Thursday, September 6, 2012 - Free Money With Strings Attached

Free Money With Strings Attached

-by Sinclair Noe

DOW + 244 = 13,292
SPX + 28 = 1432
NAS + 66 = 3135
10 YR YLD +.08 = 1.67%
OIL - .67 = 95.82
GOLD + 7.90 = 1702.30
SILV +.44 = 32.81
PLAT + 10.00 = 1589.00

Pop Quiz.

Q: What does Wall Street love?

A: Free money.

The Standard & Poor’s 500-stock index jumped 2 percent by the close to its highest level since January 2008. The Dow Jones industrial average added about 244 points, or 1.9 percent. And the Nasdaq composite index gained 2.2 percent for its highest close since 2000. In Europe, stock market indexes closed with gains of more than 2 percent, with Spanish and Italian stocks up more than 4 percent. The DAX in Frankfurt added 2.9 percent. The FTSE 100 in London gained 2.1 percent.

Today, the European Central Bank announced they will launch a new and potentially unlimited bond buying program to lower borrowing costs for countries struggling with debt. The idea is to buy bonds with maturity of three years or less. ECB President Mario Draghi claims this is within the mandate of the ECB. Germany's Bundesbank reiterated its opposition to the plan. Draghi said the ECB would only help countries that signed up to and implemented strict policy conditions, with the euro zone's rescue fund also buying their bonds, and preferably with the IMF involved in designing and monitoring the conditions.

At a news conference, Draghi said: "Under appropriate conditions, we will have a fully effective backstop to prevent potentially destructive scenarios," and he indicated there are no limits on the size of the transactions. The bond buying program would not target specific bond yields. Spanish and Italian government bond yields have fallen significantly since Draghi said on August 2 that the ECB would buy bonds issued by Madrid and Rome. Again today, yields fell further after he announced the bond buying program.

Draghi also said the ECB was prepared to waive its senior creditor status on bonds it purchased - meaning it would be treated equally with private creditors in case of default. This was a little trick of the ECB during the Greek meltdown, where they basically jumped to the front of the line when it came time for payment. The central bank hopes that by removing private investors' concern about being paid back last in the event of a sovereign default, they will not be frightened by ECB intervention.

Draghi said all bond purchases would be "sterilized" by taking in an equivalent amount in deposits from banks to avoid any risk of inflation; think trash for bonds. The bond purchases have not started yet, and they might never get off the ground. Germany's constitutional court is scheduled to rule on the Euro Stabilization Mechanism rescue fund next week. Support for Mr. Draghi includes the German chancellor, Angela Merkel.

The German economy has already been dragged down by the downturn of the other euro-union countries. As much as Germans may complain about the less competitive indebted countries of the south, the costs to Germany of a euro collapse would be enormous. If Spain and Italy are shut out of the debt markets, the bailout funds are too small to bail them out. The cost of a bond buying program may be uncomfortable but the cost of a full fledged crisis and possible collapse of the euro-union is prohibitive.

Although the bond-buying program announced Thursday should reduce the pressure on Spain and Italy, if those countries choose to seek its protection, it will not solve the deep structural problems of the euro. The thinking is that it could buy time for the political leaders of the 17-nation euro zone to follow through on their past promises to back the currency with a more tightly integrated fiscal union and more disciplined oversight of national budgets.

And the bond buying plan is not guaranteed to succeed. The ECB deal is based on conditionality. Greece is the implied fate of anybody who dares to flout the rules. Greece hangs on the edge of being tossed from the euro-union while the country is increasingly being placed in an untenable position, which will almost certainly set it up for future failure. Part of the problem is whether Greece can be allowed to fail without destroying the union.

Marshall Auerback reports:

The eurozone creditors are now saying the Greek government must tighten the universal neoliberal screws even further by imposing a six day work week and perhaps reducing wages as well, as a condition for the Greeks getting another “bailout.” Of course, unemployment and underemployment in Greece are rising rapidly, so it is hard to see how extending the work week for the already employed can be the kind of “tough love” that will create an increase in the total number of jobs or improve the economy. In the creditor’s eyes, however, that is unimportant; the real problem is Greece’s dysfunctional culture of work and profligacy.

So the neoliberal policy solution for turning around the Greek economy is to improve the culture of work is to introduce a kind of debt peonage by taking the Greeks back to the 19th Century. And what happens when the six-day work week and wage reductions do not work, as they inevitably won’t? What comes next? Charles Dickens knew the answer — improve the culture of work by relaxing child labor laws to reduce wages further and/or privatize the Aegean islands, Delphi, and the Acropolis. No problem.

Greece, to be sure, has its share of self-inflicted economic problems, but austerity economics is pushing Greece into a death spiral. Europe is cutting its nose to spite its face as it converts one Eurozone economy after another into a barter state. The problem is that the renewed bond buying will be tied to the conditionality of yet more fiscal austerity, and Greece is being held up as the poster boy of what happens when you don’t comply with the conditions laid out by the ECB, or the Troika. In addressing the solvency issue, the ECB’s conditionality ironically will make the very “problem” of fiscal profligacy and higher government deficits much worse, as demand gets crushed by yet more austerity.

In other economic news, the Institute for Supply Management said its services index jumped to 53.7 last month from 52.6 in July. That beat economists' forecasts for a 52.5 reading. A reading above 50 indicates expansion in the sector. This follows a less than robust ISM manufacturing report on Tuesday.

Also today, we had a possible preview of tomorrow's jobs report. Initial claims for unemployment dropped by 12,000 last week to 365,000. ADP, the payroll processing company estimates nonfarm private businesses added 201,000 new jobs from July to August. The forecast for tomorrow's official jobs report is calling for an increase of about 150,000 jobs. The ADP report is not very good at actually predicting the official BLS report, but it suggests the number might be a little better than current guesses.

The data will also set the tone for monetary policy, ahead of the September 12-13 meeting of the Federal Reserve's policy board, the Federal Open Market Committee. Last week Fed chief Ben Bernanke laid out his case for the FOMC to take more action to boost the economy, citing the lack of progress this year on jobs and the rise in long-term joblessness.

Today the markets jumped higher on the prospect of the ECB passing out free money and the hope the Federal Reserve will pass out even more free money next week. Of course the buzz on the street from the central bank handouts is kind of like the buzz a little kid gets from eating too much sugar; it is fun for the moment but it wears off quickly. With respect to equity market levels, it doesn’t matter anymore. This isn’t the market we learned about in the past or what is described in the texts. Earnings don’t matter anymore, except for random stock picking, and then probably not very much after a few days or weeks of reduced stock prices. Structurally, the market only responds to liquidity and algo enthusiasm. What will sustain the markets moving forward? What will sustain the economy moving forward. Central bankers may be good at averting crashes; they may even be good at creating crashes, but what can they do to build sustainable economic growth? 

Wednesday, August 8, 2012 - Rogue Regulators, Central Bank Enablers, and a Jolt of Profit for Morgan Stanley

Rogue Regulators, Central Bank Enablers, and a Jolt of Profit for Morgan Stanley
-by Sinclair Noe

DOW + 7 = 13,175
SPX + 0.87 = 1402
NAS – 4 = 3011
10 YR YLD +.01 = 1.64%
OIL +.07 = 93.42
GOLD + .30 = 1613.60
SILV - .06 = 28.14
PLAT + 3.00 = 1414.00

The Dog Days Rally on Wall Street extended to day 4 but the dog is looking tired. The S&P 500 closed above 1400. The Nasdaq Composite closed above 3000 but finished slightly lower on the day. The volume was very light, so it's hard to find strong conviction in the rally; still it is a rally, or it was. The main driver seems to be the idea that the ECB will, in fact, do whatever it takes to prop up the Euro-union. Today, the Bank of England gave little indication that it would rush to pour in further stimulus even as it cut its forecast for medium-term economic growth in Britain. France's central bank forecast a contraction in growth going into the third quarter, citing weak demand from the periphery and Britain.


The strange case of Standard Chartered Bank just keeps getting stranger. The British bank has been accused by a regulator from New York state of doing business with Iran in violation of sanctions. The regulator has threatened the bank's charter in New York. The bank denies it did the dirty with the Iranians, or at least they deny they did as much as accused, maybe just a few million in deals but certainly not the billions they are accused of. So, now they have gone on the offensive, accusing the regulator of being a “rogue”. SBC chief executive Peters Sands said the accusations and possible revocation was "disproportionate" and came as a "complete surprise". One British lawmaker said the affair was part of a "political onslaught" in the United States against British banks; others described it as an anti London bias and a form of banking sector protectionism. 

This is actually a very bizarre case. You do have to wonder why the New York regulators would be so cruel as to single out Standard Chartered. Why SCB? Why now? Is there some darker, more nefarious reason for enforcing the law? I don't know what the reason might be; I can only recognize that any regulatory enforcement against a bank is an aberration. Maybe the New York regulator didn't get the memo; maybe the regulator didn't get the bribe. Any regulator that actually tries to enforce existing laws has undoubtedly gone “rogue”.  Yea, that's it, the regulator is the problem. There are many other banks that have done much worse and there has been no punishment whatsoever. So, you can see why the bankers at SCB are whining for being singled out. 

So, this is a pretty clear example of government over-reach and the assault on free market principles. Now let's get back to the reasons for the 4-day rally on Wall Street; there are problems in Europe and that threatens the US, and so the ECB and the Fed have indicated they will be standing by to provide accommodative policy, or maybe quantitative easing, and if there is one thing Wall Street loves, it is free money. Over the past few weeks, whenever the economy, either in Europe or here, seems to be showing signs of weakness, there are calls for free money from the central banks, a boost from the Fed, an injection from the ECB. The President of the Boston Federal Reserve Bank says he favors a bond buying program, and Wall Street rallies with the predictability of Pavlov's dog. ECB President Mario Draghi says he will do whatever it takes and the bankers can almost feel the free money being injected directly into their veins. Does this really help?

You might make the argument that the central bankers actions have helped avert a meltdown, but it really hasn't helped to correct the underlying, systemic problems with the economy. This is evidenced by the Fed's failure to achieve its dual mandate which includes maximum employment. Maybe the Fed passing out free money to Wall Street can't resolve what really ails America. All the free money tossed out of the helicopter didn't clean up the housing collapse; it didn't reform the tax code; it didn't maximize employment; it didn't raise the standard of living over the past 30 years; it didn't keep jobs from being outsourced; it didn't boost American competitiveness.

In Europe, the troika hasn't been able to create confidence in the monetary union, they haven't been able to improve growth prospects, they haven't been able to avoid a downturn that has destroyed Greece and threatens Spain and Italy, they haven't been able to quell the crisis. They have thrown trillions of euros at the problem and they have managed to staunch the bleeding but the fiscal problems of Spain and Italy are not resolved and will probably demand full blown bailouts, and there really isn't enough cash to buy the bonds needed to suppress a meltdown. Draghi promises to do  whatever it takes, but it will take at least a few more weeks. And that is part of the problem. The interventions have only served to drag out the problems, eliminating the sense of urgency, and so there has been precious little action on the fiscal side. The ECB is not the governments of the sovereign Euro-nations.

Likewise, the Fed is not the US government, and has proven itself to be a poor regulator to boot. With no threat of impending regulation and no enforcement of existing laws and regulations, the financial sector has wallowed in its own cesspool. The Libor rigging scandal and the London Whale trading losses and the Standard Chartered sanction skirting just show the bankers are still cheating, and gambling and taking excessive risks with other peoples' money, just like back in 2008, maybe worse. So why do we still think the proscribed course of action is for the Fed to shower more free money on Wall Street?

We will almost certainly see a form of Quantitative Easing in Europe in September; we'll see QE from the Fed before or after the election. It might result in another rally on Wall Street but it won't solve the underlying problems with the economy. Maybe Bernanke should follow the advice of Nancy Reagan and just say no. It would likely be a painful move. The banksters would whine, but it might go a long way to stop the Fed from serving as the enabler to Wall Street. And it might even push the politicians in Washington to do their jobs. 

Fat chance. 

And for those of you that think banks provide no value to the economy, I present the case of Morgan Stanley's contribution to the electric grid. KeySpan, an electric generator wanted to increase capacity but realized more capacity would lower prices and they couldn't cut capacity without losing market share to the competition, a company called Astoria Generating; and they couldn't buy Astoria without raising some anti-trust issues. This is where Morgan Stanley comes in. Keyspan entered into a swap with Morgan Stanley that effectively purchased the capacity of Astoria at $7.57 a kilowatt-month. Morgan Stanley then turned around and hedged that trade by entering into a swap that bought the capacity from Astoria for $7.07 a kilowatt-month. Morgan Stanley pocketed the difference, which worked out to about $22 million over three years. 

The deal allowed KeySpan to push up the price of electricity in New York, costing consumers an extra $300 million. Yesterday, a federal judge approved a $4.8 million settlement between the Justice Department and Morgan Stanley over accusations of price fixing in the electricity market. This means Morgan Stanley only profits by about $16 million, not including legal fees. You can see how this is a deterrent. 


The National Oceanic and Atmospheric Administration (NOAA) says July was the hottest month ever in the US, breaking the record that had stood since the Dust Bowl summer of 1936. The January-to-July period was also the warmest since modern record-keeping began in 1895, and the warmest 12-month period, eclipsing the last record set just a month ago. It was the fourth time in as many months that temperatures broke the hottest-12-months record.

The drought is the worst since 1956 and it will yield the smallest corn crop in six years, which has fed record-high prices and tight supplies. It would be the third year of declining corn production despite large plantings. The heat and drought feed off each other. You can deny global warming if you want but you might want to hedge that position. 

Tuesday, August 7, 2012 - Stay Dry My Friends!

Stay Dry My Friends!
-by Sinclair Noe

DOW + 51 = 13,168
SPX + 7 = 1401
NAS + 25 = 3015
10 YR YLD  +.07 = 1.63%
OIL - .22 = 95.23
GOLD + .70 = 1613.30
SILV + .22 = 28.20
PLAT + 6.00 = 1413.00


The head of the Federal Reserve Bank of Boston, Eric Rosengren, wants the Fed to undertake "an aggressive, open-ended bond buying program" that would stop only when the economy's growth rate accelerates and unemployment begins dropping. Last week, following the FOMC meeting, the Fed said it would "closely monitor incoming information on economic and financial developments and will provide additional accommodation as needed to promote a stronger economic recovery and sustained improvement in labor market conditions in a context of price stability.

So, that means the Fed will do something we just don't know what or when, but things would have to get much much better, otherwise the Fed is somewhat obligated to do something. The Fed's counterpart in Europe, the ECB is obligated to do “whatever it takes”. Mario Draghi, former Goldman man and now head of the European Central Bank, promised to do “whatever it takes” to save Euroland.

Whatever it takes, Mario Draghi didn’t seem to have it. Or maybe he did. The situation in Europe is so complicated it’s hard to tell. So, investors have been fearful one day and cheerful the next. At the beginning of last week they thought all was lost. Then, by the end of the week, stocks were rallying again. Draghi has secured a mandate for “unlimited open-market operations”, a far cry from the half-hearted and self-defeating bond purchases of the last two years. The ECB at last has a license to act with overwhelming force, like the US Federal Reserve. “Overwelming force” is what Ben Bernanke has; I think it means Bernanke has a printing press and he will use it. Draghi has finally figured out, he too has a printing press and maybe he understands the only way you can hold off a default is by promising to print an infinite quantity of cash. And you have to mean it. If speculators see you haven't printed enough, they sell your bonds, fearing that you will default. Then, other speculators buy them at low prices, betting that you will print more of whatever it takes. Then, when you do print more, prices soar and the speculator sells the bonds back into the market, and the whole process repeats itself, until you finally default.

No sooner had some astute Euro commentators noted that Draghi might have found a path to keep the Euro-crisis patched up long enough to impose austerity on the periphery and drive the Euro-zone into an outright depression, various elements of his plan look as if they were coming unglued.

The German press suggests the commitments to bond buying, both from German pols and from northern central banks ex the Bundesbank, are qualified: only near term maturities (less than two years) and only in limited amounts (“limited” has not been translated into a particular number, it appears). Yet the media seems to think quite the reverse; that Draghi is going to engage in unlimited bond buying. After denying for months that Spain will require anything resembling a sovereign bailout, Madrid hinted that it could take up Draghi’s conditional offer of buying short-term debt. Unlimited bond buying by the ECB would surely soon follow, or so the Financial Times seems to think, but unlimited bond buying might lead to a revolt by the northern bloc. Unless the Euro melts down completely, it does not look like they will give the ECB what it wants quickly or easily. Draghi may be a victim of his own success in jawboning. He’s driven down short term yields enough that Spain feels less anxious about access to markets, plus its next bond sale isn’t until October. Italy has already said that it won’t ask for funds before Spain. That was what Draghi wanted, to keep everything on hold until at least Sept. 12, when the treaty allowing the establishment of the ESM will presumably be signed by the German president, German constitutional court willing, but too much complacency on the part of Spain and Italy is not seen as desirable because it won't push the northern bloc to act. Too much complacency and the Germans won't be snookered into the deal; for a deal to take place, there must be a sense of desperation, the stench of fear must fill the air. 

Bill Gross, the head of the bond giant Pimco writes, “Investors get distracted by the hundreds of billions of euros in sovereign policy checks, promises that make for media headlines but forget it’s their trillions that are the real objective. Even Mr Hollande in left-leaning France recognizes that the private sector is critical for future growth in the EU. He knows that, without its partnership, a one-sided funding via state-controlled banks and central banks will inevitably lead to high debt-to-GDP ratios and a downhill vicious cycle of recession.” I think what Gross is saying is:“Psst…investors: Stay dry my friends!” 

Yesterday I told you about Standard Chartered, the old British bank that has been playing with the Iranians despite sanctions that say they can't do that. The head of New York State's Department of Financial Services accused the bank of hiding 60,000 secret transactions worth $250 billion over nearly a decade. Shares in Standard Chartered closed down 16.4 percent at 12.28 pounds, taking their losses to 24 percent since the news surfaced; they've lost about $17 billion in market value. 

According to New York authorities, one of StanChart’s group executive directors, when warned by a colleague of potential criminal liability, responded: “You f—ing Americans. Who are you to tell us, the rest of the world, that we’re not going to deal with Iranians.”

What makes this especially rich is the 2010 advertising campaign aired by Standard Chartered; this was during a time when the New York regulators say SCB was making the US  financial system vulnerable to terrorists, weapons dealers, drug kingpins and corrupt regimes – while SCB was wheeling and dealing with the ayatollahs, here is the text of their commercial:
Can a bank really stand for something?
Can it balance its ambition with its conscience?
To do what it must. Not what it can.
As not everything in life that counts can be counted.
Can it look not only at the profit it makes but how it makes that profit?
And stand beside people, not above them.
Where every solution depends on each person.
Simply by doing good, can a bank in fact be great?
In the many places we call home, our purpose remains the same.
To be here for people. Here for progress. Here for the long run.
Here for good.

Last week, Standard Chartered PLC Chief Executive Peter Sands told analysts that “our culture and values are our first and last line of defense.”  If their values were their last defense, then their goose is clearly cooked. 


Last week we had the harmonic convergence of Central Bankers: the European Central Bank, the Bank of England and the Federal Reserve Board all held their policy meetings nearly simultaneously. The Euro-zone and the UK are in a depression; the US never really got out of the depression. The central bankers all decided to do nothing, at least for the moment. They all restated their unbreakable resolution to do “whatever it takes” – to prevent a breakup of the euro, in the case of the ECB, or, for the Fed and the BoE, to achieve the more limited goal of economic recovery. But what exactly is there left for the central bankers to do?

They have essentially two options. They could do even more of what the Fed has been doing since late 2008 – creating new money and spending it on government bonds, in the policy known as “Quantitative Easing.” Or they could admit the policies of the past three years were not working, at least not well enough. And try something different.

There is, admittedly, a third option – to do nothing, on the grounds that public bodies should stop interfering with the private economy and instead leave financial markets to restore economic prosperity and full employment of their own accord. This third idea is based on the economic theory that if governments and central bankers leave well enough alone, “efficient” and “rational” financial markets will keep a capitalist economy growing and automatically return it to a prosperous equilibrium after occasional hiccups. This theory, though still taught in graduate schools and embedded in economic models, is implausible, to put it mildly, especially after the experience of the past decade. It is based in part on the flawed notion that markets are free, when the reality is that free markets are as prevalent as pink unicorns  In any case, experience shows that the option of government doing nothing in deep economic slumps simply doesn’t exist in modern democracies.

So, back to the drawing board; Plan A, Quantitative Easing.  Maybe QE might still help in the euro zone, since the ECB is the only entity that can guarantee that Italy, Spain and France will not go into a Greek-style default. QE has had limited success.

So far the Fed has created $2 trillion or maybe more and the money that was created out of thin air has vanished into thin air. Where has all this new money gone? It has certainly not appeared in my wallet or bank account – nor has it fattened yours,  unless you happen to be a bond trader or banker. The fact is that all the new money has been spent on buying bonds. QE has inflated bond prices and boosted bank profits, but achieved little else. Mortgages are cheaper but harder to get; CD's pay nothing for savers. 

The one economic benefit of QE has been to help governments finance the huge deficits without having to raise taxes or to cut public spending. Yes, it might have been worse without QE but QE has failed to stimulate employment or economic growth. Think Japan. New rounds of QE would likely just stagnate, while discouraging other, potentially more  more effective stimulus measures.

Instead of giving newly created money to bond traders, central banks could distribute it directly to the public. Technically such cash handouts could be described as tax rebates or citizens’ dividends, and they would contribute to government deficits in national accounting. But these accounting deficits would not increase national debt burdens, since they would be financed by issuing new money, at zero cost to government or to future generations, instead of selling interest-bearing government bonds.

Giving away free money may sound too good to be true or wildly irresponsible, but it is exactly what the Fed and the BoE have been doing for bond traders and bankers since 2009. Directing QE to the general public would not only be much fairer but also more effective.

Suppose the new money created since 2009, instead of propping up bond prices, had simply been added to the bank accounts of all citizens; $2 trillion of QE could have financed a cash windfall of $6,500 for every man, woman and child, or $26,000 for a family of four. 

Distributing money to the general public was the one solution that united Milton Friedman and John Maynard Keynes. Their main difference was that Friedman proposed dropping dollar bills out of helicopters, while Keynes suggested burying pound notes in chests that unemployed workers could dig up. I know that passing out money directly to citizens sounds crazy, but then no economists have seriously suggested distributing money exclusively to bond traders and bankers – that would be insane, it clearly would not work,  but that is exactly what we have been doing. 

Thursday, August 02, 2012 - ECB Does Nothing - Jobs Tomorrow - Dust Bowl Today

ECB Does Nothing - Jobs Tomorrow - Dust Bowl Today
- by Sinclair Noe


DOW – 92 = 12,878
SPX – 10 = 1365
NAS – 10 = 2909
10 YR YLD -.06 = 1.48%
OIL – 1.58 = 89.27
GOLD - 11.80 = 1589.30
SILV - .31 = 27.23
PLAT – 12.00 = 1391.00


So, last week, you might recall the stock market had a nice little two day rally based largely upon European Central Bank President Mario Draghi claiming within his mandate, he would do whatever it takes to preserve the euro; which turns out to be not so much. Draghi doesn't have a bazooka, or even a pea shooter.  Yesterday, the Federal Reserve did nothing as they concluded their FOMC meeting. Today the ECB and the Bank of England did nothing. Perhaps Bernanke did not want to take center stage away from Draghi today. Could the Fed be playing it close to the vest, keeping their fingers crossed hoping for good employment numbers on Friday? 


For whatever reason, Bernanke is unwilling to try to kick start the economy with more stimulants. Why is he hesitating?  Maybe he’s more scared that additional Fed maneuvers won’t have any real effect than he is scared of a deflationary depression. Maybe he’s more scared that new twisting will have no economic effect. The last thing Bernanke wants is the point of recognition where the Fed is seen to no longer have any effective tools.


If Bernanke actually unleashed QE3 and the market didn’t rally or worse, sold off, he would lose face.  Maybe Bernanke is afraid another round of QE will destabilize prices; maybe he thinks prices are about to be destabilized anyway with the drought hitting both food and energy prices, and sucking the last morsels of resolve and confidence from consumers. Maybe the Fed is afraid of the law of diminishing returns.


Whatever the reason, the Fed did nothing yesterday. And then today, Draghi the ECB wrapped up a policy meeting and announced they would leave interest rate targets at 0.75%. And the ECB will draw up plans in the coming weeks to make outright purchases to stabilize stressed euro zone borrowing costs. Draghi seemed to imply that before the ECB did any buying in the secondary market, a country would have to have approached the euro zone bailout funds for funding and met strict conditions imposed by those institutions. He also conceded that the Bundesbank isn't really on board yet. Actually, Draghi is saying that he is trying to put together a very substantial bailout deal but it won't happen immediately. Of course, the markets were whining for instant gratification. And so there was a sell-off. The euro slipped down to $1.217.


Mohamed El-Erian, the chief executive officer of Pimco, said the world economy is suffering its severest slowdown since the recession ended in 2009.  El-Erian predicted global growth of 2.25 percent over the next 12 months. That’s down from 3.9 percent growth last year. So, the pressure is on the ECB and the Federal Reserve, and maybe they are just waiting, holding onto their ammunition for what they know will be a difficult battle.


Tomorrow's jobs report numbers? Look for a gain of 100,000 new net jobs and for the unemployment rate to hold steady at 8.2%. Actually, the estimates have been slipping from about 110,000 to low range guesses of 95,000. 


The problem of long-term unemployment is an ever increasing threat. There is the very real possibility that the jobs problem could fall into a closed loop from which there is no exit; workers are idled because companies won't hire; companies won't hire because  they can't find a market for what they make; there is no demand for what companies make because the workers aren't working and have no income to spend. It is a form of market failure. Yes Virginia, markets are fallible. And on top of that we have dysfunctional government. If we don't break the loop, it could get ugly. 


Yesterday, algorithmic trading programs went crazy and started trading like drunken bankers. The NYSE halted trade on about 150 stocks and then canceled some trades, but not all trades. The biggest problems were with computers at Knight Capital.  Knight messed up and caused disturbing dislocations and huge volume spikes; within an hour, order had been restored. Knight blamed the mess on faulty software. I said there was a good chance Knight Capital really took a bath on the trading glitch. They did. They lost about $440 million on bad trades. Share price has dropped from more than $10 to less than $3. If the problem is high speed trading, the only way you'll stop it is to let them fail if they screw up. This software glitch has started a debate about the market being more efficient at punishing errors than any regulators. It is a flawed argument. The question is not whether we need regulators, it is whether we need firms like Knight Capital that are basically high frequency traders, scalping pennies off every trade, and providing no discernible value.




On July 10, the city council of San Bernardino, voted to seek bankruptcy protection.  Today, the city officially filed for Chapter 9 bankruptcy. The San Bernardino County sheriff’s office announced a criminal investigation of the city on July 12, apparently looking into “allegations of criminal activity within departments of the San Bernardino city government.” But for now, the city will keep on keeping on as they try to figure out how to pay their bills. All the vital service bills will continue to be paid; city services are running. The only difference is that they're going to start charging a 25 cent royalty for saying the name San Bernardino as a way to pay down debt. I'm already up to a dollar. Let's move along.


The worst drought in 56 years is just getting worse; above-normal temperatures and almost no rainfall parched corn and soybean crops across the Midwest and central Plains. There has been some light, scattered rains but not enough to save most crops, and another buildup of heat is expected next week in the central and western Midwest. More than two-thirds of the country is under some level of drought; one-fifth of the country is dealing with extreme drought. The drought intensified in most major farm states, including Illinois, Nebraska, Kansas, Missouri and Iowa, the top US corn and soybean producer, as temperatures were 5 to 10 degrees  above normal and rains were largely scattered and light.


Crop condition ratings for corn and soybeans have dropped to the lowest levels since the major drought of 1988. The six-state US South region, which includes major cattle and wheat producers Texas and Oklahoma and top rice producer Arkansas, was about 24 percent under extreme drought, up from 21 percent the prior week. A portion of the Texas and Oklahoma panhandle region was classified under exceptional drought along with nearly 45 percent of Arkansas. On Monday, the high temperature hit 111 degrees in Little Rock, Arkansas. That was a new all-time record for July 30th, and it was the third-highest temperature ever recorded in Little Rock.


In the last three months alone, wheat prices are up 41 percent, corn is up 29 percent and prices for soybeans are up 17 percent. Money manager Jeremy Grantham issued a report today claiming we are "about five years into a chronic global food crisis that is unlikely to fade for many decades, at least until the global population has considerably declined from its likely peak of over nine billion in 2050. The somewhat Malthusian assumption is that food production needs to jump by 60 to 100 percent by 2050 to adequately feed caloric intake of the 9 billion-plus people.  


The latest surge has been caused by horrific drought conditions in the Midwest of the United States, but Grantham believes bigger forces than drought are at work here and these price increases are only the beginning. Along with surging demand for food from a rapidly increasing global middle class, Grantham cites falling grain productivity, tainted water, rising costs of fertilizer and fuel, as well as climate change, as reasons for the seismic move to come. The smart move is to buy farmland with a good source of water, and then develop a sustainable, renewable source of energy.


The lights are on again in India, following a massive blackout that left more than 650 million people without electricity. While the exact cause of the collapse will emerge in the next few weeks, it's clear that these outages were due to the basic mismatch of supply and demand. Large power outages can happen anywhere, of course, but India is unique in its dependence on seasonal rainfall.
This year's monsoon season, especially in Northern India, hasn't provided the water that the region's farmers need for their crops. Less rain means that farmers need to pump more water. 

Wednesday, August 1, 2012 - The Fed's Gone Fishing - The Machines Take Control - The Check is in the Mail

The Fed's Gone Fishing -The Machines Take Control - The Check is in the Mail
-by Sinclair Noe


DOW – 37 = 12,971
SPX – 4 = 1375
NAS – 19 = 2920
10 YR YLD +.05 = 1.54%
OIL + .71 = 90.38
GOLD – 14.80 = 1601.10
SILV -.56 = 27.54
PLAT – 20.00 = 1403.00


The economy has slowed down over the past few months; I know it; you know it; the Federal Reserve knows it; anybody who can fog a mirror knows it. And so, it was widely anticipated the Federal Reserve would acknowledge the slowdown today as they wrapped up a two-day FOMC meeting. They did. They issued a statement saying:  “economic activity decelerated somewhat over the first half of this year. Growth in employment has been slow in recent months, and the unemployment rate remains elevated.” 


And then they did absolutely nothing. The did not extend their Zero Interest Rate Policy into the next millennium and beyond; they did not cut the interest they pay member banks for not making loans; and they did not announce another round of quantitative easing. Nobody seriously expected QE3 but it was expected the Fed would make some small, incremental concession. Nope. They did nothing. Squat, zilch, zip, nada. They couldn't even throw a dog a bone. Generally they expect inflation to be under control and employment to slowly improve just a smidge, and apparently Bernanke is going trout fishing in Wyoming. They promised to keep an eye on things; if it goes to hell in a handbasket, they'll reel in their line and go back to printing money. Maybe the Fed will come up with a new program at the Jackson Hole meeting in late August, after they catch their limit of rainbow and cutthroat along the Little Snake River; maybe at the next FOMC meeting in September; maybe they're just waiting on the ECB; maybe they've figured out they can't change anything; maybe they just wanted to see if we're still awake and cognizant that the Fed is continuing with Operation Twist – which is the current Fed money printing scheme. 


Friday we'll find out whether the Fed needs to wrap up their fishing trip early or merely restock the Winnebago. We got a hint at the Friday jobs report from the ADP National Employment Report showed private employers created 163,000 jobs in July, more than the 120,000 that had been expected though slightly less than June's 172,000. The economy has been cutting public sector jobs and the ADP report usually varies from the monthly report by about 50,000 jobs. So, it looks like the economy added about 110,000 jobs net; that's not enough to lower the unemployment rate from 8.2%.

Here in the USA we never really made it out of the depression; the share of American 18- to 24-year-olds who were employed fell to 54 per cent last year, the lowest since the labor department began tracking data in 1948. The share who are in college has risen, but the researchers say this only partly explains the drop. The jobless rate for Americans age 16 to 24 is above 16 per cent, more than twice the national rate. I get weary making the argument that we are still in a depression. Youth unemployment  is a global problem yet it is unique in the US where we have high youth unemployment capped off with excessive student loan debts. We've shackled an entire generation and I'm guessing the results will be unpleasant. 


We're still stumbling along but the Federal Reserve is sanguine; or maybe the Fed is double dog daring  Congress to actually do something;  or maybe the Fed is finally admitting that QE is a failure at creating jobs. It would be more efficient to just send out checks to everybody. Better yet, just spend the money on infrastructure improvements. I know, a public works bill is the job of Congress but they have proven they are dysfunctional morons, incapable of anything other than gathering up campaign contributions. How do you think we can best create jobs?  Whatever idea you have it is probably better than anything coming out of Congress and it is certainly more than anything offered up by the Fed, which is, as I said: zero, zip, nada, zilch, and ZIRP. 


Tomorrow we'll see if the ECB will do whatever it takes to preserve the Euro-Union. Greece and Spain are in outright depressions. Things are rapidly getting worse in Spain. Bond yields have risen to over 7.5% today. The region of  Valencia has apparently failed and now needs help from Madrid. The region of Catalonia has canceled paychecks for about 100,000 public sector workers. In line with this bad news on the state of the government coffers, the price has increased for a form of  insurance policy, or a credit default swap, against Spanish default. Investors’ views of Spanish companies are just as gloomy as of its government finances. The Spanish stock market, as measured by the IBEX 35, is down 30% this year; the Spanish economy isn't going to lift itself up by the bootstraps. If Draghi was bluffing about doing whatever it takes, there will be problems. 


Meanwhile, the computers became self aware this morning and they took control from their human masters. The machines rose up and started trading stocks, and they were even worse at this task than their human counterparts. The humanoids at the New York Stock Exchange looked on with flabbergasted amazement and helpless bewilderment as hundreds of millions of stocks were traded between computers. They claim it was a technical glitch at Knight Capital, not a flash crash or a Facebook fiasco, just a glitch; an algorithmic syncopation gone sour. Trades that had been triggered during the glitch were canceled, at least some were canceled. There is a good chance that Knight Capital really took a bath on this glitch. And if ever there was a reason to reign in the high frequency traders, this was a good reminder. 


Yesterday, before the machines took over Wall Street, Bill Gross, the bond king from PIMCO declared stocks were a Ponzi Scheme and the cult of equities is dying or dead. The reasoning is if stocks appreciate at  about 7% a year forever, while GDP only grows at about 3%, the stock market will soon be worth more than the entire world. I guess this just proves that the machines have good reason to take over.


Meanwhile, the US Postal Service is broke, busted, and in default. The Postal Service failed to make a $5.5 billion Congressionally mandated payment to cover health care costs for future retirees. At post offices around the country, everything will function normally. Postal trucks will be on their routes, and the mail will get delivered.


Six years ago Congress mandated that the USPS start pre-funding health benefits for current employees for the next 75 years, and it told the postal service that it had to set aside at least $5.5 billion or more a year to do so.  And for a while, the post office was able to make those payments. So far the post office has set aside more than $20 billion in the pre-retiree fund. But in the past few years mail volume has declined rapidly and the Postal Service has had a hard time keeping going; they built up a $25 billion dollar deficit, but the big financial problem is setting aside retirement funds for 75 years into the future, literally paying for the retirement of workers that haven't been born yet. 

Tuesday, July 31, 2012 - Waiting on Godot, Draghi, Bernanke, DeMarco, the Flood, and For The Lights to Come Back On

Waiting on Godot, Draghi, Bernanke, DeMarco, the Flood, and For The Lights to Come Back On
-by Sinclair Noe


DOW – 64 = 13,008
SPX – 5 = 1379
NAS – 6 = 2939
10 YR YLD -.01 = 1.49 
OIL – 1.78 – 89.89
GOLD – 7.00 = 1615.90
SILV - .18 = 28.10
PLAT + 1.00 = 1421.00




We wrap up the month of July. Let's look at the scorecard; for the month, the Dow Industrial gained 128 points; the S&P 500 index gained 17 points; the yield on the 10 year treasury note dropped 9 basis points. 


S&P Case Shiller index of home prices rose  2.2% in May. All 20 cities in the index saw monthly gains. On a year-over-year basis, prices are down 0.7% nationally, the smallest fall in 18 months. Phoenix prices have climbed 11.5% - the strongest in the nation, while Atlanta’s have dropped 14.5%. Meanwhile, Corelogic reports there were about 60,000 completed foreclosures in June, down from about 80,000 in the same month last year. According to the report there were roughly 3.7 million homes lost to foreclosures since  2008. 


Ed DeMarco, the acting chief of the regulator for Fannie and Freddie, the Federal Housing Finance Agency, said in a letter to the top Republican and Democrat on the Senate Banking Committee that “after much study,” he has concluded that Fannie and Freddie’s participation in the Obama administration’s program to cut the amount owed by underwater borrowers would “not make a meaningful improvement in reducing foreclosures in a cost effective way for taxpayers.”


Treasury Secretary Tim Geithner criticized the decision in a response letter, writing: “I am concerned by your continued opposition to allowing Fannie Mae and Freddie Mac to use targeted principal reduction in their loan modification programs.” Roughly 56% of all US mortgages are owned or guaranteed by Fannie and Freddie and about 11 million homeowners owe more than their properties are worth. Geithner said in his letter that allowing Fannie and Freddie participation in the White House principal-reduction program could help up to half a million homeowners and result in savings to the two mortgage giants of $3.6 billion when compared to other loan-modification programs. Geithner added that the Treasury’s estimate is based on FHFA’s own analysis which was provided to the Treasury. There is even a Treasury program that provides subsidies to investors of 18% to 36% of the amount forgiven depending upon the loan value. 


One might wonder why DeMarco is being so intransigent. You might further wonder why the administration doesn't just fire him. Turns out he's the head of an independent agency and he can't be fired. And then, even if he resigned, the administration would have to make an appointment which would have to be confirmed by the Senate.  In any case, deciding whether debt relief is a good policy for the nation as a whole is not DeMarco’s job. If households can't get help repairing their balance sheets, then the recovery, such as it is, will be even slower. Banks got the help they needed with their balance sheet problems, but households have not received as much attention. There is simply no way that it makes sense for an agency director to use his position to block implementation of the president’s economic policy, not because it would hurt his agency’s operations, but simply because he disagrees with that policy. This guy needs to go. 




The Commerce Department reports personal spending fell less than 0.1% in June. Spending for May was revised down slightly to a 0.1% decline. It’s the first time consumer spending has fallen two straight months since early 2009, near the end of the last official recession.


Personal income rose 0.5% last month , mainly the result of employees working longer hours. Incomes increased by at least that amount in four of the first six months of 2012 after doing so only once last year.


What’s more, consumers had significantly more buying power in June than they did at the start of the year when inflation is factored out. Real disposable income, or money left over after taxes, has increased 1.7% over the past 12 months, largely because of lower gasoline prices.


So, that means people were spending less and saving more. The savings rate increased to 4.4% in June, up from 4% in May, and up from a two year low of 3.2% last November. 


Meanwhile, the Conference Board's consumer confidence index rose to 65.9 in July, the highest level since April, and up from a revised 62.7 in June. This is not a sign of strong confidence, because that would be readings closer to 90. Still, the report indicates there was greater confidence about short-term business and employment prospects. 


In Washington DC, House and Senate leaders managed to do the unthinkable; they agreed on something, and they struck a deal to fund the government for six months. The deal sets a funding level of $1.047 trillion; in other words, they raised the debt ceiling and the government is expected to hit its $16.4 trillion debt limit, or debt ceiling, sometime after the November elections. The deal will have to be approved before the end of September. And then there is still the issue of the fiscal cliff, which refers to expiring tax cuts, automatic spending cuts, debt limit increases and other year-end deadlines. 


Unless Congress and Obama can reach a deal by January 2 on a new formula for deficit reduction, $109 billion in spending cuts, also known as sequestration, will fall into place as a first down payment on more than $1 trillion in spending cuts over a decade. Those are to be divided equally between defense and domestic programs. The automatic spending cuts are the result of a deficit-reduction deal struck last August by Obama and Congress that also raised Treasury Department borrowing authority to avoid a credit default. Congress would like to replace the automatic spending cuts with a series of more targeted, well-thought-out reductions and/or revenue increases. Lawmakers are hopeful they can revisit the matter.


This is the backdrop for this Friday's monthly jobs report. Most estimates are calling for a gain of 110,000 jobs in July, compared with 80,000 net new jobs in June. 


And Federal Reserve Federal Open Market Committee, or FOMC is meeting today and tomorrow to try  to figure out what they can do to fulfill their dual mandate of price stability and maximum employment. The price stability part has been under control lately. Inflation is right in line with Fed expectations, a little below targets actually. The economy grew at a feeble 1.5% clip in the second quarter and unemployment remains stuck at 8.2%. Job growth has only averaged 75,000 per month in the second quarter. Fed officials have indicated that this pace is unacceptable. But the unemployment rate doesn't tell the whole story. For example, the national unemployment rate doesn't take into account people who want to work but haven't looked for a job in the previous four weeks because they figured none were available. The national unemployment rate also doesn't account for people in part-time jobs who would prefer full-time work. The U-6 unemployment rate includes under-employed, marginally employed, and long-term unemployed; that rate stands at 15.3%, but in California, the U-6 is 20.3% and in Nevada the rate is 22.1%. Clearly the Federal Reserve is a failure when it comes to maximum employment. 


So what will the Fed do? The widely anticipated move is “not much”. Look for the Fed to announce they are willing to extend the ZIRP, the Zero Interest Rate Policy. There might be a move to reduce payments to banks for holding excessive reserves with the Federal Reserve. Yes, the Fed pays the banks to NOT lend money.  That might change but the Fed might just sit back and wait. 


Wait for what?  They might be waiting for Godot, or possibly Draghi. The European Central Bank is also holding meetings this week and ECB President Mairo Draghi has promised to do whatever it takes to protect the Euro-union. There is a chance we could see a bond purchase plan announced by the ECB; there is a chance we could have a big coordinated convergence of central banks all cooperating and working together as an irresistible force. But don't count on it; more likely, small, incremental steps. The more news comes out, the more it looks like Mario Draghi’s pledge that the ECB would do all it would take to save the Euro was a bluff. The best guess is that he hopes to appease the market gods until September 12, when the German Constitutional Court will render its decision on whether the “permanent” rescue mechanism, the ESM, is permissible. 


While Draghi will likely dither as long as he can, Spain is heading for insolvency as big chunks of debt come due later this year. Events are moving fast. The relevant issue is no longer whether this will happen, but whether it is better for Spain to restructure its debt inside or outside the Euro-union.


Inside the euro and without financial resources, a debt reduction is pointless. The Spanish economy would have to go into deepening internal deflation, with cuts in prices and salaries, to restore competitiveness. This is impossible, or at least improbable. What we know is that the Spanish economy is contracting and unemployment is crazy high and it is foolish to expect the Spanish people to put up with this much longer. Outside the Euro-union, the Bank of Spain would be able to act as a lender of last resort again and eliminate the risk of future debt restructurings. The country would at least have a sporting chance of avoiding protracted depression. Or maybe there will be a Euro-zone rescue, with attendant austerity. Nothing is preordained at this point, except if Spain leaves the Euro, then the union isn't worth a hill of beans. 




Hundreds of millions of people have been left without electricity in northern and eastern India after a massive power breakdown. More than half the country was hit by the power cuts after three grids collapsed - one for a second day. Hundreds of trains have come to a standstill and hospitals are running on backup generators. In Delhi, Metro services were halted and staff evacuated trains. Many traffic lights in the city failed, leading to massive traffic jams. In eastern India, around 200 miners were trapped underground as lifts failed, but officials later said they had all been rescued. The internet, banks, hospitals, and businesses of all sorts were closed. Electric service is being restored and fairly quick, but the outage has been a huge embarrassment for the Indian government and has revealed the infrastructure is a mess.


The same could be said for the  infrastructure in the US. By some estimates the US electric grid will need more than $2 trillion in investments over the next 20 years. 


Just last week, the Alliance for American Manufacturing issued a report that recommends a two-part solution. First is restoring America's infrastructure lifelines: its electrical grid, its public water and sewer systems, its railroads and dams. And second is doing it with American-manufactured steel and concrete, glass and aluminum; all American components and all American labor.


The result would be a nation more capable of fending off and recovering from natural and man-made disasters. And it would be a nation with a stronger economy based on a solid manufacturing base.


The Preparedness report was written by two security experts. One is Tom Ridge, the former Republican governor of Pennsylvania and former head of Homeland Security. The other is Robert B. Stephan, a former Assistant Secretary of Homeland Security for Infrastructure Protection.


Conclusions:
"The American way of life is dependent upon a vibrant economy, the existence of which is based upon a skilled work force, innovation and a world-class critical infrastructure. Much of this critical infrastructure is vulnerable to attack, catastrophic weather events and obsolescence and deterioration. Immediate national security, preparedness and economic needs require an equally strong domestic manufacturing base which, for many reasons, has eroded over the years."


The Preparedness report warns of depending on foreign sources for recovery:


". . .we can no longer rely on global suppliers - many of whom may not have our best interests at heart at a time of crisis. . .or come to our rescue in the midst of an emergency."


Critical to both psychological and physical recovery, it says:


"is a robust, diverse and resilient domestic manufacturing sector. In fact, there is a direct nexus between a strong domestic manufacturing sector and America's ability to prevent, mitigate, recover from and rebuild quickly in the wake of catastrophic events."


Ridge and Stephan devoted a whole section of the Preparedness report to the threats to dams and the nation's water supply. These are vulnerable to both natural and terrorist-caused disasters. And they're already in poor shape, receiving a D grade in a review by the American Society of Civil Engineers (ASCE). Dams, the ASCE said, need more than $50 billion in repairs.

The ASCE recommended in 2009 that the nation invest $2.2 trillion to repair critical infrastructure. Americans want that work, with unemployment stuck at 8.2 percent. And America needs that economic development. And it's never been cheaper to raise the money. 




Over 60% of the nation is in some form of drought. Areas affected include West Texas, North Dakota, Kansas, Colorado and Pennsylvania, all of which are part of the recent boom in North American energy production. That boom is possible partly by hydraulic fracturing or fracking. Fracking uses lots of water. Energy production uses more water than agriculture. The drought is now pitting oilmen against farmers. The farmers used to sell water to the oilmen; now they can't afford to sell, and the oilmen can't drill without the water. 

Monday, July 30, 2012 - A Convergence of Central Bankers

A Convergence of Central Bankers
-by Sinclair Noe


DOW – 2 = 13,073
SPX – 0.67 = 1385
NAS – 12 = 2945
10 YR YLD -.05 = 1.50%
OIL - .11 = 89.95
GOLD – 1.70 = 1622.90
SILV +.39 = 28.28
PLAT + 5.00 = 1422.00


This week features a convergence of central bankers: the ECB, the BOE, and the Fed; toss in a jobs report to finish the week and the fate of the global economy hangs in the balance. Maybe, maybe not;what we can say is that the game of kick the can down the road is running out of road. A quarter point rate cut from the ECB will not satisfy anybody. ECB President Mario Draghi has promised to do whatever it takes; now he is being put to the test. Germany will be required to step up; the ECB will be required to function as a global central bank and throw off its limitations. If Draghi and the ECB can't control the downward spiral of the debt debacle in Spain and Italy, the entire global economy could start to crumble. Too dramatic? Consider China, India and Brazil are facing slower economic growth and a broken credit cycle; the US is facing the prospect of a fresh round of QE or some other tool to lift us out of a downturn – and let's not even spend time today on the fiscal cliff. 


The International Monetary Fund issued this warning:  “the euro area crisis has reached a new and critical stage … raising questions about the viability of the monetary union itself. The adverse links between sovereigns, banks, and the real economy are stronger than ever.”


So far, we've seen the playbook of how not to rescue the Euro-zone. Draghi tried a trillion dollar lending program directly to the banks; the idea was for the banks to buy sovereign debt; the results resembled a drowning man flailing in the water and dunking the lifeguard sent to rescue him. The ECB has set up various funds, such as the ESM and the EFSF but those bailout funds haven't been funded; it is hard to take them seriously. Hedge funds know how much funding the rescue funds hold, and they are willing to push the limits. Underfunding is just like handing over a bet to the hedge funds. So, one idea is to really fund the rescue funds. We'll see. 


Spain and Italy will need about $1.5 trillion dollars over the next couple of years but the problem is that the money doesn't really exist. Germany will be asked to step up but there might be some hesitation; call it bailout fatigue in Germany, Holland and France. Germans would not have joined the EU without assurances that their hard-won prosperity would remain in their control. The idea of a "transfer union" has loomed large in the German psyche for years, and not in a good way. Likewise, there are limits to the discipline Spain and Italy might be willing to accept from the German paymasters; Greece has already reached its limits. 


Today, US Treasury Secretary Tim Geithner met with German Finance Minister Wolfgang Schauble and then they issued a statement: Both expressed confidence in Euro area member states' efforts to reform and move towards greater integration. They discussed the considerable efforts undertaken by Spain and Italy, to pursue far-reaching fiscal and structural reforms. 


Both the ECB and BOE will release their policy prescriptions Thursday. Draghi has promised he'll do whatever it takes. He has vowed that action is coming and we should believe him – it will be enough. Now we hear that whatever Draghi up his sleeve will likely take a while to implement, at least a month, maybe more. And we're most likely talking about bond purchases; which does nothing to solve the fundamental economic problems. Spain has unemployment of more than 25%.  Bond purchases will not create new jobs. Draghi has done better at resisting the austerity hawks than his predecessors. Europe needs to reverse its austerity policies, to take shared responsibility for dealing with the legacy debt of its weaker members, and to turn the ECB into a true central bank. None of this is likely to happen. Draghi does not have the leverage or the will to reverse Europe's larger economic systemic flaws and prevent a slide into depression.




What this means is that the Euro probably won't disintegrate this week. The central bankers have an uncanny ability to kick the can down the road for much longer than it seems possible – it's what they do.


And then on Friday, we get the monthly jobs report. Net hiring likely rose by about 110,000 last month. It is modest but it is still a positive number. The biggest source of economic growth is consumer spending, but Americans have cut back over the past few months. The latest reading on personal spending and income, released Tuesday, is expected to show barely any increase at all in July. The economy cannot grow much faster until businesses step up hiring, but companies won’t add workers unless customers boost purchases of their goods and services. The result: a shackled economy unable to break free and expand rapidly and unemployment hovering around 8.2%. 


Of course, part of the Federal Reserve's mandate is for maximum employment. So, what is the Fed going to do to help the jobs picture? The Federal Reserve is holding a two day meeting this week. Will they make some announcement, such as a reduction in what they pay member banks to park excess reserves? How about a pledge to keep rates in the zero range until the cows come home? Will that be enough? Will it actually change the jobs picture? Probably not. So the Fed will likely hold off on major stimulus such as more asset purchases, to get a better sense of whether the economy is in a soft patch or in deeper trouble.


There is no clear consensus on how the central bankers will respond. It seems increasingly likely that the ECB and the Fed will not act with bold moves and only the disappointment will be big.  Policy makers are predisposed to incrementalism. Most problems will fade away or self-correct if they are ignored. Policy makers always assume that they can do more if needed, but they can never undo what they’ve already set in motion. The IMF says the problems in Europe will be prolonged and costly – in other words, the banks will be sucking money out of the economy for as long as they can get away with it.  Political compromise naturally leads to small steps. That is usually true, remarkably and infuriatingly true – right up until the instance it fails. 










It is my sincere hope that one day we will be able to see the banksters repent for the wrongs they have committed and then go forth and sin no more. Today, the Hong Kong and Shanghai Banking Company was repenting. HSBC apologized for  "shameful" systems breakdowns that failed to stop the bank from laundering money for terrorists and drug barons as it set aside $700 million for potential fines in the US and another $1.3 billion for mis-selling financial products in the UK.


The bank insisted that those responsible for the rule breaches in the US and Mexico had left the business and that bonuses had been clawed back from staff who allowed billions of illegal dollars to be funneled through the financial system. The bank is also caught up in the Libor rigging scandal but did not make a provision for any potential fine or legal cases.


Edward Yardeni of Yardeni Research in this week’s Barron’s:
“The problem with banks is that they tend to blow up on a regular basis. That’s because bankers are playing with other people’s money (OPM). They consistently abuse the privilege and shirk their fiduciary responsibilities. Whenever they get into trouble, government regulators scramble to bail them out first and then scramble to regulate them more strictly. Without fail, the bankers respond to tougher rules by using some of the OPM to hire financial engineers and political lobbyists to figure out ways around the new regulations.


“...banks are the Achilles’ heel of capitalism. They really do need to be regulated like utilities if their liabilities are either explicitly or implicitly guaranteed by the government, i.e., by taxpayers. Banks should be permitted to earn a very low utility-like stable return. Bankers should receive compensation in the middle of the pay scale for government employees, somewhere between the pay of a postal worker and the head of the FDIC. It should be the capital markets, hedge funds, and private-equity investors that provide credit to risky borrowers instead of the banks.”

Thursday, April 26, 2012 - Everybody Loves Free Money

Everybody Loves Free Money
- by Sinclair Noe


DOW +211 = 12,887
SPX + 22 = 1360
NAS + 39 = 2893
10 YR YLD +.02 = 1.43%
OIL +.02 = 89.41
GOLD + 11.30 = 1617.10
SILV + .20 = 27.64
PLAT + 5.00 = 1411.00


Pop Quiz: What do Wall Street bankers love? Free money. They swoon at the prospect of  money being redistributed from taxpayers to bankers. You might say they are socialists, in this regard; if redistribution of wealth is your definition of socialism. This morning European Central Bank President Mario Draghi declared "the ECB is ready to do whatever it takes to preserve the euro...and believe me, it will be enough."


We don't know the details. Draghi wasn't actually handing out euros to the bankers, but the idea is that there will be a European version of Quantitative Easing, possibly a direct bond purchase program.


The euro rallied against the dollar. European stock exchanges jumped. Commodity prices jumped. The Yield on Spanish and Italian bonds dropped. Yields on German and US bonds rose as prices dropped. And US stocks moved higher. The ECB announcement was a put, a floor under the markets. For bankers and traders, the announcement flicked the switch to “risk on”, because even if they lose money, the ECB will just print more. Draghi opening the door to a Bernanke-style monetary policy in Europe is a big deal -- at least for the financial markets. This sort of stimulative policy does a poor job of circulating money through the broader economy. 


Still, the market was excited about the prospect of “whatever it takes” even though various Euro-technocrats have been saying “whatever it takes” for three years now, and apparently it takes more and more with less and less results. Draghi’s comments today could be a signal of more action; the ECB meets next week. Maybe Draghi has something else up his sleeve. He said: “believe me, it will be enough”; we'll see. 


Treasury Secretary Tim Geithner testified before the House Financial Services Committee yesterday. Representatives mentioned the fact that  Geithner had four years, and meeting after meeting, to bring the Libor issue to Congress’ attention and it just wasn’t done. When Geithner ran the New York Federal Reserve Board, they failed to inform US regulators that they had an admission of guilt from a Barclays employee that the Libor was being rigged. The Commodity Futures Trading Commission and the Justice Department had to build their case without the direct evidence of rigging that Geithner and his staff knew all about.


Geithner claimed in testimony that he did everything he could, saying: “We took the initiative to bring those concerns to the attention of the broader U.S. regulatory community, including all the agencies that have responsibility for market manipulation and abuse.” Time will tell but right now somebody's story isn't matching up with the facts. 


Also, it is worth noting that the House of Representatives yesterday voted to pass a bill that would audit the Federal Reserve. The House passed similar legislation from Representative Ron Paul back in 2009; then as now the bill couldn't and won't make it past the Senate. Dr. Paul's website states: “The Fed was created by Congress and remains subject to full oversight and regulation by Congress — up to and including abolishing it altogether!” No question the Congress has the authority. It's a shame there isn't much enthusiasm for real transparency. 




In the early spring this year, US farmers were on their way to planting some 96 million acres in corn, the most in 75 years. A warm early spring got the crop off to a great start. We were on track for one of the largest corn harvests on record, but the corn plant is sensitive to heat and dehydration. As spring turned to summer the temperatures increased and the corn crop decreased. Drought afflicts 86% of the Midwest; and the drought is worsening in the South, which was just recovering from last year's drought - the worst Texas had seen in a century. Almost 30 percent of the Midwest was suffering extreme drought, nearly triple from the previous week. More than 53 percent of the United States are in moderate or extreme drought or worse -  the worst in five decades. 


The US Department of Agriculture says the drought will push food prices 3 to 4 percent  higher next year. Milk, eggs, beef, pork, and poultry prices will all be affected as the drought has already pushed feed prices higher. Farmers started out the season anticipating a record 14 billion bushel corn crop. The drought is expected to cut production by roughly 3 billion bushels. Corn and soybean futures hit record highs last week on the Chicago Board of Trade. Prices fluctuate with every passing rain shower, if there is one, but corn prices are up 20% from March 1; soybeans are up 22% and wheat is up 36%.


Normal grocery price inflation is about 2.8 percent a year. The USDA kept its projected food price increase for 2012 steady at 2.5 percent to 3.5 percent, saying average retail food prices were flat for the first half of 2012 thanks to unusually low fruit and vegetable prices as well as lower prices for milk and pork. Poultry prices are expected to increase quickly. Beef and dairy prices will likely increase next year as farmers start to cull herds. Milk prices might climb by as much as 10%. The new forecasts are the agency's first food price projections to factor in the drought.


Feedlots are the second largest consumer of corn. The Department of Agriculture estimates that forty percent of the corn grown last year was used to produce ethanol, a result of a federal mandate to increase the amount of corn-based ethanol used in the nation’s gasoline supply. So, the cost of the drought will be felt at the grocery store and also probably at the gas pump. 


Farmland values are ultimately correlated with population growth and the growing demand for grains, meats and other foodstuffs. Farmland has turned into a hot alternative vehicle among institutional investors like Harvard University and TIAA-CREF. The reason is simple; the Federal Reserve, or the ECB, can print more money, but there's a diminishing supply of farmland. It's a stable source of value and usually a stable source of income. 


Despite the farming boom and growing concerns there may be a farmland bubble in the Midwest, there has been less attention paid to the escalating cost of inputs that have become part and parcel in conventional agriculture—fertilizer, herbicides, pesticides, GMOs and fuel. According to the USDA's Economic Research Service, yields increased 30% between l989 and 2009. Meanwhile, the cost of inputs tripled during the same 20-year period.  And then there is the giant problem – the drought. 


While you might think drought related crop failure would be catastrophic for crop farmers, the truth is that most are not going to be affected or may even profit as a result of taxpayer subsidized insurance. When the last major drought hit in 1988, 25 percent of farmers had crop insurance, while this year 85 percent do And the program is designed so that the larger the losses for insurers, the greater the share of the payouts the government will pick up. And as prices go up, the payout to farmers goes up, so a complete crop failure means a big payday. 


In 2011, with a drought in Texas and other weather woes, government-run crop-insurance programs paid out a record $10.8 billion. Of premiums paid in 2011, farmers chipped in $4.5 billion, while the government paid $7.4 billion. Because of the program's reinsurance rules, insurers made a $1.7 billion profit even with those record payouts, while the government took an underwriting loss of about $500 million. Despite the insurance, there are still losses associated with the drought, but most farmers will still have seed money for next year.