TRACY CHAPMAN WAS RIGHT, JUST 20 YEARS EARLY WHEN TALKIN’ ABOUT A REVOLUTION

How long will this all be allowed to go on? How long will the people wait, how much more can they possibly put up with. I mean day in day out the middle class, or “Main St” get pummelled, pounded, exploited, ripped off and rorted. They watch almost helplessly as governments around the world impose Austerity on their people, they legislate and support bank bail outs, build bombs and defence systems while the poor curl up in a corner with their life savings tucked into a garbage bag and sleep using a step as a pillow.

 As an Australian living here in the USA it brings me to a truly sad view and perception of where the world is headed. It is obvious that the world truly has lost its moral compass and that the system is broken.

To walk out of a grocery store while it is snowing and see a lady with her dog and a sign “can you help me, I have no food, home or hope” breaks my heart. As I park to walk into the grocery store I ponder how many people have seen the lady and ignored her message to help? How many don’t give her a second thought? How many consider helping but don’t?

I often buy her a warm soup if I notice her there, I was raised to be that type of person. I am proud to have been taught that life lesson, it truly is a valuable one. I have fond memories back home of going to the greyhound races back home with my father. Part of our visit to the races included feeding the homeless on the way out, 10 hotdogs later and sometimes a few bucks.

Where is the compassion now? We have a world built on the motivation of personal wealth where greed is almost idolised and money is worshipped. We live in a world where the apathy and hopelessness rules behaviour, where we now render our ability to help a little as useless.

A friend of mine recently pointed out some states here in the US are legislating that a $120 license must be paid for an individual or organisation to feed the poor. I remember when I read his message thinking that he could not be right on that, but he was. WHY???

WHY when there are no jobs, at least no good ones. WHY make it difficult for an individual to extend the hand of hope to the hopeless? What ever happened to being fair and just? Why do politicians seem to act for themselves whilst preaching they represent their constituents’ best interests?

Governments co-opted by corporations in a relationship so incestuous it has me reaching for the bucket to puke. The news is cringe worthy at best as viewers are force fed the lies in an absolutely insulting manner. It truly is difficult to find a neutral news source, everywhere you look the result seems binary when it comes to where you get your news and in your political choices to determine government or president.

CNN is designated for the lefties and Democrats, Fox news for the righties and Republicans. Media and politics are dominated by corporation dollars which in turn drives the bias. It appears to me however that this growing disconnect between politics, the media and the general populous is taking its toll. The natives are getting restless!

I am beginning to feel that the world as we know it is about to go through a revolutionary shift. There is a collective evolution taking place that is ushering in a new zeitgeist or spirit of the age. Technology and the use of social media assist in building momentum as people of like minds bond and chat, sharing ideas, thoughts and emotions. Facebook and Twitter allow collective think tanks and a platform for open forums that assist in connecting people globally in a way not possible less than 10 years ago.

Metaphorically speaking I see the Global Financial Crisis as the fuse and social media platforms/vehicles as the match to light the fuse to mobilise the next revolutionary movement. For those of my readers that disagree on my views that a revolution is in the not too distant future need only look at the edgy reporting Time Magazine is giving the topic.

We are now 2 years or more on from 2011 when Time Magazine made their person of the year “The Protestor”. We have seen governments overturned, protests in the streets of Portugal, Spain, Italy, Ireland and Iceland just to name a few. In the USA there was Occupy Wall St where for the first time income inequality and the incestuous government/corporation relationship triggered outrage.

Below is Time Magazines front cover recapping 2011.

It seems that “Main St” went to occupy “Wall St” in a protest over tax payer bank bailouts which funded exorbitant CEO bonuses along the way. The protests also brought discussion over tax laws that appeared skewed to the wealthy, protectionist policies from cheap imports and also the minimum wage debate.

The Occupy Wall St movement was a show of how social media could be used to garnish support quickly and also appeared to signify a shift in attitude on the need for change. I believe the global protests, marches against austerity and movements like Occupy Wall St are the prelude to the real revolution that appears to be gaining momentum.

Tracy Chapman was “talkin about a revolution” in her song 20 years ago. I cannot help but listen to those lyrics and think she is right.

Below is a youtube clip of the song and lyrics. I suggest you click, listen and read.. then ask yourself after reading my piece, was Tracy Chapman right but just 20 years early?

http://www.youtube.com/watch?v=OVKLmpALMFc

CAPITALISM OR CORPORATE FACISM? KEYNESIAN OR CRONY KEYNESIAN ECONOMICS?

In a world of 24 hour news cycles, social media, print media, the internet it is hard not to get caught up in the moment. The media circus has turned REAL NEWS into a sensory overload experience in ways never thought imaginable. Twitter followers may sometimes get news 10 minutes before it becomes a breaking news story on any of the major networks, slate gives you text news with a blurb and an estimated read time so that you can assess instantaneously whether you feel it is worth the 3, 4 or 34 minutes to read!

The evolution of the way news gets reported and the speed with which it can be sourced is about as fast as it can get. As news has evolved, so has the politics of it, the campaigns, the promotions and of course the slogans. Everything has a nice catch phrase to bring comfort or generate confidence. Everything must be carefully crafted to execute for the media.

Who could forget the Obama “Yes we can” campaign and after he or we didn’t of course it was “Forward”. The “Forward” campaign slogan was important because no one really wanted to look back, least of all the Democrats.

The slogans are not limited to political parties, comforting economic terms to describe monetary policy or political/economic decisions are almost laughable. Here are some examples, Quantitative Easing, sheeesh that sounds good right? It’s quantitative and its easing?

 What are your thoughts on the use of military terminology to define monetary policy with “Operation Twist”?

Last but not least the term “Austerity”. Sounds fair does it not? Why won’t the media and policy makers tell people the truth? Austerity generally means higher taxes, cuts in government spending or perhaps both simultaneously so it follows that the media cannot possibly report that as the mushroom dribble fed plebs would be out on the streets protesting… So “Austerity” it is!

There is no doubt that the global economy is in a dangerous and volatile situation. The global debt bubble is inescapable in my opinion without either a major economic crisis (bigger than the last one) or a period of unprecedented global inflation driven by one big global debt jubilee where debt is monetised in a multinational agreement.

The different attempts at stimulating economic growth that include the easiest monetary policy the world has ever seen is still failing. In conjunction with this easy monetary policy the USA Government has embarked on some of the biggest deficit budgets in an attempt to support the lag and deceleration in aggregate demand from the private sector.

The massive budget deficits of course could not be called that so the term “Stimulus Package” became the accepted politically correct way of misleading the public. With the “Stimulus package” came additional slogans such as the one coined by the BRILLIANT Larry Summers in his testimony before the USA economic committee.

Stimulus packages were the way to go according to Brilliant Larry, but of course the stimulus had to be “Timely, Targeted and Temporary”. HA!. That sounds great and perfectly reasonable. I would support that policy as I am sure many others would, a temporary targeted and timely fix might be great at supporting ailing aggregate demand.

Reading Brilliant Larry Summers testimony I pondered whether the words he spoke would have been echoed by John Maynard Keynes. Students of Keynesian economics would have seen the Summers testimony as filling the criteria set out by Keynes as the targeted, timely and temporary stimulus aimed at supporting aggregate demand in the short run.

In a recent discussion with a close friend of mine back in Australia, a topic trigger and blog idea was born. As we discussed the USA economy, the GFC (don’t call it the Global Financial Crisis) he raised the issue of the humanitarian side to Keynesian economics. It seems an economics professor from his home town had engaged him in the justification of Keynesian policies saying the deep hurt without the Government stimulus would be profound.

In once again agreeing that fiscal stimulus if it is “timely, targeted and temporary” has benefits as a short term fix, the implementation of the fiscal stimulus to satisfy the slogan is a completely different proposition. Let us address each of the Brilliant Larry Summers’ criteria looking in the rear view mirror from today all the way back to his testimony in January 2008.

To provide for open discussion and debate, along with my opinion I would like you to read the link below of the American Recovery and Reinvestment act of 2009 (ARRA).

. http://www.ask.com/wiki/American_Recovery_and_Reinvestment_Act_of_2009?o=2801&qsrc=999&ad=doubleDown&an=apn&ap=ask.com

TIMELY – Debate will always rage over the timing of the stimulus package as the crisis was already rolling and the devastation had already been felt. The stimulus package was more of a clean-up effort after a massive tsunami than it was a barricade built to protect the economy before the storm. President Bush enacted the Economic Stimulus Act of 2008 as an outgoing president however this was largely a watered down attempt and a patch fix than a fully-fledged program or recovery policy.

TARGETED – This is where I have my biggest issue with the Keynesian economic “demand side” theory in that it tends to be driven by short term aggressive spending measures to raise short term aggregate demand. This aggressive spending largely gives a misguided improvement signal by masking the structural economic issues at hand.


A monetary solution to a structural problem may offer relief, but that relief comes at the expense of a planned mixed policy that targets real jobs growth and the private sector which ultimately offers a more sustainable humanitarian solution. I would suggest that the fiscal stimulus package should carry a larger weighting on bigger incentives to promote employment rather than spending measures on public sector projects which provide temporary jobs that may terminate once the project is exhausted.

One measure may include tax concessions for an employer for providing a new job equal to the tax that will be paid by the employee in the job. A cash neutral tax policy aimed at jobs which will directly feed into raising aggregate demand from the private sector through earned wages that takes the burden off the public sector. This measure, may assist in raising efficiency and cost effectiveness in the public spend whilst promoting a more sustainable and organic growth environment.

Looking at the tax concession section of the ARRA you can clearly see that of the nearly $800bn package only $51bn was offered as incentives for companies and $237bn in incentives for individuals. Before you think I am beating the corporation drum at the expense of the individual I am not. I support the $237bn incentives for the individual, but believe at least $300bn should have been provided for business targeting employment promotion. The remaining $250bn could be used on targeted public sector infrastructure projects aimed at assisting in raising productivity. Improved roads, transportation, ports etc.

The fact is that there was over $350bn in stimulus spending including $155bn on healthcare, $100bn on education, 100bn on infrastructure. There was also $40bn allocated to extend unemployment benefits, $20bn for food stamp program, 14bn in one off $250 social security payments. In the same section is the provision of  $3.2bn for “temporary welfare”. The upside of this section was a miserly $3.45bn on training programs and an absolutely insultingly low $500m for vocational training for the disabled!  

All of the above were implemented with the backdrop of public sector wasteful spending that include the government trying to pick winners through initiatives such as the auto industry bail outs and green energy sector (solindra) just to name a couple.


 Airport runways were fixed in towns where literally only 5 or 6 planes land per day, potholes fixed on Rodeo Drive, heck there was even a few million spent by the department of defence to try and determine how democratic goldfish are (not kidding you, worth a google). It is absolutely absurd to think that in a true capitalist economy the private sector would facilitate any of the above especially the goldfish study!

I am sure when Keynes proposed his theory of government fiscal support he did not intend it to be inclusive of waste. Sure a monetary solution to an economic problem that is structural is not ideal, but a targeted and efficient government stimulus spending program would not be so bad if it was cost effective and provided similar returns on investment than would be achievable out in the private sector.

There should never be waste because the debt incurred by the government in enacting the stimulus will ultimately be serviced somewhere down the line by the tax payer, or felt by the country’s citizens in the form of inflation as the debt gets monetized.

Looking back over the last 6 years the USA Federal Government, under President Obama has doubled the public sector debt adding some 8 or more Trillion dollars to the bottom line. With this in mind I pose the question how “targeted” could the spending have been given the fact that the workforce participation rate here in the USA is the lowest it has been in nearly 3 decades? GDP even under the new calculation methods is lagging and signs of improvement now appear a pipedream not a chance of becoming reality.

TEMPORARY – Well this one should be self-explanatory, we all know that the Government deficit spending has been at record highs since 2008 and that is represented by the double down in public sector debt in that corresponding period.

So from a humanitarian perspective, my contrarian view to the Aussie professor is, that Keynesian fiscal stimulus that is not implemented with a timely, targeted and temporary focus will end up a short term fix at the expense of a deeper humanitarian issue into the future when the public debt has to be serviced.

I would also argue the point that Keynes advocated tax cuts in conjunction with government stimulus spending. Governments seem to ignore the former and concentrate on the latter more for political and not economic reasons.

If Government spending through stimulus is largely inefficient and wasteful vs private sector then surely the stimulus is more of an inefficiency enabler rather than an economic restructuring promoter and the adverse effects will be felt into the future rather than in the now?

To illustrate my point more simply, if an individual has a certain propensity to borrow, to service their debt and have their credit card maxed out they have no other option but to either work another job or begin to deleverage or save. A shift away from consumption and spending to savings and production is needed, that is a recession!

The economy needs to recalibrate and restructure. Right now despite the fact that there have been massive year on year government deficits investment into the private sector which will ultimately drive consistent and sustainable employment growth has been slow. As has been discussed in previous blogs the correlation between employment and credit acceleration/deceleration are undeniable.

Below is a chart which illustrates the “private sector” investment from 2007-2012

 The correlation between employment and credit acceleration/deceleration is also supplied for those reading my blog for the first time.

I will also add a link to view money velocity chart as a point of reflection to illustrate that it is the private sector that drives the employment, money velocity, credit acceleration in a cyclical growth loop.

http://research.stlouisfed.org/fredgraph.png?g=stp

If the Professors justification of Keynesian economics is to give the debt laden individual another credit card to ease the pain in the short term and it is proven that the credit card will be used inefficiently (just like government spending v private sector) surely the new maxed out credit card simply exacerbates the problem already at hand.

So whilst the theory has merit the policy implementation is far too inefficient and ineffective. It does not address the issue of debt driven deflation as household and private sector try and deleverage as central banks and government try and force feed the economy more debt.

The theory has also been tested and proven largely ineffective in producing real thrust into investment into the private sector that is needed as this is the engine room of the economy. The problem with policy makers and indeed many economists is that they read and rely on text books and largely ignore the problems of the dynamic global economy which tosses up real evolving problems that require flexibility in policy not rigidity.  

The stimulus policies along with the term “Too Big To Fail” are destroying capitalism and morphing it into global corporatisation where oligopolies rule. Oligopolies lead to idiocracy and you only have to take a look at where the USA is headed with the number of low paid jobs increasing at the expense of high paid jobs.

The four words “Too Big To Fail” according to Gerald Celente were the words that signalled the end of capitalism. I feel he is right, right now we have either crony capitalism or corporate facism where  the incestuous relationship between government and big business is becoming more and more of a blur. The relationship is so incestuous now it leaves me pondering from a historical perspective the question of who co-opted who?

Was it the Government representatives that co- opted big business or was it big business that co-opted government? It may be a case of the chicken or the egg, but really who cares when it’s a rotten egg!

A further example of this shift away from true capitalism into corporate facism can be found in the number of ex GOLDMAN SACHS executives now involved or heading up Central Banks. There is Carney, Draghi, Paulson and of course MF Global’s Jon “The Don” Corzine. Below is a link with a revolving door list CBS composed, reading it will take your breath away and have you questioning how any of this has been allowed.

http://www.cbsnews.com/news/goldman-sachs-revolving-door/

I have arrived at the conclusion throughout my personal study and analysis that we do not have a capitalist economy, we have corporate facism or crony capitalism.  I am also saddened for the destruction of Keynesian economic theory as governments have, for political reasons (my opinion) implemented Crony Keynesian policies in an attempt to kick start a recovery. These have been largely ineffective and inefficient and therefore lump more public sector debt burden on to an economy that is trying to restructure and recover.

To those that disagree I would like to leave you with a few thoughts and questions to think over and critically analyse. These are the questions I had sought answers to and the answers derived formed the backbone for my assertions in this blog. Perhaps if you answer these questions you may come to similar conclusions.

1. Given the benefit of hindsight on his policy implementation of QE, operation twist etc which has added over $3tn to Fed balance sheet. Would Bernanke do the same given the sluggish recovery since the programs were implemented?
2. Considering the fact that US public sector debt has added over $8tn or 8,000 BILLION for those not familiar with what a TRILLION is. Why has the unemployment scene not improved significantly? Why are GDP numbers still representative of a sluggish growth economy? What will be the impact this additional $8tn will have on a recovering economy when interest rates move up and the cost of the borrowing mean higher tax impositions to service the debt?
3. Finally after assessing all of the above consider if the policy agenda in 2009 targeted private sector growth, more tax cuts for small and medium business, tax incentives to employ people in the private sector, reduction in red tape constraining private sector would there have been a better result?

My point is if one were to assume that the $8tn that was added to the public sector debt was not used on Government “stimulus” packages where the government tried to pick the winning projects, rather the stimulus money targeted private sector growth. Could we or would we have a more sustainable and organic growth story now driven by employment growth which will drive real GDP?

I have no doubt that $8tn spent driving employment in the private sector, a more aggressive tax reduction and a reduction in red tape would by now be netting a positive return as the economy recovered. Permanent jobs in the private sector and not temporary project jobs in the public sector is the answer. Employment growth means an increased taxation base, a reduction in the welfare drain, a boost in perceived recovery, increase in money velocity, increase in GDP and a REAL recovery.

If Keynesian economics is passed off as being more of a humanitarian policy as the professor back in Australia asserts, surely a stable secure job creation policy driven by private sector provides the best avenue. Perhaps I am making the assumption that he supports true Keynesian economic policies not crony Keynesianism, just as I support true capitalism not crony capitalism or corporate fascism.  If that is the case, I apologise, but still thank him for the idea for this blog and hope that he can find the time to critically analyse my piece and offer his ideas on my assertions.

The right of rebuttal is open to all and I welcome feedback from all of my readership.

If you like this piece you can follow me on twitter @carneycapital

OVER TO YOU!

BLACK SWAN EVENT STRAIGHT AHEAD – KEEN, MINSKY AND A COMPLEX ECONOMY

I was inspired to write this piece after a dream I had of my father who sadly passed away suddenly with a huge heart attack exactly 6 years ago today. The piece is not going to be a melancholy one so if that first sentence gave you that impression, ignore it and read on, as this blog topic is one I have been meaning to write and rant about for the longest time.

The global economy is headed for a black swan event, I believe it is straight ahead, imminent and when it arrives will be catastrophic. For those of my readers that do not know what a “black swan” event is, Investopedia defines it as “An event or occurrence that deviates beyond what is normally expected of a situation and that would be extremely difficult to predict. This term was popularized by Nassim Nicholas Taleb, a finance professor and former Wall Street trader”

Taking a look at the definition, as given by Investopedia, the sudden passing of my father was a text book example of a black swan event. He was only 61, he was retired, had lost weight and was exercising. Statistics say that he should have lived at the very least another 15 years right? So why did that not happen? Why did he not live to be 75 or 80? I have wrestled with all of these questions as his son, and in fact added to them, could I have done more? He mentioned acid reflux, did he report that issue the last time he attended the doctor for a check up? Did the doctor ask the right questions or moreover did my father answer honestly?

To ponder all of the aforementioned questions highlights the complexity of human psychology, how this affects perception and behaviour.  The diversity and complexity are just part and parcel of what it is to be human – to think, feel, touch, smell, emotions, love, hate, trust, faith etc.

 Feeding into this psychological and behavioural human aspect is our natural tendencies to want to control outcomes. We study and formulate statistics, average life expectancy, climate change, economic growth, unemployment, the list is endless.

Once these statistics are derived and analysed we then assume at a subconscious level that everyone or every system is stereotypical and apply constraints and assumptions to future predictive models. I believe it is here where the flawed logic begins as it is these very constraints and assumptions in models that make the “black swan” the unpredictable phenomenon it is. I will address this point in more depth later in this piece.

I would like to begin this next section of the blog by acknowledging that I have been both humbled and blessed to have had some truly remarkable teachers in my life. The lessons I have learned and the manner with which they were taught were dynamic, interactive and involved traditional conventional methods along with unconventional and sometimes borderline strange.

Thinking back on my life during my early 20’s, I have many fond memories. Lessons learned through rigorous debate, challenged thought processes, to pick the right road even if it was the one less travelled.

My mind was wired to challenge theory, positioning, strategic and tactical planning. I was blessed having a father who was such a great mentor. I remember fondly our debates on proposed business decisions over a Sunday pasta lunch.  There were so many lessons but the theme was always that I had to think about business from a competitors’ perspective. If I were in their shoes, what would I do to kick my own butt? To answer those questions meant challenging thought and theory, the way the business operated, my assumptions and reasoning.

The thought was simple yet profound and affects just about every part of human life including my views on the global economy. Retrospectively looking back through the cyclical history of the global economy of booms and busts I often pondered why a better model had not been developed.

It is here where my truly blessed upbringing took a monumental twist. After graduating out of high school I had gained the grades to attend Sydney University to study a Bachelor of Commerce degree with a plan to major in economics and sub major in marketing. Most of my friends had decided to attend our local university which at the time was not held in the same esteem as Sydney University. I wanted to remain with friends so chose UWS Macarthur and had the unbelievable opportunity to study under Professor Steve Keen.

After contacting Professor Keen recently on Twitter it seems we both landed at UWS Macarthur at the same time, 1996, it seems so long ago! As time has passed I have followed Professor Keens work on Minsky, as I was drawn to Keens persistence at questioning and challenging the validity of existing mainstream neoclassical economic theory and modelling.

Although most of my adult life has been spent (post my university days) in the private sector, my passion for economics has never faded. I will say that in the lead up to the crisis of 2008 I was in the corner of the likes of Professor Keen and Peter Schiff in sounding the alarm bells. I will admit that my timing was off, I was calling the crash in 2005/06 and so was seen as one of those “broken clock” prediction makers!

Annoyed at seeing the crisis coming and having been right in so many ways other than the exact timing, my thirst for a better predictive model grew stronger. It seems I had to work at review, and that review began with a study of my former Professors work.

Professor Keen has been outspoken about Minsky’s work and has done a tremendous job in building a Minsky software package which offers features to build your own version/model of today’s financial system. Below is a link to the open source site from which you can download the program.

http://www.debtdeflation.com/blogs/minsky/

Keen has also been outspoken on the role the financial sector with a focus on banks and the role debt plays both in financial crisis creation and the duration the crisis lasts. Professor Keen asserts “debt matters” and puts particular emphasis on private sector debt rather than public sector/government debt.

It seems to me that the assertion that “debt matters” has some solid statistical data to support it. Strong correlations between indictors such as credit acceleration and change in unemployment and also change in private debt and unemployment etc support Keens case.

Below are some of the correlations taken from Keens blog www.debtdeflation.com/blogs. The strength of the correlation is strong and striking and provide a great starting point for examination and analysis of where an economy is at present and perhaps where it will be tracking into the future.

I believe that the development of the Minsky software has provided a huge framework for developing a more robust systemic risk assessment model that can be used to implement a tail risk investment strategy for those heavily exposed to the markets.

I have wrestled with Keens Minsky model, on his data supported case that “debt matters”. I cannot help but think that the missing pieces to the Minsky software are non statistical empirical data that tackle the issue of the human psyche. If the case that debt matters is statistically proven through correlation, then how do we get a more proactive predictive model that may provide more dynamic detail rather than a retrospective model?

I feel the answer is not in answering the question does debt really matter, but rather WHEN DOES DEBT MATTER ENOUGH to begin the psyche shift from a risk on to risk off position?. To add flesh to the Minsky model perhaps code needs to be written to scan for the psychological feeders that swing the pendulum from risk on to risk off, triggering the deleverage cycle and move away from consumption to savings.

A more dynamic model needs to find those indicators. The model needs to find the "right signal amongst the noise” in a world of 24 hour news cycles and other feeders such as social media, surveys, obscure statistical data, changing demographics and lifestyles, perceptions, zeitgeist, political and geopolitical environment etc. Whatever these factors are, the human aspect needs to be the flesh to the framework for it is the human psyche that ultimately drives behavior.

I also believe that a predictive model needs to make an assessment of risk that is not based solely on the lead up to previous financial collapses but also major divergences from economic cycles of the past. Given that a black swan event is largely an unpredictable event by definition, why do we constrain ourselves by assuming that the next crisis will be the same as the last, have the same set of indicators, conditions and stages? Why do we assume it will be triggered by the USA or CHINA? Why not Japan? Or the Eurozone? Or a large international event like a derivatives market meltdown? 

If the idea is that a black swan is unpredictable then surely we need a model that can also determine when certain markers (statistical and non statistical) are moving away from historical norms. Risk exists when divergence increases from previous cycles or where none of the cyclical progression is the same, none of the economic conditions are the same. The model needs to evaluate/calculate then correlate the predetermined human psyche markers with the patterns prevailed in the lead up to previous financial crisis.

 Major divergences or shifts away from “norms” must carry a weighted risk assessment that should be integrated along with previous proven statistical indicators so that a more rounded model can be derived. Having both means that the model will assess risk based on the correlation certain “markers” have with boom bust cycles of the past but also assess risk when there is a major divergence away from these indicator/marker norms. 

My assessment is that Minsky and Keen are right in their modelling direction. The theory can be supported and substantiated with data and statistics and the assumptions underpinning the theory are more reflective of how a dynamic global economy works.

My hope is that the work begun by Minsky and developed further by Keen are explored further and that the global economy can be set on a path of sustainable growth in which every participant has an equal chance at receiving maximum benefit for their contribution. I believe this will include a significant contraction in the financial sector and the need for funds to flow back into the real economy that produces real goods of real value.

Below is a chart that a fellow twitter follower @JordanEliseo sent to me which appears to be sourced from www.dailyreckoning.com – The chart shows that “real net domestic private business investment” is still less than 60% of what it was in 2006/07 in the USA. The chart highlights the fact that despite the fact that the Federal Reserve has embarked on the greatest monetary policy experiment the world has ever seen investment in the private sector of the economy has remained sluggish at best.

The chart also provides clues as to why real unemployment and underemployment has remained stubbornly high in spite of the Feds massive QE programs and its lunatic pursuit of ridiculously easy monetary policy.

The fact is that investment dollars are not filtering into the domestic private sector economy in the USA and this has been the catalyst for both the creation or reinflation of asset bubbles including the equities market. It also stands to reason that the lack of investment in the domestic private economy is strangling employment growth and stunts the drive of innovation and productivity that flows directly through to an economy’s real GDP.

A debt laden economy like the USA that is largely dependent on consumption to drive growth (USA economy is 70% consumption) depends on a high employment participation rate and feeds of psychological factors like job security to grow. A household is likely to borrow to spend if they feel safe financially, have a handle on job security etc. This job growth and security will come from the private domestic economy if the right mix of policies are in place both from a fiscal and monetary policy position.

The USA is not alone when it comes to the financial sector holding the real economy hostage. It appears to me that many of the developed economies have legislated for herd investment mentality designed to support exponential and unsustainable growth in the financial sector. To provide another example need look no further than my homeland of Australia ( AUSSIE AUSSIE AUSSIE OY OY OY). I would ask my Australian readers to stop and think about life as an employee as well as a business owner and employer of over 150 people across the family businesses. Examining the system from an employer’s perspective I often ponder the sanity in the superannuation system which is paid by the employer via contribution into a designated fund chosen by the employee. Before you go crazy calling me a greedy capitalist read further because my rationale and concern is not for my own welfare.

The legislated 9.25% contribution comes out of my private businesses bottom line and goes into the designated fund. These funds are then legislated in where to invest this money based on certain individual preferences. Many have lauded the fact that it was Australia’s superannuation system that assisted Australia in getting through the Global Financial Crisis better than nearly all other global economies.

In acknowledging that this may have been the case I cannot help but think that think this is still assisting in the promotion of a financial sector bubble if not a mini Ponzi scheme. This mini Ponzi is becoming more evident as government pushes for more contributions from employers like me via new legislation aimed at raising compulsory superannuation to 12%.

These progressive increases in contribution place additional burden on private sector businesses, inhibiting their growth by strangling cash flow restricting potential investment pipelines. Compounding this point is that the money then flows into supporting an already out of control finance sector in which P/E’s and company valuations dwarf what is attainable within the private sector economy.

As the financial sector inflates employees watch their superannuation balances grow, simply as the legislated super money funds it. A Ponzi scheme is one which relies on the “sucker” mentality and can only be perpetuated when a new “sucker” can be found to buy the old “sucker” out. It goes without saying that a moderating stagnate rate of compulsory superannuation is not enough to feed the growth of the financial sector.

Furthermore the need to increase the rate of compulsory superannuation to 12% from 9.25% is a Ponzi stabiliser rather than a real economic growth promoter. The increase in superannuation leeches money from the private sector robbing real investment, stunting innovation and employment and ultimately economic growth.

The most damaging part of the system is that by design it forces savings for the future, but it channels those savings into a financial system and other bubbles via legislative investment requirements. The timing of the next financial crisis and the effects it will have on retirees in Australia when it hits will be painful. Those employees looking at their balances of their superannuation funds would have been smiling in 2006, but were hurting in 2008!

I have highlighted this case because I know many that watched their “savings” cut to ribbons when the last crisis rolled through the global economy. Since that crisis, all the world has done is paper over the mess and continued down a similar if not identical path than the last.

The same old will not suffice and the next crisis is bubbling under the surface waiting to erupt. The current system (same as the old one) is broken and we need a new think tank, new ideas and contributions. What we need is to put our collective economic minds to the task of answering the question, how is the current economic system going to kick its own butt and present us with the new economic crisis? Critical analysis not done ideologies is needed to try and get the economy moving firstly, then ultimately on a better and more sustainable course.

It is for this reason that work done by Minsky and developed by Keen needs the full attention for those wanting to make a change. It resonates that if we are going to have herd investment mentality, then let us at least find a balance and more sustainable path for the herd to benefit.

This is as much a humanitarian plight as it is an economic problem that needs a solution and so I am hopeful that anyone that reads this piece and has anything they wish to add that they post a comment. Positive comments are great but critical analysis is also very welcome.

I appreciate the support and the feedback.

MINSKY – THE “ROARING 20’S” AND KEYNESIAN DEMISE

 

A genuine person, one with integrity and backbone, courage and resolve, understanding with moral fibre always owns up to their mistakes. As we usher in a new year I want to acknowledge that not all of my calls have been accurate. I went on record prior to the last Fed decision as saying I thought the Fed would resist the taper and at the same time lower the interest paid on excess reserves in an attempt to get the banking sector loaning into the economy again.

I was wrong on that. I admit it. My call was perhaps a little flawed in logic, presumptuous, based on assumptions that banks were choosing not to lend when perhaps it was the economy not wanting to borrow.

I also commented in that post that margin loans were approaching critical levels. When referring to critical levels I am asserting the fact that "available credit" is almost at empty! Following this point means the equities rally that has been fuelled by surging margin lending may be a ride about to come to an end. It never ceases to amaze me how, human herd behaviour lines up time and time again for ultimate beat downs. Insanity rules in a financial market where mania and greed dominate decisions rather than facts and figures.

The insanity and mania produce a confidence and misguided feeling of stability that triggers gyrations and volatility if growth is not sustained. It really is a case of everything is ok… UNTIL IT’S NOT!

My calls of a market correction, a substantial one which sees the DOW down to 10,000-12000 points was made on the psychological effect of a slowing of credit growth irrespective of whether this is bank imposed or economy imposed. I have also been wrong on that prediction though I feel if the Fed does not undo the taper, increase QE and reduce the interest on excess reserves the market deleveraging begins and the equities market moves to the downside. 

It may only need to start as a snowball but this may be enough to turn it into an avalanche. I write this blog after being triggered by a discussion/debate I had with a guy on twitter that goes by the handle @azizonomics. John Aziz is a bright economic thinker who is or appears to be attached to the Keynesian approach as the way to solve a period of economic recession/depression.

Taking a look in the rear view mirror at history, John stated that the Keynes solution of deficit spending “began to take effect in 1931/32 and that 1932 was the year of recovery”. Debate raged as a tweeted response fired back “what recovery?.. it crashed in 1937”

At this point I entered the debate raising the “forgotten depression” of 1921/22. The points I made are discussed below but largely use the defining tightening monetary policy and Government budget surplus produced a recovery in less than 2 years. I pressed John Aziz on the lack of recovery in Japan with it’s extensive QE policy which produced a “lost decade”. The fact that we are now more than 5 years into the greatest monetary policy experiment the global economy has ever seen, but still signs of growth are both sporadic and based on questionable data such as new GDP calculation methods for the USA.

 

The issue I have with those that are attached to Keynesian economics is that many of the supporters refuse to examine and analyse the depression of 1920/21. During that period industrial production was down 14%, real GDP was down 10% , unemployment topped 12% and commodity prices were down between 30 and 40% depending on what data you choose to use for analysis. Surely no one would argue these conditions are an economic nightmare!

In response to this the Federal Government took action and produced a budget SURPLUS. In conjunction to the SURPLUS the Federal Reserve TIGHTENED monetary policy and the economy went through a short “acute” depression before recovering to make way for a period known today as the “roaring 20’s”.

The policy mix imposed on the economy in a time of high unemployment, huge falls in GDP, industrial production and commodity prices was a budget SURPLUS and a Fed TIGHTENING of monetary policy. The policies implemented today by the Fed and supported by commentators like John Aziz are almost the complete opposite to the policies that yielded a result in which economic pain lasted less than 2 years and gave way to a golden era for the USA economy.

The fact is when President Harding took office in 1921, the USA economy was facing high unemployment, runaway inflation and had plummeted into a deep depression. Sure the inflationary argument and debt deflationary argument can be made to say economic conditions are different today than they were in 1921. If my critics debate me on that point I would say that yes inflationary numbers are different, but so is the way the global economy functions today v 1921.

In stating the above case and taking the contrarian side of the Keynesian debate I run the risk of coming under attack that the “roaring 20’s” made way for the depression of the 30’s. I wish to point out that in my humble opinion the policies both fiscal and monetary were a mixed bag of good and bad policies as the decade progressed.

The post WWI marginal tax rate reduction from a high marginal rate of 77% (to fund the war effort) was drastically reduced to 25% by 1925. The period also saw tariff protection offered to the farming industry as well as a concerted effort to produce a budget surplus. The theme of the Harding and Coolidge Presidential periods was one that promoted private sector growth by reducing the ways government could intrude on private business operations.

The policies above set the economy on a path of economic growth and prosperity. The period ushered in a golden era of new technologies, mass production and a reallocation of resources into channels which provided economic growth with inflation rates that topped out at 2.3% amongst scattered years of deflation! The period also provided massive opportunities for the middle class, something that is sadly being eroded by the policies of today.

Below is the historical inflation data for analysis.

 

http://www.usinflationcalculator.com/inflation/historical-inflation-rates/

 

Here is the GDP data recorded for the corresponding period that shows the growth in GDP from 1923-29.

 

http://en.wikipedia.org/wiki/File:Gdp20-40.jpg

 

So what caused the depression? As Hyman Minsky put it in his Financial Instability Hypothesis, sustained periods of stability are inherently and ultimately destabilizing. In my opinion the Roaring 20’s was the classic model/period to highlight Minsky’s Hypothesis which broke down the process from stability to instability. Minsky’s hypothesis broke the stability/instability transition into three separate stages of debt finance phases, Hedge, Speculative then finally destabilizing Ponzi.

In my opinion, the early growth post 1921 was generated by a reduction in the excessively high marginal tax rates to a normalised rate of around 25%, a balanced budget and an interest rate policy that had been tightened to curb the runaway inflation.

As the economy gained traction and turned positive, the behavioural and psychological aspects of human nature manifested itself. The seemingly stable economy was beginning to shift into the second stage of Minskys debt phase of speculation. At this point the economy was experiencing huge transformations, technological, infrastructure, industrialisation and urbanisation. Money/credit/debt was needed to finance this growth.

Speculation became a part of the economy as the Federal Reserve expanded credit, by setting below market interest rates and low reserve requirements that favoured big banks. Sound familiar? During this period the money supply actually increased by around 60% during the time following the 1920/21 recession.

By the latter part of the decade "buying on margin" entered into the American investment strategy and the Ponzi stage Minsky described had begun. The latter part of the 1920’s saw more and more Americans over-extend themselves to speculate on the soaring stock market and expanding credit. The Ponzi stage was reaching its peak as margin loans reached unsustainable levels. Although the crash that began in 1929 was a surprise to many, a retrospective analysis and application of Minsky’s Instability hypothesis nails the process stage by stage.

So the way I see it is Minsky recognises the human nature elements that affect economic decisions and therefore how the economy grows and why it collapses. Minsky identifies and includes behavioural/psychological factors such as greed, manias, panic and debt deflation mentality. In identifying these and including these Minsky taps into the human aspects that contribute greatly to the manifestation of economic cycles of boom and bust.

It appears to me that Hyman Minsky has a better command  of human nature both behavioural and psychological influences on the economy than Keynes. The wealth effect is highly dependent on the willingness for both banks to lend and also the desire of people to borrow. In many ways the wealth effect attempts to alter behaviour whereas Minsky correctly understands that human behaviour is largely unpredictable as it is influenced by environmental, psychological and behavioural factors prevailing at the time.

With all of this in mind, I am wondering if John Aziz is a “debt deflation” believer as I noted his admission that he got his inflation call wrong and only came to his error in his macro studies post his prediction. I admire the courage to admit error of judgement.

 I do, however, find it difficult to see how one can be a debt deflation believer whilst supporting massive deficits and easy monetary policy designed to entice more debt and borrowings. It appears obvious that deficits and easy monetary policy would be largely ineffective compared to a solution that aims at debt reduction not debt promotion.

With all of this in mind I agree with my former professor Steve Keen. If the economy is too weak to tighten monetary policy and raise interest rates then surely a debt forgiveness or jubilee is needed. How this is implemented in a fair manner is a completely different discussion. Perhaps this blog may spark debate and open up an explosion of ideas and potential solutions. Whatever is achieved from this blog, this topic needs debating because the current path is likely more destructive and obstructive to recovery than it is constructive and helpful.

FED DECISION - EQUITIES WIND UP? OR UNHOLY UNWIND?

I know that I have written about the coming equities market correction for about 3 months now. I am also acutely aware that there will be a growing band of my readers beginning to doubt the call.
It is also evident even some of the brighter economic thinkers are questioning if there is an equities bubble!  Are they joking? Poking at me for a reaction? SERIOUSLY!

With all this in mind, the Fed decision tomorrow is the biggest decision since October when the infamous taper “head fake” caught the market by surprise. It seems to be some kind of game for the Fed, jawboning, taper talk, on again off again. Is it a test of market reaction? If it is then the Fed members are clueless. Market reaction should be obvious, just look at how it panned out in October!

The fact is, the decision that will be handed down tomorrow is HUGE. Make no mistake, I would love to see a taper for the economy, to end this insanity. I want my readership to understand that the underbelly of debt cannot be sustained and that that the only thing preventing the ultimate deleveraging depression is the Fed intervention in the bond market, the $85bn in QE life support.

So what do I see happening tomorrow? What will the Fed do? How will that play out for the equities market? What impact will it have on both the USA domestic economy and the global economy?


WHAT DO I SEE THE FED DOING TOMORROW?
Tomorrow I am tipping something special. Firstly I am going to go on the record tipping NO TAPER. The Fed has said time and time again that a tapering of QE is DATA DEPENDENT. If you take the Fed at their word, then how could they taper into the weakest employment environment in over 35 years?

It is not just the weak employment environment that is of concern. If you delve deeper into the data recently released on personal income and outlays for October, the case for a Fed NO TAPER is all the more evident. Looking at the report, it states that personal savings as a percentage of income had fallen to 4.8% from 5.2%. It also lowlights the fact that proprietors income decreased by $19.7bn. Below is the link for your perusal.


http://www.bea.gov/newsreleases/national/pi/pinewsrelease.htm


 If the Fed were to taper into weakness it will trigger an equities market correction, the “unholy unwind” as investors are forced into deleverage mode amidst rising interest rates and increased margin demands. There is no doubt in my mind thata December taper will only be temporary and its effect on markets will have the Fed doing the UNTAPER dance early next year, followed by the INCREASE QE groove not long after.

With household savings at a mere 4.8% of total household income, the economy would fracture if a Taper induced interest rate rise were to manifest itself. To give readers an idea, an interest rate hike from say 4.5% to 5% on a $350,000 mortgage would cost the borrower around $110 per month extra on their mortgage.

 Assuming that the borrower has an income of $800 per week, saving 5% of that is $40 per week or $160 per month. That 0.5% interest rate hike reduces household savings by $110 per month on the mortgage repayments alone. This in effect, reduces the borrowers’ ability to save by more than half!

With savings already at critically low levels this taper inflicted interest rate blow would take all the steam out of the property market. It is for this reason along with the poor employment outlook that the Fed, in my opinion, will maintain the status quo of QE $85bn per month.
I feel that if the Fed maintains the status quo the equities market will flat line, rather than rise as the law of diminishing returns reduces the boost the standard $85bn gives to the markets.

Setting aside the NO TAPER which I feel is a given, what could the Fed do to try and get some more activity out in the economy? When you analyse the recent Fed minutes the topic of lowering the 0.25% interest the Fed pays banks for excess cash reserves is mentioned as a solution to stimulating bank lending into the economy. Right now the banks have around $2.5Tn dollars in excess reserves parked at the Central bank earning a pitiful 0.25%.

I believe the Fed will maintain the $85bn in QE and at the same time reduce this 0.25% interest rate to perhaps 0.15% in an attempt to drive banks away from hoarding cash at the Fed and lend a part of the $2.5Tn in reserves into the economy.


The reason I believe this reduction in interest rates WILL take place is simple. There is not enough credit being created, or money loaned into the economy to sustain current asset prices. Margin loans used to prop up the stalling equities market have surpassed levels prior to 2007 and available “margin credit” is almost dry.

When this margin credit dries up, there is no more play money to continue inflating the asset prices and the game is OVER.  Below is an article in Zero Hedge that supports my argument that margin debt has peaked and that the equity markets are now stalling due to “the ongoing collapse in investor net worth”


http://www.zerohedge.com/news/2013-11-26/margin-debt-soars-new-record-investor-net-worth-hits-record-low


The above article suggests that the collapse in investor net wealth means available “credit” with which to continue increasing leverage into the market is approaching critically low levels. The article was written at the end of November and it appears that the Dow Jones Industrial Average peaked on November 27th at 16,100 points. Since then there has been some deleveraging in an attempt to try and free up some credit and as I type this blog the Dow closed at 15,875 points.


A link to the DJIA monthly chart is copied below :


http://au.finance.yahoo.com/q/bc?s=%5EDJI&t=1m&l=on&z=l&q=l&c=

The margin loan credit availability case has strength and merit. It supports my view that the equities market is on the edge, a debt bubble edge! The market is screaming for gas, sputtering like an old beat up car running on fumes hoping the Federal Reserve gas station is just around the corner.


The Fed knows that QE is now not enough to keep the equities and property market bubbles from bursting. It needs to get the banks creating the endogenous money gasoline and lend to the economy, something they have been unwilling to do as is evident by the mushrooming $2.5Tn in excess cash reserves.


The Fed will, in my opinion surprise everybody tomorrow with NO TAPER and at the same time a cut in the interest rate they pay for excess cash reserves. This must happen if the Fed want to keep the economic improvement illusion going.


If they do that tomorrow, Gold goes much higher, equities go higher also, and the bearded man BERNANKE gives Yellen the hand pass from hell, the ultimate poisoned chalice… couldn’t have happened to a nicer man… oops I mean Woman!

 

FINANCIAL SECTOR – THE PARASITE SUCKING THE BLOOD OUT OF THE REAL ECONOMY – MINSKY MOMENT PART II

So when is it going to happen Phil? That is the question I am constantly asked. I am sure many think that I am simply an economic doomsayer. I am guessing the next stage will be trolls calling me a stop clock, when it happens they will say, yeah yeah you were saying that 3 years ago… GIMME A BREAK!!  So I soldier on trying to convey and build my case.

It is becoming more apparent to me that the ultimate implosion is upon us. A Federal Reserve Minsky Moment that is imminent and when it strikes it will be the pin that pricks and bursts the biggest economic bubble the global economy has ever built, the global debt bubble.

I have written about this topic in an earlier blog titled “Global Debt Bubble Set To Burst – The Next Minsky Moment”. This blog will extend on my Minsky Moment analysis. I will set out to describe the bubble I feel will pop first along with the pin that pricks and ultimately bursts it.

There is no doubt in my mind that the global economy is on the cusp of one of the greatest economic calamities the world has ever seen. The economy, has, for far too long operated and relied upon a consumption based debt driven system. This is completely unsustainable as inequalities in foreign debt will eventually spill over when the time comes to finally settle.

The day of reckoning has already been seen in Cyprus, Greece, Italy, Spain, Ireland and Portugal just to name a few. We are also witnessing currency collapses and inflation breakouts in Venezuela and Argentina both of which are destined to enter the hyperinflation HALL OF SHAME.


I am sure many that are reading are thinking but aren’t these small economies, not worth a mention in the big picture? The short answer to this question is YES. The long answer is much more complicated because those that have that view are ignoring the risks the parabolic growth of the finance sector of developed economies have created.

The finance sector of an economy contributes very little in real production and savings, two key drivers to a prosperous and sustainable growth economy. The explosive growth in the financial sector has, metaphorically, developed into the leech that is sucking the blood out of the real production and savings economy, the engine room for sustainable economic growth.

The finance sector has grown exponentially and in many ways is strangling the real economy, ironic, given that it depends on the real economy for its very survival! The inherent risks this growth imbalance promotes stem from the systemic instability it creates.  As Minsky put it :


“The Financial Instability carries important real economic consequences. Financial markets are not quarantined casinos. Both their manias and their crises have powerful consequences for the real economy, where people work to produce real goods and services of real value”

Minsky understood that for an economy to grow sustainably a balance between the financial sector and the private sector real economy that produces REAL goods and services of VALUE needs to be struck. This equilibrium is assisted when the cost of borrowing (interest rates) are allowed to be set by a greater free market influence.

In a free market, interest rates are more likely to reflect the risks involved in a potential investment. This leads to the channelling of financial and other resources into avenues which develop and produce an increase in REAL production of goods and services of REAL value at the most economical PRICE. When the global financial crisis struck in 2008 the economy aimed to reset, equities markets collapsed in an attempt to balance the financial sector back on a path of sustainability. The fact is that 2008 was a market sent message that the financial sector had grown much to aggressively and was unsustainable.

As the financial sector of the major economies grew exponentially, there was a need to find new ways to feed the growth. Bank loan to deposit ratios were increased, equities trading added derivatives trading including options trading, forwards, credit derivatives, CFD’s and so on. Commodity markets followed and so did the forex markets and the financial sector growth spiralled out of control. The debt bomb was officially on steroids.

 The markets were turning into one giant casino, awash with speculators, speculating on what others may be speculating on might move the market not just today but into the future. Three, four, five levels of speculation, cycles, spinning so fast they make you so dizzy you felt like throwing up.
Derivative markets, a bet on a bet, margin lending, seriously people, STEP RIGHT UP, EVERYONE’S A WINNER!

Everybody thought it would just keep going, the stock market, the property market. Debt did not matter, the assets were going up. The growth in the financial sector has turned the global economy into, at best , a giant casino and at worst a miniature Ponzi scheme where success and profit is dependent on the next sucker stepping up to buy the old sucker out.


The financial sector is leeching the money from the real economy to create a money washing machine that achieves nothing more than aiding and abetting high grade speculation.
Global Central bank and policy makers have been complicit in attempting to keep this grand illusion going. Their joint interventions have attempted to pick up the pieces after each correction by reinflating the global economy in an attempt to paper over the structural economic problems that exist beneath the surface. It seems both are intent on applying a Keynesian monetary based solution to a global economy that clearly has a structural problem.


The world just needs a bigger bubble to get over the last bubble bursting right? For those that answered yes, you need to look up the definition of insanity! As the immortal Albert Einstein stated “insanity is doing the same thing over and over and expecting a different result”

With the Central Banks applying the “insanity” monetary QE approach to the structurally fractured economy, the real problems of 2008 are being exacerbated. The QE induced economy is growing the financial sector at an even greater speed and exposing the global economy to an almost guaranteed period of chaos and correction. Make no mistake, the result will be devastating.


If you do not believe this is happening you are ignoring the facts. Take a look at JP Morgan’s recent spate of fines for one misdemeanour after another. The LIBOR rigging scandal, the chatter about the precious metals market riggings. Another day, another scandal in the financial sector that is on steroids in fact the sector has grown so big that it is holding the whole economy hostage.


The growth in the financial sector has been precipitated by the multiples of EBIT applied to a new IPO vs the multiple an owner could get through a private offering. This has forced the shift in thinking from the private sector ownership to public listed companies.


The story of multiples of returns for an IPO compared to a private sale is compelling. When a company is sold from one private owner to another the company valuation almost always attracts a lower EBIT multiple than a publically listed company would. The reason for this is simple, the multiple will factor in perceived risk, growth evaluation and potential and the work of the new owner to achieve the outcomes they desire for the investment.


The private sector is more likely to evaluate key drivers to the success of a business. That is because the new owners are more often than not, stakeholders in the business and not just shareholders. Stakeholders are more likely to play a part in setting the direction of the business, formulating a business plan and playing an active role more generally. Surely this is a more prudent approach to investment than a publicly listed company where the shareholder is lured into a dividend yielding comparison apathy? Where trust is put in a CEO and not the combined thoughts and passions of stakeholders?


With this debt bomb building it is becoming more apparent that the global economy needs to reset and rethink its attitude to debt and the deflationary effects that it creates. It seems China has identified the fact that whilst creating a credit/debt driven growth economy may seem sustainable at first, the liquidity trap eventually captures the economy. This means that there is a diminishing rate of return with respect to dollar returned in GDP for each dollar of credit/debt created. In essence this what fosters a DEBT DEFLATION riddled economy.


It seems China is now recognising the fact that piling up debt and building a credit reliant economy is not the solution. China has noted that its own central bank balance sheet cannot keep expanding the way it has been to provide credit for its domestic economy and facilitate the debt driven economies of the world.

In a recent announcement on new economic reforms China signalled its intentions of exiting US Treasury purchases. In mocking the Federal Reserve monetary policy position, Peter Schiff quipped recently “While the Fed is talking about tapering, China is actually going to do it”. This highlights a significant shift in China’s attitude toward USA Debt and their exposure to it.

The reforms also included a more open approach to the once centrally planned dominated economy which will allow increases in foreign investment dollars to supply the debt it needs to keep economic growth going. The aim is to import some inflation through foreign investment.


There is also the looming question on whether a deal was reached between the USA and its major creditors that was settled with the implementation of “operation twist”. While the Federal Reserve was buying the Long term treasuries and swapping them for short term treasuries, was China on the other side of that trade? This ensures China has less exposure to long term treasury risks allowing them to "manage" their USA debt holdings in the event of a looming bond market collapse!

While the world focuses on The Fed’s ballooning balance sheet, many are ignoring the explosion of the Bank Of China’s balance sheet. Since 2008 China’s assets on the balance sheet expanded $15.4 Trillion. This is approximately four times the speed of the Fed bank balance expansion.


The fact is China cannot support USA debt any longer as domestically more credit creation is needed to keep economic growth going. It seems that the more credit and debt that is created, the less efficient that credit/debt creation becomes at assisting sustainable GDP growth. The evidence is that China will soon join the global economy in experiencing a debt deflationary economic environment.
Below is an article from Zero Hedge which discusses the underlying debt bubble in China.

 http://www.zerohedge.com/news/2013-11-19/big-trouble-massive-china-nation-might-face-credit-losses-much-3-trillion


The key point for me is not just the balance sheet explosion but the hidden erosion in effectiveness of debt/credit expansion in generating GDP growth.

As the article states “China’s lending spree has created a debt burden similar in magnitude to the one that pushed Asian nations into crisis in the late 1990s, according to Fitch Ratings”.
The article highlights the liquidity trap that unsustainable growth in credit/debt levels creates. The law of diminishing returns applies so as the article points out:
“As companies take on more debt, the efficiency of credit use has deteriorated. Since 2009, for every Yuan of credit issued, China’s GDP grew by an average 0.4 Yuan, while the pre-2009 average was 0.8 Yuan, according to Mike Werner, a Hong Kong-based analyst at Sanford C. Bernstein & Co”



With all of this said it is clear that China has its own problems, they are “all in” with their USA debt holdings and have burdened their great productive economy with a credit/debt time bomb that will be almost impossible to control.
Make no mistake the global debt bubble will burst soon. There is now a raft of supporting data that show the global economy has a debt deflation issue. Professor Steve Keen had written a piece debunking neo classical view on economics. The piece focused on the role of the banking sector and is a great read. The article is posted below.

http://www.businessspectator.com.au/article/2013/12/3/economy/neverending-debt-trap

Whilst Professor Keen focuses his attack on the ignorance of neo classical modelling for not incorporating the banking sector, my post has aimed at illustrating the flow on effects the banking sector has through credit/debt expansion and the impact it ultimately has on the “real” economy.
With all of this being said it appears that global Central bank balance sheets are imploding at a greater velocity than the growth in real GDP or economic growth it is aiming to generate. It seems to me that this accelerated central bank balance sheet implosion may likely be the pin that will eventually burst the global debt bubble and trigger the next MINSKY MOMENT.