Category Archives: US

The Debt Chickens Are Coming Home to Roost

A story it today’s Us print edition of the financial times highlights a building ‘bubble’ of disquieting proportions. The article, ‘Britain’s Pizza Chain Boom Faces Debt Reckoning’, highlights how a large number of restaurant chains have been snapped up over recent years using debt. This might be by a private equity firm or a leveraged buy-out. In either and other cases, many acquisitions were executed using cheap debt which was facilitated by central bank policies such as near-zero interest rates and quantitative easing (QE), both of which massively distorted the price of corporate bonds and debt. Add to this public policy and pressure on banks to increase loans to help drive growth, you can see signs of a perfect storm.

The UK example is specific, but the problem is wide and applicable to most developed economies. The US has just come off a long-run marathon of high and record levels of corporate acquisitions, again much funded by cheap debt. There must be many organizations hanging by a thread, just waiting for interest rates to nudge up resulting in unsustainable debt burdens and interest payments. Unless growth drives the top-line of these businesses at a faster rate, the chances are many such firms will go to the wall.

This situation was created as an unintended consequence of near-zero interest rates for such a long time and massively price-distorting quantitative easing. Though most governments have ceased buying sovereign and corporate debt, the damage is done. Massive, trillion dollar, balance sheets at central banks need to be unwound in such a way as again, not upset the market. The act of creating the balance sheet did upset the market. In reducing their balance sheets, central banks will do it again.

And the sad part about all this, as it will play out? Smart investors with lots of money and a high risk-tolerance will hedge against such business failures and reap huge rewards. The rich investor-class will get richer, and the poor will just lose their jobs or otherwise miss out. Politicians will have a field day, calling out the failure of capitalism. Of course, it’s not a failure of capitalism since central banks and their policies are not part of any capitalist model: central bank operations are closer to a socialist model where the few take decisions to ‘help’ the many, as if they know better and how to help us.

Oh well, such is life. Just buckle down and wait the storm. The debt chickens will soon be home to roost. Maybe not by this Easter but expect them home by next year.


Of Guns and Data

I compare two phenomena that are unrelated: the US and their guns and the Europeans and their data.

See Digital privacy rights require data ownership and Mark Zuckerberg apology: ‘I’m really sorry that this happened’.

The mass shootings in America are terribly sad.  The US is wracked with grief periodically and at the same time an inability to address the primary cause – guns are part of the way things are in this country; and access to them remains an big issue.  Guns are accepted, even respected, and are encoded into the country’s psyche via the Second Amendment.

At the same time many Europeans and others can’t understand the logic.  Many other counties have banned many kinds of firearms in their wider populations and such counties suffer far fewer mass shootings.  As such, those folks can’t get their heads around the argument for protection of the second amendment.  It is like two speakers in front of each other and neither understanding the other.  I have stood on both sides and seen the gap.

While in London, UK, this week I watched the frenzied coverage in the media about the Facebook data exploitation by Cambridge Analytica.  It seems, if one understands the story, that a vendor or app explored a loophole that came about due to a lapse in forward thinking by Facebook some time ago.  It seems the gaps have since closed, but the data trove had already been taken.

In Europe GDPR is big news: some recent surveys by Gartner showed that spending on governance related data and analytics initiatives have increased significantly in the last two years in the UK (as the example), far in excess of US spending habits.  The European media is incensed at the lazy attitude of American firms: how could they have allowed such a use of data without citizen consent?  The media is painting the US as Luddite-like for not realizing the obvious and for not reacting earlier to protect consumer data.  The US, at the current time, is reacting but more so in terms of the Facebook stock price rather than in media incredulity.

Even though there is no connection between guns and data, the intensity of the emotional response on both sides of the pond to each issue is palpable and an almost mirror image.  I have sat on both sides in each case and it is fascinating to observe.

One wonders if the US will ever adopt its own GDPR-like rules.  Harmonizing with the EU would be a logical and likely beneficial step, at some point.  Simplicity of equivalent rules would make business and IT costs bearable.  Should the US respond with different rules over time, costs will likley escalate as rules start to overlap and conflict.  But there are no signs the US – at a federal level – will seek anything like GDPR.  I just wonder if some enterprising, populist politician won’t pose a stalking horse.  I guess someone will, and of course it won’t survey engagement with reality.  But it might presage the first of many such attempts to test the popular perception.  Over the long haul, will the popular feeling converge with those of Europe?

As to the second amendment; I don’t think anything will change on that front for a long time.  It is a political argument – one steeped in a time long past when citizenry needed to arm itself from rampant enemies in the forests, and the possibility of a corrupt government.  Since democracy seems to be alive and very well, I am surprised that the Second Amendment has survived as long as it has.  But what do I know?

What Will Go Wrong in 2018?

James Mackintosh of the Wall Street Journal posts in today’s US print edition on “The 3 Things That Can Go Awry in 2018“. The article details three dynamics that, if played out as he suggests, could cause the global economy to trip in 2018. His summaries are good and compelling and, given our amazingly positive outlook today as 2017 comes to a close with all major nations growing at roughly the same time (an odd occurrence in its own right), they come at a good time to consider conservative actions against possible shifts next year.

The three are:

  1. Monetary Tightening. The story here looks at Fed and central bank interest rate hikes. We all know that interest rate raises have started, at least in the UK and US, even though the EU remains firmly stuck taking that drug. Japan is taking it slow, even as its economy shows much signs of improved life – Japan will have to continue pushing rates up in 2018, just as the EU will have to follow the US’s lead. The problem with this item is that there are us a lot of debt out there – corporate debt, public debt and yes, some consumer debt. It is not the same kind of debt that was part of the run-up to the crash that put us where we are today, but for some firms and some governments its big risky debt. As an example, and tangentially related, another article in the WSJ reports on a few firms that are high in debt that will be financial impacted by Trump’s tax reform – see Tax Plan Downside for Dell, Others in Debt. A lot firms have issues debt in the last few years in response to QE and near zero interest rates. As rates increase, debt load and repayments will increase. If inflation were to join the party, it could be a messy time for a number of firms and governments.
  2. China. This story has been used before since China has been the source of two recent periods where the US stock market (in fact the global stock market) fell by about 10%. As such, China’s management of its economy – shifting from a producer-based to consumer-based economy – is a major challenge. Debt remains a problem, and capital controls and currency exchange rates just add more menu items for Chinese leadership to wrestle with. Should China sneeze, so the saying goes, we would all fall could of a cold or something worse. Worse, there is no coordination between east and west – so we are somewhat at the behest of the Fed and People’s Bank of China – and we all hope they do the right thing. Of course, they will both do the right thing for their own constituents – or try to. Hence the lack of cooperation.
  3. A Correlation Correction. This for me is the more interesting and most likely issue to blow up in 2018, and it is the least talked about in the press since it is not as well understood. Mr. Mackintosh states, “one reason investors hold bonds is to cushion losses in a stock-market downturn.” This approach has worked for quite a while, as prices have diverged short-term all the while converging over the long-term. The risk is that should inflation appear in 2018 the relationship between stocks and bonds may revert to how it was in the 1980s and early 1990s, with rising bond yields being bad for share prices. The problem for me is that I think inflation will rise in 2018 to just levels that this will be the catalyst for change in the markers. If you read the tea leaves, there is ample evidence of a change underway. Many commodity prices are doing very well. Copper prices are, as an example, reportedly at recent high’s due to increased production. If you look at producer prices in the US, they are inching up now over 3%. Even though wage pressures remain subdued, the pressure is building. Though participating rates for males in the US aged 25-54 are at near all-time lows, yes the employment rates seems low and may go lower, but there remains some slack to take up the growth we will see. But that pressure is there. I think that by the second half of the year, certainly by Q3, US inflation forecasts will show that 3.5-4% are on the horizon. This won’t cause a panic, but it will lead the change and correction that will come. On top of this the author suggests that the Fed may just “give in” to the needs to cap the bloated asset prices we see all around us, to nip the bubble before it becomes unsustainable. Trump’s tax deal will push this peak out a year or two, but the dynamics are in play.

Reading between the lines you can see that all three of the authors ideas overlap and intersect. Inflation is mentioned directly in 2 of the 3; growth is everywhere; public policy too. As such he has hedged his bets and tried to call out the category of challenge. I will try to break the triggers into more simplistic sections.

As such, I give the following percentage probability for each driving a correction by the end of 2018:

  1. Monetary Tightening, most likely US led, due to over heating: 15%
  2. China growth, debt to currency issues: 28%
  3. EU or euro-zone debt or banking crisis: 15%
  4. Inflation-driven policy changes: 22%
  5. Japan public debt or growth challenges: 10%
  6. Emerging Market currency or debt issues: 5% (this one won’t trigger in isolation but might follow from one of the others, namely 1, causing a currency drain)
  7. Significant War triggering financial panic: 5%

Trouble for The Eurozone with Trump’s Tax Deal

There was an excellent Opinion piece in today’s Wall Street Journal that calls out the less thought through implications of Trump’s domestic tax deal on international business. The piece, US Tax Reform Has Europe Worried, by Joseph C Sternberg, explores the writings of a German research group that details some thinking suggests some organizations will think twice about new investments in Europe – specifically Germany – with the new US corporate tax rates being leveled. The research piece is from ZEW and is here: Germany loses out in US Tax Reform. This is another dimension not modeled by US economists when they try to determine the impact of the tax reform on US growth.

The more important point however in Mr. Sternberg’s piece comes toward the end of his excellent article. The author suggests that US tax reform highlights a different opinion for taxation from an ideological perspective. This point needs to be talked about more since we have lost our Mojo for ideology in favor of a left-right populist dichotomy. The US reform is being used to alter tax incentives to drive growth, investment and job creation. Most of Europe, with is more socialist (and Democratic-leaning) policies, uses tax incentives mostly as a redistributive process for sharing an assumed pie. There is much less effort in driving growth or influencing investment to grow jobs. This is the dialog we had in the 1980s and it leads to the dialog about big government versus small government.

It is about time ideology got a fair crack again!

One small picture says it all

Standing about 2-3 inches tell and 1-2 inches across, a small chart in page A6 of this last weekend’s Wall Street Journal, sums up our economic predicament. The article, Japan Firms End Yearslong Price Freezes, reports that a growing number of businesses are reporting that labor shortages and increasing demand are leading to price increases. The chart shows a pleasing, gradual but clear rise in prices in Japan over the last year, now approaching 1%. This is important.

Though 1% inflation sounds measly for Japan it could be a short-term boon. The nation has been bedeviled for over 20 years with meager growth, stagnant wages, and tepid productivity growth. In fact some economist suggest that Japan’s fall from economic grace that preceded the West’s financial crisis of 2007, demonstrated early what would happen in a deflationary economy with massive quantitative easing. QE did not drive Japan’s economy to growth; it does not seem to have done so in the west, though it may have saved it from crashing and now we see how it’s persistence has led to financial and investment dislocation.

The news all around us is quite positive:

  • Most recent quarterly GDP in US was restated up to 3.3%, almost unimaginable a year ago.
  • EU economic growth rates are forecasted to grow above their recent meager levels in recent OECD reports
  • ‘Currency war’ reports appear in the press infrequently, even though global trade remains torn by the idea that the US wants a stronger negotiating position (for what is, essentially, a very small part of the US economy).

But inflation remains stubbornly low almost everywhere. If Japan soon demonstrates ongoing growth in inflation, and global commodity prices push up, the result will be a wave of input price increase around the world. Some months later the US and more clearly the EU will see producer price increase and so consumers may see pass-through increases. This will encourage central banks to continue their march toward normality.

The downside with a return to inflation: Debt servicing becomes more onerous as interest rates increase in response to inflation increases. As such, governments and businesses that stocked up on cheap debt during QE and the near-zero interest rate period will have to squirrel away more cash to pay their interest charges. This will reduce what’s available for investment, thus slowing down growth.

The cycle feeds on itself so it can sometimes stabilize or other events can kick it into maddening swings. We will just have to see what happens. It may depend on how fast inflation growth returns. But for now, that little picture on page A6 looks very nice in a chilly autumn morning.

The Inconvenient Truth About Charlottesville 

The cout detat continues apace as the establishment, the democrats and an increasing number of republicans continue to resist Trump.  Charlottesville and its aftermath was just what the doctor ordered, in the eyes of the left.  Their arch-enemy was in trouble no matter which way he leaned.  But I have to tell you, after reading the Opinion piece by Holman W Jenkins Jr., in Saturday’s Wall Street Journal, the whole things stinks.  See The Extremist Show is Just Starting.  It seems that the Democrats control the city where the application for the Charlottville demonstration,  against the removal of a civil war statue, was made.  Why didn’t they turn it down?  Did they deliberately set the whole thing up?  

But reading on we find that the democratic city members who voted to remove the Robert E Lee status have all left office.  Two didn’t seek re-election; one did and lost; and one had to leave his teaching job under a cloud due to a “history of bigoted, anti white tweets”.  It seems, according to the article, that the removal of the statue was not a popular item.  It was only popular with a small number activists groups.  The author of the opinion piece lists some of these activist groups and their background is less than savory and full of trouble making social media or principles.  The whole event seems to be a prefect set up by a number of clever inviduals who might have staged the whole thing.  It’s just too prefect and unlikely to have happened without careful planning – on both sides.  And this is the point that the mass media don’t want to talk about.  It takes two to make a fight and both sides turned up looking for that fight.  Yes, Trump took the middle road as Obama did and as explained in “Trump follows Obama’s example of moral equivalence“.

So after reading this opinion piece was I left with sour taste.  It seems that the establishment is gearing up for hard work against President Trump.  Those on the extreme right need to watch their actions.  They may end up falling for the bait and thus damaging the very think they perceive helps their cause (even though Trump does not).  The coffee was strong but with such a sour taste I had no option but to go to the tread mill for an hour to get my frustration out.  

It was wonderful to watch the preceding Friday to listen to Scott McNealy talking sense on CNBC’s Squawk Box.  He took Andrew Ross Sorkin to town over the mass media mess.  He explained to Mr Sorkin that everyone in their right mind stands against Nazis and extremeists – Trump included – and to use the argument of the change in tone, or the sequence of speeches the president made, as an proof he was defending Nazis is stupid.  Mr Sorkin was taken aback and not able to get his point over since he was pushing the establishment’s arguments.  See the video here. Mr McNealy affirms that Trump did not say or imply that any Nazis or white supremacists are “fine people”.  Trump was referring to the likehoood that on both sides, there were some there who were going to protest peacefully and some others were going to peacefully protest the protesters.  But Trump’s words were construed since it played into the establishment’s plans.  The cout detat is gathering space.

My Second of Three: The Lies of Communism and Capitalsm

Three articles came across my desk yesterday – and I noted them with a blog on the first concerning Trump/Obama.  Today my “second of three” looks at a comment by Martin Sanbu of the Financial Times, titled “From Lenin to Lehman – the big lies“.  Let me restate the lies Mr. Sandbu explains.

Communism promoted two lies:

  1. A society organized by communism would lead to widespread equality trough collective purpose.
  2. Central planning would lead to a more efficient economic system

These two lies came crashing down as we all know.  We are all human, and despite our best efforts, when you put some of our number in charge of others, they tend to pay themselves for the pleasure.  Absolute power corrupts absolutely.  The second lie took a while longer to fail but some economists nailed it.  We are all enterprising and creative individuals that seek to improve – that is a natural tendency.  Communism flew in the face of this and ignored a basic human need.  It also created a massive information problem.  The economy is so big that no amount of method or information can be gathered and analyses centrally.  There are more efficient systems to help organize resource allocation.

So far, so good.  Now let’s look at the authors’ lies of capitalism.

  1. The market values of financial and other assets accurately reflect the economic value they represent
  2. The future will always offer more opportunities for a better life than the past

Mr Sandbu has tried to make an argument in order to write a column.  His arguments are manufactured and simple, probably because he assumes you would not understand the realty.  Let’s look at them.
The first lie is explained with the argument that prices measuring wealth that people thought they had did not in fact exist.  This a massive misunderstanding of the price mechanism and what happened in the financial crisis. First, weath is always and everywhere a relative measure.  As such we need something to compare one to another – price fits the bill nicely.  Howeve, justbecause  the price of assets go up does not mean you are more wealthy.  Yes, press articles told us that as house prices went up we could therefore monetize the increase in value.  But that extra cash is not wealth – since we incurred a debt (increase in debt).

The second problem is that prices were not set efficiently.  There were several failures in the system that meant risk was not correctly priced into the asset price.  This is not a failure of price per se.  It was in part a failure of living and cheating individuals (that didnt go to jail) and incompetence by others.   If we had more transparency (and accountability) in the pricing systems that worked together, more folks would have seen the risks sooner and the bubble might have been nipped in the bud.  

The second lie is totally made up.  The author argues that we are now poorer than we were before the crisis and that our future prospects are negative such that the young are now dissalusioned.  This is fallacy.  This is not a failure of capitalism.  We do not live in a free market.  We live in a massively over regulated and over taxed econonmy.  Never before has the US government taken so much tax and spent so much (e.g. Debt) on social transfers.  The number of rules we have to follow has never been higher.  The number of rule-making bodies writing those rules, and rule-making bodies managing the rule-making bodies, has never been higher.  Over 51% of Americans receive a social transfer of some kind from the governance (see A Nation of Takers).  

If the central bank had raised interest rates sooner private industry would have returned to normal investment practices.  If the central bank had collapsed its balance sheets sooner, private funds would not have been crowded out and instead redirected to stock buy-backs and uncompetitive M&A, which has now created yet another stock-market bubble.  We need a good dose of natural, healthy, honest hard work that is rewarded and encouraged. We need to stop talking about how we are all owed a debt by the government and they should give is all that we need.  We need to take responsibility for our own success.  

The author concludes that we now need a mix – of communism and capitalism to get out of the mess we are in.  He is mistaken.  We exist today in a mixed model.  Socialist has been creeping up on us for years – and this is the analogy to communism.  No, we are not let by Leninist’s or Trotskyist’s but we are led by socialist policies that align with the lies of communism above.  We need more honest work, and honest pay, in a freer economy.  We do need regulation – but we need less so we can see where the real wood for the trees lays.