Monday, May 18, 2009

Early Week Reading List

After spending much of the day yesterday walking around London until my toes were nearly bleeding, I've taken a few hours off from sightseeing to catch up on a little reading. Below are some of the better articles I thought worth passing along:

Chasing the Shadow of Money - Tyler Durden of Zero Hedge

I've got to say that Zero Hedge has taken the unequivocal top spot on my reading list. Typically his posts are shorter and more pointed, but in this one he takes to task a topic I've been dancing around for the last year. He starts with Frederich Hayek's reference to "shadow money" and goes on to explain in detail, how it so massively outstrips any other conventional measure of our money supply. He concludes that even though the government attempts to replace the contraction in this "private shadow money" with "public shadow money" are having some effect, it does not come close to making up the difference. He also concludes that the need to hold higher cash reserves (and the drop in velocity that is its inverse) will eventually doom any attempts at reflation.

Coincidentally, Prices and Production by Hayek is one of about 15 major titles on my summer reading list awaiting my arrival in Vancouver.

Asia Will Author Its Own Destruction if it Triggers a Crisis Over US Bonds - Ambrose Evans-Pritchard of the Daily Telegraph

I normally find myself in agreement with AEP, who is asking the relevant question in the Asian savings of US treasuries fiasco, "Who ultimately holds a gun to the head of whom?" It would seem rational that China and Japan, with trillions in US Treasuries, hold the advantage here. But I don't think it is quite that simple. Both countries have maintained illegitimate export economies based on suppressed currencies. If either or both were to tactically sell all their holdings, an obvious outcome would be the total destruction of their export economy and the productive capacity that has been built to support it. As Evans-Pritchard points out, the resultant unemployment, already a problem, would turn into a political nightmare for the characteristically paranoid Asian governments.

"If you owe your banker a few thousand pounds, you have a problem. If you owe your banker a few million pounds, your banker has a problem." - Keynes paraphrase

A Populist Interpretation of the Latest Boom/Bust Cycle - Ed Harrison of Credit Writedowns via Naked Capitalism

This post is primarily a rerun of a March 2008 article. In it, Harrison attempts to find the line between free-markets and political populist interventionism. Like many commentators, Harrison seems to do a fine job in finding the problems and injustices of our current social construct. But he fails in the same area as many others seem to. That is, he glosses over the effect that populist interventionism has played in bringing about the adverse qualities we have experienced from "capitalism." He falls into the trap that socialists and other big government proponents have laid out in response to this crisis. They claim that everything is the fault of poor regulation and a greedy cabal of sociopathic bankers.

I don't deny that there are sociopathic bankers and poor regulation at the center of this crisis. But I see them as symptoms of far different diseases than are commonly put forth. I'll touch on a few before I head out for tea with the Queen:

1. Regulation. It is not a lack of regulation that was the problem. It was the current construct of regulation that created implicit government guarantees behind anything that was under the watchful eye of regulators. With such impossible guarantees in hand, bankers took this as a license to print money (literally) without regard to the risks that it would normally have. Bankers knew that regulators (like the FDIC, OTS, OCC and Fed) would not let any large institution fail. So they went balls to the wall. They did whatever possible to ensure they were big enough to be considered "too big to fail." Absent regulation? Banks would have been smaller and would have taken less risks knowing that their institution could collapse if they were irresponsible. There would have been failures. But they would have been smaller and more manageable.

2. Manipulation by the Central Banks It should go without saying that interest rates, held too low for too long, will cause asset prices to rise unnaturally. Even this is acknowledged by most now - that the Fed does not know or cannot know what the real rate of interest should be. But it is not just the wrong interest rate that is the problem. It is a mandated positive rate of inflation that central banks target that breeds problems. This guaranteed positive rate of inflation encourages people to speculate wildly on the next bubble and to avoid saving money for risk of losing their purchasing power. This is what is really behind the "greedy" characteristic of people that are being persecuted. There can be no satisfaction with one's wealth knowing that over 25 years one will lose a minimum of half their purchasing power solely via inflation. To summarize, central banks cause a society of degraded values via its inflationary policies.

3. Legal Tender Laws. Another patently anti free-market characteristic of the previous boom/bust cycle has been the government's forceful insistence on using their currency, and nothing else, as a medium of exchange. By forcing regular people to use one currency, while (as Tyler Durden pointed out above) allowing the banks to, at a whim, create their own forms of "just as good as cash" fiduciary media, the government essentially does the job of widening the rich/poor gap all by themselves. Those who are able to put themselves first in line at the trough of newly minted "money" get rich to absurd degrees. Those that get it further down the line become increasingly dependent on the rising asset prices it creates, rather than increases in productivity and rising wages which result. And those that get it even further down the line, see everything they need rising in price, while their wages are perpetually stuck in the last decade. Poverty inevitably results.

There are many more, but Harrison, like many others before him, lacks the ability to see the relationship between cause and effect.


Disclaimer: The content on this site is provided as general information only and should not be taken as investment advice. All site content, including advertisements, shall not be construed as a recommendation to buy or sell any security or financial instrument, or to participate in any particular trading or investment strategy. The ideas expressed on this site are solely the opinions of the author(s) and do not necessarily represent the opinions of sponsors or firms affiliated with the author(s). The author may or may not have a position in any company or advertiser referenced above. Any action that you take as a result of information, analysis, or advertisement on this site is ultimately your responsibility. Consult your investment adviser before making any investment decisions.


Roger Jarema said...

Hi Matt,

On China, I'd like to get more of your insights, if possible. It's been claimed that China will overtake the US, China holds the upper hand of the US, etc. In your "European Squabbling Intensifies" thread, I made a posting. I'm wondering what your takes are. I think it will be an interesting discussion.

I also wanted to know if it is in your view that China might be the next Soviet Union.

Thanks in advance.


Here's my posting from the "European Squabbling" thread:


Nice takes there on China. So, while at it let's continue the discussion. I think China has a lot of hidden & interesting stories that many pundits fail to even give a slight glance.

Due to their centrally planned economics, they can do what the US can't:
1. they can force banks to lend (because most of their banks are state-owned)
2. they can force businesses to borrow (because the big ones are SOEs)

I guess that's why early in the year until recently, we had the news of China lending boom. Of course, the problem is/will be a moonshot of NPLs on the already astronomical NPL.

China has chronic NPL problem. In 2006 its NPL was 40% their GDP. They keep hiding it using AMCs.

There are already numerous rightful warnings about this... and that this can eventually collapse China. But it never, or I should say... has not materialized.
One example of that is this 2005 article:

With these problems, many experts are still saying that RMB will rise dramatically (by 30-40%) if China is not manipulating it. But God forbid... could the exact opposite be the truth? Mish and Frank Shostak seem to share this view:

So, what's your take on this? Do you also view that absent of manipulation RMB will actually crash against USD?"

Anonymous said...

As one can keep up with inflation with a low risk savings account, I'm unconvinced with your point that greed stems from inflationary policies.

Matt Stiles said...


I've put the links you gave on my reading list. I'll try to get to them once I get home. In essence, I think the China story is overplayed. Just like Japan was supposed to overtake the world by now. Whether it results in their economy or their currency collapsing is not something I pretend to know yet.


How many people actually became rich by putting their money in savings accounts over the last 20 years. Find me one. Just one.

Obviously, it is impossible. Asset inflation always outstrips the BS CPI inflation because of the aforementioned "shadow credit" that contributes to asset prices. "Everyone knows" the way to get rich is to buy tech stocks or condos. You know the drill.

"Inflation" is not determined by the CPI. But rather all the fiduciary media in the system.

Willy2 said...

This is - IMO - a MUST WATCH video. It features mr. William Black again. His opinions:
1. The stress test is a sham.
2. Geithner has a record of failure.
3. Don't trust the new earnings because they have changed the accountingrules for the banks.

I think you SHOULD post this video on your blog.

Occdude said...

I think you're "whistlin in the dollar cemetary". Japan is no China, not even close. Population, economic strategy, manufactoring base, financial position and land mass all very different. Your analogy between the two falls as flat as the Texas panhandle.

Deflationists make a great case for real estate and equity market declines, but their rescue vehicle (the dollar) is about as reliable as my 71 Ford Pinto and will be just as deadly if your caught in bonds or cash when the this thing blows. Caveat Emptor fellas.

mannfm11 said...
This comment has been removed by the author.
mannfm11 said...

Matt, I wish I was closer to your age and we were buddies, as this stuff has always fascinated me and it appears you are in the same boat. I haven't had much time lately and I read all I can, but I come back here to see what you have posted. So much for the nonsense, but you have put a lot of things together at an early age that few could.

I read the AEP article and I agree with his premisis. American money is a claim on American assets. Now the current administration might wipe out the value of the assets here the way they are voiding contracts (property has little value if title can't be held, as in the bond holders of Chrysler). There is very little in the way of property rights in China for foreigners, thus their currency has absolutely no value other than for domestic exchange. The capacity to hold Chinese securities on the international market is very limited. So, the only legitimacy China has in the way of money is the supply of dollar denominated assets, namely the US treasury securities. Also, they would fire their biggest customer. I don't believe the rest of the world has enough non dollar denominated or equivalent money to create the demand to run a few local kool aid stands.

China has its own debt problem. I think I got this link off AEP's website, but it is a guy in China named Michael Petis. He teaches economics at something like Bejing U. He also has a lot of information as to what is going on. He also believes the Chinese aren't prepared to make their own demand and that they are hoarding money. Also, I get the idea that he believes that the Chinese banks blew a hole in their own boat with this excessive lending. I recall Andy Xie or Stephen Roach saying repeatedly a few years back that China had non-performing loans of roughly 50% of GDP on their books back in the 2002 bear. Lastly, he notes that if the Yuan was tradable on the international market, it might collapse, as there is so much of it floating around in China.

I hope this link prints and I will be back. You are always interesting.

mannfm11 said...

Occdude, there will be deflation because what seems apparent right now won't be after this mess takes its next turn. The next turn is the governments of the world are going to be cut off. They are going to look at Obama and tell him that his next check isn't going to cash and he will have to face reality. They will replace Bernanke and there will be an international debt and currency crisis. China could very well collapse and the US could disintegrate, but the best I can tell is despite current appearance, socialism is about to collapse. The US will either collapse or deflate and in either case the world deflates. There is very little printed money. Gold bugs talk about Zimbabwe, but they destroyed the title to property and thus their good faith and credit means nothing. Debt all has a debtor who doesn't have the money to get out of debt. It isn't impossible we inflate because there is the chance of collapse, but as long as FRN's are taken as money in the US, they are probably going to have value in my lifetime. If the rest of the world industry wasn't dependent on US demand it would be absolute that the US was could hyperinflate very easily. The number of debtors on the margin that can pay has dropped significantly.

Roger Jarema said...

mannfm1, welcome to the chinese conundrums, mysteries, smoke & mirrors. the china topic is really one of the most puzzling & challenging to discuss.

one side (the majority) claims that it has enormous leverage over the US & when China dumps its US treasury holdings, the US along with USD will collapse. and also that the chinese will replace the US as the economic leader.

the other side is kind of divided. this side admits China will be in big trouble if the US stops buying their goods. but as the RMB "fair value" goes, most of this group still claim that RMB should strengthen against USD. among the very few minority that views RMB should collapse are Mish & Frank Shostak (as I presented in my posting to Matt above).

i tend to agree with Mish & Shostak (RMB will collapse if floated). however, there are still some puzzling matters about it:

1. if the fair value of RMB is lower than it is, then it must subsidize (dump USD reserves to buy RMB) for the current FX rates. consequently, it should diminish their FX reserves. but its USD FX reserves are increasing and still very high.

2. if it really wants to support its export economy, shouldn't they let the RMB float?

the doubts on no. 2 is not as strong as no. 1. for example, the answers for no. 2 could be that China is afraid that trade barries will be erected if RMB plunges. also that it will reveal how rotten their lending practices & economies really are.

no. 1 is still puzzling to me. however, a solid answer to that question will cast aside my doubts that RMB will collapse if it is floated.

socialism never works, let alone communism (a more extreme form of socialism). corruption never creates wealth.

i see that you put some interest in michael pettis' work. his recent works (US saving culture, distortions on Chinese lending environment & death of Asian economic models) are particularly interesting. i definitely recommend them.

Anonymous said...

Well even though the market is down today, the dollar is still tumbling. I believe the dollar is starting to collapse. I've increased the amount of metals I am purchasing.

View My Stats