions. Increases in national debt are spectacular. During the Koizumi years when “structural reform” was supposed to save the economy, the national debt increased by a massive 200 trillion yen, an inconvenient truth ignored by the austerity hawks.

Some austerity pundits compare Japan’s economy to a broken engine that the Keynesian planners try vainly to spark into action with the “gasoline” of fiscal stimulus. The real problem is the exact reverse. Japan already has a fine well-oiled economic machine. What it lacks is the gasoline of demand. It has been running on empty, for years, one reason being the demand-killing repairs those pundits have tried to make to that allegedly broken engine.

The austerians do have one valid point. If, thanks to Abenomics, the economy does begin to grow, then eventually interest rates are bound to rise. This rise will force a large increase in the government spending needed to service national debt. Unless that spending increase is matched by rapidly rising tax revenues, debt levels will rise even more, forcing even more debt service spending, ad infinitum.

There is an answer to this, and it may be a part of the Japanese monetary experiment. It says that provided inflation is under control governments can ignore their central banks and simply print the money they need to expand demand and service debt.

How about here in the good old USA? Well, it's a mixed bag, but the latest survey of consumer-confidence climbed to a five-year high of 76.2 in May from a slightly revised 69.0 in April. Consumers are considerably more upbeat about future economic and job prospects. Higher stock prices, rising home values and falling gasoline costs have made Americans more upbeat. A lack of drama in Washington has also allowed consumers to regain confidence after several political disputes had threatened to harm the economy. The bad news is the politicians aren't helping. The good news is they aren't screwing things up, at least not this month.

And I have a follow-up to a listener who called in last Friday, asking about money laundering at the Vatican Bank. The Vatican Bank, officially called the Institute for Religious Works (IOR), manages an estimated $5 billion in assets for religious orders and Catholic charities. A private entity, its inner workings have long been shrouded in secrecy. Now, there are efforts to bring a new era of transparency to the bank. The head of the Vatican's new Financial Intelligence Authority, disclosed Wednesday that he had found six incidents of possible money laundering in the Vatican Bank from last year. Two of the incidents were considered to be serious enough to pass to the Vatican's prosecutor.

The Vatican Bank has a history of murky transactions, but in 2010 Italian authorities place the bank's CEO and president under investigation for money-laundering. After that, Pope Benedict initiated the Financial Intelligence Authority to clean things up. Maybe last week's announcement is a step in the right direction.

Friday, May 24, 2013 - Where the Puck Will Be

Where the Puck Will Be

by Sinclair Noe

DOW + 8 = 15,303
SPX – 0.91 = 1649
NAS – 0.27 = 3459
10 YR YLD - .01 = 2.01%
OIL - .38 = 93.87
GOLD – 5.20 = 1387.30
SILV - .24 = 22.39

The S&P 500 is now down for 3 consecutive days and the major stock indices posted their first negative week in more than a month. For the week, the Dow slipped 0.3 percent, while the S&P 500 and the Nasdaq each lost 1.1 percent.

The Federal Reserve left many people mildly dazed and slightly confused this week, what with Bernanke speaking before the Joint Economic Committee and the release of the FOMC minutes. It used to be easier to figure out the Fed; it was a fairly straightforward cost/benefit analysis of inflation versus employment and inflation was usually at the top of the list. Then all of the sudden financial instability suddenly became the main concern. So, people were rethinking monetary policy; probably thinking too much.

I don't think the Fed is ready to step away from its easy money policies, but they are likely to change the composition. Maybe a little less mortgage-backed securities purchases and a little more Zero Interest Rates; maybe they'll look toward some other areas altogether. How about jumping into the Muni-bond market? Or something else that might be a bit more direct? Maybe the Fed could make some direct injections of capital for infrastructure.

America has dropped in the World Economic Forum's global rankings of economic competitiveness for each of the past four years, falling from first in the world to seventh, in part because of its sagging infrastructure. Its global ranking in terms of "quality of overall infrastructure" has dropped from ninth to 25th in the world.

The American Society of Civil Engineers estimates that we are spending $157 billion less per year on infrastructure than we need to. And instead of ramping up that spending, we are slashing it. Infrastructure spending as a percentage of GDP has tumbled to its lowest level in at least 20 years. In March 2009 the country spent $325 billion on public construction; that amount has dropped to $258 billion.

It's still not entirely clear what caused I-5 bridge over the Skagit River in Washington to collapse Thursday night. Nor is it clear, despite media reports, how strong the bridge was before it broke. What is clear is that, had the state needed to repair it, getting federal money to do so would be an uphill climb. By the way,there are reportedly 750 bridges in Washington state that are in worse condition than the one that collapsed last night. The ASCE estimates there are more than 150,00 structurally deficient or functionally obsolete bridges in the country.

And bridges are probably not even the worst aspect of American infrastructure: The ASCE report card gives U.S. bridges a "C+" grade. Our aviation system, dams, levees, drinking water, waste water disposal, hazardous waste disposal, roads, mass transit, schools and energy systems all received "D" grades. The ASCE estimates that under-spending on infrastructure will cut $3.1 trillion from our gross domestic product by 2020.

Meanwhile, the bond market followed the advice of Wayne Gretzky; skate to where the puck will be, not where it is. In this case, it means that expectations for QE are just as important as actual QE. So if the Fed signals QE will continue at a slower pace than investors expected, it will ultimately buy less than expected and yields should go up. But what we really learned is that Fed policy is not set in stone. This isn’t that surprising; the Fed always reserves the freedom to respond to the data and hates feeling boxed in by market expectations. Yet trying to get the market to believe the path isn’t predetermined is probably futile. After all, the Fed will slow QE according to its view of how the economy progresses; or maybe they'll ramp it up again if the economy heads south.

And after all, we don't know which way it will go, because, after all, there is financial instability. And when I think financial instability, I think of the usual suspects – the banksters. As long as they're running the show, what could go right?

Wall Street Lobbyists are still plying their trade, rolling back finance reform, again. During a week where attention was focused on IRS scandals and AP scandals and whatever the scandal du jour, the banksters found bipartisan support for a series of deregulatory bills dealing with derivatives trading and the Commodities Futures Trading Commission and watering down the already soggy Dodd-Frank legislation.

The latest move involves wiping out a little clause that would have prevented bailouts for bankers playing with derivative swaps, specifically federally insured banks would have a safety net so long as the swaps gambling was done as a bona fide hedge, or in “certain structured finance swap activities” which means basically any trade they happen to make. Which basically means the bank lobbyists have now removed the threat of not getting a bailout if or when they screw up again.

And then they managed to push through the “Swaps Jurisdiction Certainty Act”, which basically says that they can move their derivatives trading operations offshore and not have to comply with US requirements on trading swaps. And then the lobbyists managed to wipe out requirements to provide some sort of transparency to prices and quotes on swaps, which means the derivatives markets will continue to operate with all the transparency of a black box.

What could go wrong? I'm sure we'll find out in the richness of time. And yes, the legislation working its way through Capitol Hill is bipartisan. The Republicans and Democrats can't agree on much but they can agree to sell out to the banksters. High minded political ideology tends to vaporize in the presence of campaign donations.

According to the New York Times, one bill that through the House Financial Services Committee, allowing more of the very kind of derivatives trading (bets on bets) that got the Street into trouble, was drafted by Citigroup -- whose recommended language was copied nearly word for word in 70 lines of the 85-line bill. The lawmakers who this month supported the bills championed by Wall Street received twice as much in contributions from financial institutions compared with those who opposed them.

And so far, not one single banker has been prosecuted for the actions that lead up to the country's financial meltdown. Remember the Occupy movement, those protesters who were ticked at all the damage done by Wall Street? Well, they haven't disappeared, but quite a few were arrested. Since September of 2011, approximately 7,736 Occupy protesters in 122 cities nationwide have been arrested. Earlier in the week a few hundred members of Occupy Our Homes, an organization supporting homeowners facing foreclosure, protested outside the Justice Department. Seventeen former homeowners were arrested.

Meanwhile, New York Attorney General Eric Schneiderman says there is more evidence that Bank of America Corp, Wells Fargo and other banks violated the terms of a settlement designed to end mortgage servicing abuses.

Schneiderman plans to sue Bank of America and Wells Fargo for failing to live up to their obligations under the deal, and now he says other states had found similar problems. The $25 billion settlement was brokered last year between five banks and 49 state attorneys general. The other banks are JPMorgan Chase, Citigroup, and Ally Financial. The banks agreed to provide relief to homeowners and comply with a set of servicing standards to atone for foreclosure misconduct.

In a letter to the monitor for the settlement Schneiderman says: "Several other states have identified similar recurring deficiencies by the participating servicers." In his letter, Schneiderman did not identify which other states had provided evidence of banks failing to abide by the settlement. Nor did he identify the banks with recurring deficiencies.

In Thursday's letter, Schneiderman said there had been "inordinate delays" in reviewing loan modification applications at Wells Fargo, so applicants had to resubmit documents. He cited evidence of piecemeal requests for additional documents in one modification application at Bank of America, and said more than three months passed without a request for more information or a decision on another application.

So, you're listening to this and probably thinking that the banksters are a little bit lousy but how does it really affect you. And besides, you're probably already planning you're Memorial Day barbeque. Turns out that Goldman Sachs is also thinking about the food on your plate. Last year, Goldman made an estimated $400 million from speculating on food. The World Bank estimated in 2010 that 44 million people were pushed into poverty because of high food prices, and that speculation is one of the main causes.

In 1996, speculators held 12% of the positions on the Chicago wheat market, with most of the market being made up of the legitimate users of food – from farmers to producers. But the legitimate hedging element of commodity markets has virtually disappeared in the intervening years. By 2011, pure speculators made up a staggering 61% of the market. Of course, Goldman Sachs isn't the only player, but it is certainly the largest.

For several years, it was hotly debated whether speculation in food commodities drives up prices. But the evidence now firmly says it does, and that there's little correlation between rising prices and actual supply and demand. There are now well over 100 studies which agree (pdf), from sources as varied and valuable as Harvard University, the Food and Agricultural Organisation and the United Nations; and it appears that food prices have less to do with supply and demand than speculation. The knock-on effect of increased speculation has meant price spikes are now more and more common. In November 2012, the World Bank declared a new era of food price volatility.

Thursday, May 23, 2013 - Premature Punch Bowl Withdrawal

Premature Punch Bowl Withdrawal

by Sinclair Noe

DOW – 12 = 15,294
SPX – 4 = 1650
NAS – 3 = 3459
10 YR YLD un = 2.02%
OIL + .01 = 94.29
GOLD + 21.80 = 1392.50
SILV + .36 = 22.73

Yesterday, Fed Chairman Bernanke delivered testimony before the Joint Economic Council and then the minutes from the most recent FOMC meeting were released. The Fed policymakers seem concerned about bubbles. Stock markets have been hanging out near record highs, the S&P is up about 15% year to date. Look back to earlier this year. The boring stocks led us higher. Your mega-cap, super-safe, dividend-paying names were the stocks to own. These stodgy companies sprinted higher for weeks. Safe became the new speculative.

Next, the rally broadened. First, it was short squeezes. Then, the rally focused on the more cyclical names. Energy stocks have found a second wind. Small-caps were. Technology names began pushing the market higher. Bloomberg reports that the most indebted US companies are rallying more than any time in almost four years compared with the rest of the market.

The bulls argue that stocks will keep going up,even if the Fed takes away the QE punchbowl; the argument is that there are record corporate profits. But then we have to ask why there are record corporate profits. The answer is the Fed's accommodative monetary policy. The Fed is effectively subsidizing earnings by providing cheap credit for the federal government. Government spending replaces paychecks as a source of income for consumers to consume. Corporations cut wages and operate lean and mean, and they report record profits. The top line, revenue, has been weak but it hasn't collapsed because the government has been providing just enough to keep the economy moving. The government provides income to citizens and they are still consuming.

Beyond that, corporations benefit from extremely low interest rates, which allows companies to refinance debt and pocket the difference. Or, in the case of Apple, they can borrow at extremely low rates, pass out the cash as dividends, and it's still cheaper than repatriating profits from offshore and paying the taxes. The debt to equity ratio for S&P 500 companies is now 57% above historical averages.

The Fed's accommodative monetary policy has allowed income to be detached from employment. Corporate America has been slowly and surely eroding its own customer base and the government has been picking up the slack with social safety nets. At the end of the day, a safety net is a stopgap measure, not a permanent solution. Without more jobs, without real income, the equity markets will eventually revert to lower valuations.

And so yesterday, Chairman Bernanke continued to beg for fiscal policy, or at least fiscal policy that doesn't embrace austerity. Bernanke has to be worried about the imbalances and he is aware the lesson the Great Depression taught many is that the principal symptom of internal economic imbalance was unemployment; a big enough problem to create a grand market failure. The equilibrium that economies find routinely is one where aggregate demand and output are not enough to ensure that the available labor force is working; that's why the Fed has a mandate of maximum employment, not just a target of 6.5% unemployment. The idea is to ensure internal balance by having the government increase spending, thereby boosting demand, which in turn, increases output, which means more jobs. It's a virtuous cycle. Except it isn't working quite like planned.

Apple is parking money offshore; same with GE, Starbucks, Google, and almost all of the big multinationals. Somewhere along the way, the idea of an economy that maximizes aggregate utility has given way to maximizing profits for a small minority who possess capital. And the idea of the government safety net being utilized to provide capital to increase consumer spending and crank up the virtuous cycle, well that is running into a brick wall in the form of austerity.

The pace, depth and breadth of the stock market rally is certainly not justified by economic fundamentals alone. Investors continue to buy because they are in a desperate search for returns in a low-return world and feel that cheap money will keep them 'whole' if they invest in risky assets, such as stocks.

Yesterday, Bernanke was asked a question that suggested the Fed's super loose, accommodative monetary policy might be creating asset bubbles, which might end very badly. Bernanke responded that “there's no risk free strategy right now.” And that risk is not restricted to the stock market. His all-consuming concern right now must be to avoid the kind of bond market carnage that was created in 1994 when the Fed raised rates unexpectedly, and I suspect that the debate within the FOMC is becoming much more heated with regard to how to achieve some scaling back of asset purchases without causing a similar bond market rout.

Bernanke started yesterday's testimony with prepared remarks by pronouncing: "a premature tightening of monetary policy could lead interest rates to rise temporarily, but would also carry a substantial risk of slowing or ending the economic recovery and causing inflation to fall further." It seemed a clear signal that the Fed would continue QE to infinity and beyond.

Then, in the Q&A session, he commented that the Fed could cut the pace of asset purchases "in the next few meetings." It seemed a complete about face.

So, we're back to watching the Fed's targets for inflation and unemployment. There are good economic arguments for inflation to become extremely sticky to the downside at these low levels; just over 1 percent. We'll keep an eye on the next few jobs reports, where good news could be bad news. Also, keep a look at global unemployment numbers. In 14 out of the 35 advanced economies covered by the IMF’s World Economic Outlook dated April 2013, the unemployment rate in 2012 was at its highest since 2007. In terms of jobs, in many countries the crisis is intensifying, not retreating.

The problem is not just that the incidence of unemployment is uneven across the advanced countries. It is also that it is extremely uneven across age groups, or more importantly, generations. The generation that has entered the labor force over the last five years is the hardest hit. These numbers are important because they represent systemic failure in labor, and the Fed can't operate in a vacuum with its monetary policy. It would be strange to see the Fed tightening, while the ECB is loosening. If you want to create problematic global imbalances, all it will take is a gear-shift by the US Federal Reserve and the inevitable dollar surge that follows. Remember that it was the Volcker Fed that set off Latin America's defaults in the early 1980s. It was the mighty dollar that set off Mexico's Tequila crisis, and then the East Asian tiger economies, chain-reaction in the 1990s.

Foreigners have pumped more than $8 trillion dollars into the emerging markets of the BRICS. European banks have lent another $4.4 trillion to the BRICS. If the Fed tightens, the dollar soars, the BRICS freeze, the defaults follow.

I'm not sure what the possible exit plan is for the Fed, maybe for now, it's nothing more than jawboning, trying to gauge the possible responses. So, there is widespread, deep-seated cynicism about the ability of democratic governments, once engaged in stimulus, to change course in the future. Ending stimulus has never been a problem; in fact, the historical record shows that it almost always ends too soon. What needs to happen before we start talking about ending stimulus is a good strong look at fiscal policy; the kind of policy that allows corporations to shovel profits offshore, and erode their long-term customer base in pursuit of short-term profits.

Global corporations have no allegiance to any country; their only objective is to make as much money as possible — and play off one country against another to keep their taxes down and subsidies up, thereby shifting more of the tax burden to ordinary people whose wages are already shrinking because companies are playing workers off against each other.

The total corporate contribution to federal revenue, including employers' share of payroll taxes, has dwindled from 32 percent in 1950 to about 17 percent today. Employer contributions to payroll taxes make the unfairness of the tax code slightly less unfair, but the trend is still clear and dramatic: Corporations are paying a lot less than they used to.

So, Tim Cook of Apple went before the Senate this week and explained the problem, and the problem isn't Apple; it's our tax laws. Apple is only doing what the laws allow. Apple and the other big companies are trying to lower their tax bill, and you would probably do the same thing if you were as big as Apple, and had a fiduciary duty to your shareholders. The problem is the laws allow them to keep billions offshore, which does nothing to create jobs in this country, which does nothing to repair infrastructure, which does nothing to create aggregate demand, which does nothing to crank up the virtuous cycle; which instead puts us on a downward spiral. When you hear outrage about the IRS scandal, don't get distracted; the real scandal shouldn't be whether some low-level IRS employees were taking shortcuts; the real scandal; the multi-trillion dollar scandal was on full display this week.