Tuesday, June 28, 2011

Today's links

1--Soros: Euro crisis will result in defections, Pragmatic Capitalism

Excerpt: George Soros spoke in Vienna today and believes that the endgame for the Euro crisis will result in smaller nations defecting from the Euro. He said that Europeans will ultimately require a mechanism that allows for some sort of defection. Bloomberg quoted Soros as saying the crisis is developing and could result in collapse:

“I think most of us actually agree that (the Euro crisis) is actually centered around the euro… It’s a kind of financial crisis that is really developing. It’s foreseen. Most people realize it. It’s still developing. The authorities are actually engaged in buying time. And yet time is working against them.”

“We are on the verge of an economic collapse which starts, let’s say, in Greece, but it could easily spread.”

“The financial system remains extremely vulnerable.”

Soros is one of the few who has long understood the fundamental problem in Europe. The single currency system imposes a recessionary bias on countries due to the lack of a central treasury and mechanism that can offset the inherent trade imbalance that results from the lack of floating exchange rates between differing economies. Much like the gold standard once imposed, these trade imbalances ultimately result in unsustainable debt growth via budget deficits. The Europeans MUST resolve this central weakness in the Euro or the issues will persist and emerge time and time again in the years ahead.

I still think this means one of two things – Europe must become more like a version of the USA (or a United States of Europe) or they must allow the entire EMU to crumble while reverting back to some form of independent currency systems throughout Europe that existed previously. I don’t think that’s an option at this juncture. Too much time and effort has been invested in the EMU for it to be allowed to crumble at this point. What the Europeans need to resolve is the size of this United States of Europe. I don’t doubt that Soros could be right about defections, however, that would require the acceptance that defections are likely to include defaults and serious economic disruption. For a world that is enamored with bailouts and helping bankers at all costs I find it hard to believe that the Europeans will allow such a destructive result.

2--Rosenberg and the artificial recovery, Pragmatic Capitalism

Excerpt: In this morning’s note David Rosenberg has some good thoughts on the state of the recovery and why he sees H2 headwinds. More interestingly though, he discusses why the recovery has been largely artificial:

“What most economists are missing in their second half recovery prospects is the huge amount of fiscal withdrawal coming out way. And this retrenchment is ongoing at the state and local government levels where the muni bond bears earlier this year totally missed the situtation….

Indeed, this 2009-2011 recovery and cyclical bull market has been as artificial as the 2003-2007 expansion. That last one was fueled by financial engineering in the financial sector. This one is being underpinned by unprecedented government intrusion in the credit markets. As of this quarter, your government has replaced the private sector as the largest source of outstanding mortgage market and consumer related credit. So not only is the USA turning Japanese in many respects, it is also now resembling China where the government also redirects the flow of private sector credit.”

That’s life during a balance sheet recession. With the private sector in saving and debt paying mode government has been forced to step in and bear the burden. Get used to it. This “artificial” economy is far from making an exit. And if austerity comes in the next few quarters as Rosenberg sees then “extended period” might become something closer to resembling “permanent period”. Any economic downturn at this juncture has the potential to prolong the balance sheet recession.

3--China Auditor Finds Irregularities in $1.7 Trillion Local Government Debt, Bloomberg

Excerpt: China’s first audit of local government debt found liabilities of 10.7 trillion yuan ($1.7 trillion) at the end of last year and warned of repayment risks, including a reliance on land sales.

Financing vehicles set up by regional authorities already had more than 8 billion yuan in overdue debt, while more than 5 percent of such companies used new bank borrowing to repay loans, according to the audit, posted on the National Audit Office’s website and submitted to China’s cabinet.

“Some local government financing platforms’ management is irregular, and their profitability and ability to pay their debt is quite weak,” Liu Jiayi, the country’s auditor-general said in speech published today.

4--China to stimulate domestic demand: Wen, Reuters

Excerpt: China plans to stimulate domestic demand and reduce its foreign trade surplus to encourage balanced trade growth, premier Wen Jiabao said on Sunday during the British leg of a visit to Europe.

He made the comments during a tour of the Chinese-owned Longbridge MG Motor factory in Birmingham, central England, where he unveiled the first new MG Motor model in 15 years.

He also repeated his assurance that China would remain a long-term investor in European sovereign debt, saying China would lend to those countries experiencing difficulty borrowing.

"China has no intention to pursue a trade surplus," he told BBC television through a translator.

"What we want is to have balanced and sustainable growth of trade. At home we are going to further stimulate domestic demand and we are going to reduce our foreign trade surplus and our reliance on exports," he said.

5--Duration of U.S. Slowdown is Up for Debate, Bloomberg

Excerpt: The strength of the U.S. economy depends on whether you believe optimists like Mark Zandi or pessimists like David Rosenberg.

Economists Zandi and Neal Soss, who project sustained growth during the next six months, agree with Federal Reserve Chairman Ben S. Bernanke that the recent slowdown in consumer spending, manufacturing and gross domestic product will be transitory. They point to two years of expansion in the world’s largest economy and rising corporate profits as signs that GDP is poised to pick up.

The U.S. is “measurably stronger today than a year ago,” said Zandi, chief economist for Moody’s Analytics Inc. in West Chester, Pennsylvania. “You can see it in the job market. At that time, job growth had just started to resume; now 2 million private-sector jobs have been created.”

Rosenberg and Ethan Harris predict the U.S. will struggle as some fiscal-stimulus programs end and federal, state and local governments continue to slash budgets. Companies aren’t likely to use their record earnings to accelerate hiring, the economists say, while no one knows exactly how long it will take to resolve the European debt crisis and repair factories in Japan following the earthquake and tsunami.

“To say that the air pocket that we hit in the first quarter was all transitory is a mistaken view,” said Rosenberg, chief economist at Gluskin Sheff & Associates Inc. in Toronto. “The whole recovery’s been a soft patch.” Another recession “is practically baked in the cake, barring another round of policy stimulus.”

6--China’s Shadow Banking Looks a Lot Like Sub Prime Alt-A Market, economonitor

Excerpt: Month over month lending in the Chinese shadow banking system continues to report astounding growth numbers. Most of this is due to tighter lending and underwriting standards in the more formal channels. This suggest to us that despite their best efforts the central committee is having a tough time regulating the explosive growth in credit that now very much threatens their ongoing expansion....

Pump up the Volume

As interest rates have risen we are unsurprised to see these lending volumes grow. As was the case at the height of the US based lending boom, people fled the traditional mortgage originators and went to the cheapest money they could find – often coming in the form over very flimsy and opaque financial institutions.

We fear China is now experiencing the same kind of build up. But as they say, “on with the show!...

More signs that investors and those seeking liquidity are going for non-traditional sources of funding is reflected in the forward looking volume expectations....All of the above noted, the first signs of weakness are starting to show. As if often the case in markets that are rolling over, we are seeing a true lack of forward pricing power....

Deadbeats Rising

And, the final chapter of this first book suggests to us that our hero – private sector lending – is very much in trouble. While delinquent loans haven’t quite lead to Maddoff like negative cash flows, the month over month increase is meaningful.

With Shibor having rocketed up to new heights over the last week, the idea of a soft landing may have evaporated along with the once tight spread. If a correction in property comes and financial institutions are impaired China will need all of the current account surplus they can find to clean up the books. They have been doing this already in failed muni loans.

Property is next. Maybe Mssr. Chanos is right…

7--The New Thirty Years’ War; Winners and Losers in the Great Global Energy Struggle to Come, Michael Klare, Toms Dispatch

Excerpt: A 30-year war for energy preeminence? You wouldn’t wish it even on a desperate planet. But that’s where we’re headed and there’s no turning back....

Why 30 years? Because that’s how long it will take for experimental energy systems like hydrogen power, cellulosic ethanol, wave power, algae fuel, and advanced nuclear reactors to make it from the laboratory to full-scale industrial development. Some of these systems (as well, undoubtedly, as others not yet on our radar screens) will survive the winnowing process. Some will not. And there is little way to predict how it will go at this stage in the game. At the same time, the use of existing fuels like oil and coal, which spew carbon dioxide into the atmosphere, is likely to plummet, thanks both to diminished supplies and rising concerns over the growing dangers of carbon emissions....

The Existing Energy Lineup

To appreciate the nature of our predicament, begin with a quick look at the world’s existing energy portfolio. According to BP, the world consumed 13.2 billion tons of oil-equivalent from all sources in 2010: 33.6% from oil, 29.6% from coal, 23.8% from natural gas, 6.5% from hydroelectricity, 5.2% from nuclear energy, and a mere 1.3% percent from all renewable forms of energy. Together, fossil fuels -- oil, coal, and gas -- supplied 10.4 billion tons, or 87% of the total.

Even attempting to preserve this level of energy output in 30 years’ time, using the same proportion of fuels, would be a near-hopeless feat. Achieving a 40% increase in energy output, as most analysts believe will be needed to satisfy the existing requirements of older industrial powers and rising demand in China and other rapidly developing nations, is simply impossible. ...

From this perspective, giant nuclear reactors and coal-fired plants are, in the long run, less likely to thrive, except in places like China where authoritarian governments still call the shots. Far more promising, once the necessary breakthroughs come, will be renewable sources of energy and advanced biofuels that can be produced on a smaller scale with less up-front investment, and so possibly incorporated into daily life even at a community or neighborhood level.

Whichever countries move most swiftly to embrace these or similar energy possibilities will be the likeliest to emerge in 2041 with vibrant economies -- and given the state of the planet, if luck holds, just in the nick of time.

8--No Pain, No Gain?, Paul Krugman, Slate, Jan. 15, 1999 via Economist's View

Excerpt: What really struck me in Skidelsky's account, however, was the extent to which conventional opinion in the 1920s viewed high unemployment as a good thing, a sign that excesses were being corrected and discipline restored--so that even a successful attempt to reflate the economy would be a mistake. And one hears exactly the same argument now. As one ordinarily sensible Japanese economist said to me, "Your proposal would just allow those guys to keep on doing the same old things, just when the recession is finally bringing about change."

In short, in Japan today--and perhaps in the United States tomorrow--behind many of the arguments about why we can't monetize our way out of a recession lies the belief that pain is good, that it builds a stronger economy. Well, let Keynes have the last word: "It is a grave criticism of our way of managing our economic affairs, that this should seem to anyone like a reasonable proposal."

9--Obama joins talks on massive US budget cuts, WSWS

Excerpt: Since this round of budget talks began, in early May, the Obama administration and the Democrats have retreated steadily before the demands of the Republican right, although the Republicans control only the House of Representatives, while the Democrats hold both the Senate and the White House.

The Democrats began the talks by accepting two of the three main conditions set by the Republicans: that any measure to raise the debt ceiling should be tied to massive cuts in domestic spending, particularly in entitlement programs like Medicare, Medicaid and Social Security; and that the dollar amount of the increase in the debt ceiling would be matched, dollar-for-dollar, by the amount of deficit reduction.

The third condition set by the Republicans, and dramatized by their walkout Thursday, is that the deficit reduction come exclusively from spending cuts, with no increase in taxes on any section of the wealthy or big business.

The so-called breakdown of the talks Thursday was a largely orchestrated affair, designed to allow the Democrats to posture as advocates of tax increases for the wealthy and corporate interests before their inevitable and completely predictable cave-in.

The “collapse” and subsequent resumption of the budget talks were likely prepared the night before Cantor’s much-publicized “walkout,” when House Speaker John Boehner visited the White House Wednesday night for a closed-door meeting with Obama, which went unreported for several days.

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