Wednesday, February 25, 2009
From the trial balloon float of the "Obama-Biden Plan" which allowed Obey to use as a base to write H.R. 1, the stimulus plan. The plan is not Keynesian in nature and will, through simple accounting identities, not offset the rise in savings and the drop in consumption (at one point 70% of the USA NGDP). Simple analysis along the lines of Kelecki-Levy (see previous posts) suggest that SPX earnings - if this is what we have - will be around $30 for 2009. The risk premia per annum in the long intermediates is moving back to pricing deflation as the main risk, close to negative. This means the $30 for SPX 2009 earnings is not a technical one time event but endemic and likely to go lower.
Expectations are being destroyed.
This is a classic preamble of a debt-deflation spiral (Fisher) - though most of us thought we would never encouter this for real and it would never leave the text book pages and be kept as a strange economic history of our grandparents.
The graph shows the SPX noting key releases of Obama's fiscal plan and the market pricing per annum of the risk in holding long intermediate risk free bonds. Basically positive numbers show the market is concerned that the Fed will restrain inflation and maintain their "full employment" mandate. With negative values the market is pricing risk of the opposite that the Fed will have to manage deflation and reflate the market (depression).
Friday, February 13, 2009
I have to confess something - and this might explain alot to anyone still reading these things. All the success I have had in "trading" markets or at least responding in an adequate defensive way, has come from 3 key sources. 1) Inside the Yield Book; 2) Fear and Loathing in Las Vegas; 3) Monty Python. Since all three sources are considered too shallow or bizarre to be so fundamental for anyone in responsibility, I get my key idea from these three sources and then dutifully dig and prod within a whole massive array of ponderous technical and literative and current market info sources. I mean I do do my hours of study. But, and again this might not reflect well on me, I usually find that the brief insight I received from those three core sources are 95% of the core explanation for my actions. So far these three sources have served me well.
In the current debate and criticism of executive pay, the following from Monty Python immediately leaped into my mind:
Thats about all you need to know to understand how important, how critical, and how effective the Wall St executive pay issue is in the context of our current crisis.
The executive pay issue is solely to appease the mob by the leadership and buy some time and carry on in their own rule. Entertainment to try and ease some fear and developing pressures with the peasants.
But this issue could end up being one of several reasons why we get distracted and completely blow it as we feel we have accomplished something with "burn the witch".
(Oh, in the film snippet above, beautiful gem of a "knight" leader pondering and wrestling with a bird and a coconut - our House and Senate wrestling with key economic variables in regards to the H.R. 1?)
Thursday, February 12, 2009
The green line which was only a few billion for many recent years and actually negative recently as folks liquidated savings to maintain lifestyle as home equity and revolving credit became unavailable, and is now on a sharp upward trajectory. The orange line is obviously effected and assuming a small drop in consumption in terms of share of GDP and the drop in consumption being matched to some degree from the rise in savings, I come up with a $1.2 trillion hit to the economy. The blue line tracks the history of the saving rate showing a return to 10% being the norm before we had "securitized nation", and then likely going on to 15% as fear and loathing develops.
I move the annual trade deficit from $700 billion per annum deficit to $300 billion deficit per annum.
It is highly unlikely that China has positive GDP this year which from their stated views would result in an incredible - 7% output gap.
The grid of the major variables to derive the Kalecki-Levy identity for corporate profits from a macro perspective is:
The 740 bil per annum is the amount of derived corporate profit for the USA suing this identity, about 40% of earnings close 2007.
I then try to figure out the share of SPX earnings over time of the corporate earnings for the whole country - should be similar to earnings ratio of Wilshire versus SPX.
I then calibrate the above and find that SPX earnings graph out to $30 for 2009.
Hard to not to see SPX at a single digit multiple in that environment and the index sub 300.
This is a real market way to examine how important it is to provide a stimulus offset to that rise in savings and drop in consumption. By definition has to be at least $1 trillion assuming a money multiple of 1. Most I have read is a tax cut multiple if it is "demand side" will have a multiple of .2 and spending around 1. So H.R. 1 might possibly provide about $400 bil of offset to this drop in consumption which would be about $45 SPX 2009 earnings.
Lastly the texture of the equity market is dangerously stressed. While VIX has waxed and waned and seems well off the 70% plus levels of the worst of November, the long dated vol, 1 year plus is over 40% and has stayed over 40% since November. This implies a 2 1/2 % move on average for the next several years in the daily SPX. Untenable. Something will break to move volatility for the long run to sub 1%. Usually some cataclysmic natured event occurs which just eliminates all reasons to speculate, to defend or to prosper is what will move long dated vol back down.
Saturday, February 7, 2009
Everything I have read or know suggests that not only is the following the recommended plan, but it is what will occur. There is a tremendous force based on basic principles of double sided national accounting always present. Every asset has a liability and vice versa. Books will balance just as waters will find their level. This is why in past work I constantly evoke Pacioli - the monk in the Renaissance who invented double sided accounting - as the obvious logic of national accounts settling is perhaps a more important driver now than Keynes. Perhaps.
What one should always remember is what we take for granted - national accounting system of GDP and various sectors is a recent invention coming post-Great Depression. That Keynes's failure to capture FDR's attention (where the one time FDR met Keynes he was very unimpressed and baffled with all his "numbers") was there was little if no data set to work off - Keynes was all conceptual and abstract. It wasn’t until Simon Kuznets "invented" the national accounting system (based on his 1941 academic work) that we had a temporal and quantitative base to discuss the qualitative Keynesian theories.
So with the data record of national accounts available and understanding the inevitable power of national dual sided accounting - here is not only my suggested plan but, given the unassailable power and position of the USA in reality, what will occur as water seeks its natural level.
We will do the following either through thoughtful deliberate pre-emptive and anticipative policy or we will have to respond to foreign and domestic pressures in ad hoc approaches that produce the same. The later will be painful and likely have to go though the crucible of war and internal revolt to achieve what can be implemented now.
There are two major areas to address - the international accounts and the domestic accounts.
The international accounts clearly produced massive imbalances which are the root to the entire current crisis - Wen to the contrary regardless. The USA has to return to exemplary exceptionalism and both realize and accept the extraordinary power differential between the USA and everyone else as well as the fact that the USA has to be the beginning and the end of any solution. With the admirable goal of world peace and stability, the USA has allowed key regions to produce capacity that the only use of is exporting, or the USA has allowed commodity producers to form cartels and have extraordinary pricing over and above any reasonable cost of production or utility of the commodity. These trade imbalances were allowed to occur at first to offset the importance of the USSR and also to relieve domestic pressure of the exporters so that dangerous instability did not occur. It should always be remembered that Pearl Harbor was the direct results of not allowing these imbalances to occur.
But now those imbalances have to be administered and managed, recognized for what they are, identified and quantified, and accounted as a good the USA allows and applies. The true nature of USA strength and scope has to be acknowledged by the exporters and peace and stability guaranteed. The imbalances can exist but they must be controlled by the central monetary policy of the USA and just as weekly "float" in various money supply is "sterilized" by monetary policy devices offset, so must these imbalances be "sterilized". Imbalances must not be allowed to be invested in any USA assets but for a foreign account ledger on the balance sheet of the NY Fed. If other, private sector US dollar assets are sought by the exporter by money raised through imbalances - then currency adjustment must be insisted upon so the exporter hasa choice - either that the imbalances are allowed to be controlled by the USA Fed are a equitable terms of trade imposed such the imbalances cease to exist.
This is similar to the rules Rome imposed on much of the areas where they held suasion but were not provinces - it was pax Romana. A pax Americana must be developed.
The UN based on equal votes for any nation state unit must be either revamped or eliminated so that it is inline with the realities of pax Americana. The problem of course is few will believe that the USA is of such a status and likely will require a war to prove it out.
But in the end the following policy will have occurred:
1. Eliminate the UN, mandate all global US dollar imbalances resulting from trade or commodity sales to the US must be kept on the balance sheet of the Federal Reserve as a "customer account".
2. Chinese membership in GATT to be rationalized and re-examined. GATT with voting based on GDP replaces the UN.
3. All countries accept the above in terms of trade with the USA or they have USA tariffs applied or embargos such that un-economical terms of trade are eliminated.
4. All excess capacity in exporters to the USA that is basically human capital is examined and all people that meet certain qualitative standards and wish to seek it, be allowed a visa for immigration to the USA and the process form visa to Green Card to USA citizenship be expedited to a few years. A massive immigration wave to the USA is to be encouraged and developed. Qualification is based upon fluency in English, oath of allegiance, bonded to not be wards of the state for one year, health, and base education of trade, high school, or net worth. The standards to be applied to only the individual or nuclear family not extended family. The goal is to double the USA population and rejuvenate the cities and to move excess capacity abroad to some degree onshore. (National Act of Relocation and Processing 20 bil - administered through Homeland Security)
5. The standards of a two front war and nuclear deterrence are increased to Petraeus 4 locale at one time surge capability. Necessary expenditure applied. ROTC and educational programs expanded. (National Defense and International Peace Act 200 bil)
6. A permanent rapid deployment international welfare capability is developed distinct from the military developed. Force to have world wide "strike" capability. Intent is to supplant and replace most welfare NGOs eliminating their power and improving their effectiveness. Size of this "Peace Force" to be comparable to the military in reach and scope. (National International Support and Stabilization Act "The Peace Force" State Dept 100 bil)
Domestically, phase two of the "city on the hill" has to occur. In a nutshell this is to return the national government as adjunct to the state and local as the constitution outlines: "powers not delegated to the United States by the Constitution, nor prohibited by it to the States, are reserved to the States respectively, or to the people." This is very important in this current crisis not in terms of what prompted the Civil War, but in terms that the state and local are the only efficient channel to provide the stimulus spend required.
The best work I have read on this is Jane Jacobs "Cities and the Wealth of Nations" which seems a bit over strident in promoting a return to nothing but "city-states" does make key discoveries as to the reality of economic flow and the process of growth. She also successfully shows how cities are also the "kernels" for trade and commence. The stimulus flow must be directed through large metropolises and administered through them as much as possible, then the states, and then the national levels only in terms of how this augments or assists the cities - such as transportation and communication. The national level is also where oversight and policing of financial markets occur.
But if the stimulus does not follow the state and local channels it will be at best ineffective and only serve to provide a "power grab" by national entities or will simply be lost in corruption.
It is critical to understand where we are in energy. All green policies must be in terms of not carbon or global warming, but in terms of zero emissions standards or close to it and not for global warming but just for smell, taste, and health reasons. If the immigration wave is to occur we require a clean healthy place to live. Therefore, as before, it will be commerce which will drive environmental improvements. Bio fuel policies must be eliminated - they are solely an attempt to avoid the harsh facts of national security and to be a windfall for the likes of Archer Daniels - it is similar to why we gave such a disgusting gift to rich Cuban immigrants in the form of sugar plantations in the Florida Everglades - this was solely for national security sugar availability. I put bio-fuel in the same relam as the Florida Everglades sugar policy.
So the programs domestically:
7. The National Metropolis Development Administration. Chaired by a rotating mayor of a qualified USA metropolis. 300 bil
8. The National Bridge Tunnel and Port Authority (modeled after the one Moses created for NYC metropolis) Oversight by board of Senators, Congresspeople, Sec HEW, and State Governors and chaired by a rotating state governor. 200 bil
9. The National Transportation Administration Dept of Commerce Charged with developing a national high speed passenger and freight capability, national internet broadband, and commodity transportation (pipelines) 150 bil
10. The Appease the Gullible Mass Hysteria and Wishful Thinking Authority Dept of HEW and Dept of Commerce Explore new energy sources and go where no man has gone before. 10 million.
It is critical that the stimulus measures be understood not only to solve the immediate problems but to set a livable template for the next century for the USA ad given our massive footprint also for the world. It is also critical to understand that we are designing this bill currently in the wrong branch of government.
Obama has to declare a national emergency - similar to war measures act - and take the responsibility for the design of these programs and their implementations to the executive. Congress is to only use their veto capability and only in terms of "appropriations" powers. We will never have success with congress designing and implementing these needs. So, given that the stimulus as written is assured to fail and given the extreme emergency such failure will produce, the executive will be in charge of this area in any case. It would be best not to go through that stage.
Peace Force.............................100 bil
City Bank.................................300 bil
Bridge Tun Port Auth............200 bil
Nat Transp..............................150 bil
Phase in: over 3 years - all placed in near "escrow" type facilities so financing arranged and certainty provided so expectations can price accordingly.
Back to Keynes - this will be an offset to the critical drop in consumption and rise in savings we are observing. This will forestall a depression. Size can be increased but it should be noted that almost all of this expense will result in a public investment of high utility which can be privatized down the road or maintained in the public sector to make available these channels in the future.
It should be noted as well that it is impossible to end with a solution, especially if we approach this solution the hard way via evoking a crisis from failed policy, that the military elements are crucial. Without a doubt we will either have a war before this is over or come close to one. Massive increase in military capacity might very well prevent a war. There is a dangerous idea of equivalency in most geo-political considerations as thats what gets certain academics jobs and writing assignments with extra-national entities like the UN or NGOs or even teaching posts with most universities. It is a very dangerous myth as the USA has never been stronger and other key international states comprably weaker. This myth along with extreme political pressures at home, as the world discovers how high the correlation their economy is to the USA, will lead to neo-fascist international adventures to alleviate pressure directed at national leadership. We must show quickly that any hard power is not an option.
Friday, February 6, 2009
Thursday, February 5, 2009
The oil contango is obvious and well commented on.
Current weekly unemployment claims:
It is pretty hard to not perceive a major move in the oil contango occurring shortly - or we suddenly spring upwards with growth in 2nd Q 09 GDP. Take your pick. The oil move to come is about $15. My bet is it occurs in the forward dropping which will also require spot oil to drop as well, though not as much.
Tuesday, February 3, 2009
Congresswoman XXXXXXX (NY-XX)
Is there anything I can do for your office in terms of data or input? The below outlines the cash flows of HR 1:
and - which is the motivation of HR 1 - the following is in the process of playing out:
The above grids are 2% increments, showing output gap will be a negative 8% in 2009. That is, the GDP for 2009 will be 8% less than "full employment" economy. That 8% is roughly 1.1 trillion dollars of GDP which will not occur.
That will result from a combination of a drop in investments both public and private and more importantly a drop in consumption because Americans either lose their employment or they raise their savings instead of consumption, Jam tomorrow versus jam today.
Most economists and market forecasters, right and left, are in accord with the above numbers.
The auto sales numbers for the month of January proves this out as all autos from all manufacturers or types is down 30% to 40% .
If the above $1 trillion is not replaced by public sector investments - popularly called fiscal stimulus - the resulting tragedy above will confirm the conditions which prompted the fear that resulted in savings. Folks will consume then even less and save more. This is the "Fisher Deflation Debt Spiral" That would induce an even deeper depression.
Much could be done to offset the above if we could turn the tide and replace a significant part of the drop in private investment and consumption with public investment. Since public investment is just that - the acquiring of an asset for future return - it is not a spend but rather the expansion of the public sector balance sheet. The fact the Federal Reserve has grown their balance sheet from 700 billion to 2.25 trillion shows that the "money" is available. This would not be a burden on future generations as the offsetting asset would have social utility and value.
The above cash flow of HR 1 shows that the actual spend for 2009 in terms of any economic consideration is about $29 billion - perhaps a bit more for those monies for direct transfer payments like food stamps and medicaid.
This incredible small size will assure the above output gap occurring.
The next year's $120 billion will not really do much as by that time the environment will motivate people to save even more and the private sector to invest even more.
Simple logic will allow you to conclude that all transfer payments and tax fixes, unless for goods certain to be spent like food stamps or health care support, will just be used to facilitate savings. Therefore only a fraction of the amount over $29 billion will do anything, and certainly nothing is to be found to offset the $1 trillion drop in consumption.
As written HR 1 is almost certain to be the legislative product which will go down in history as the single most disastrous piece of legislation ever written by Congress. Given the above, and unless you can find some mistake in what I say above, your own logic will lead you to agree.
The 8% output gap is a depression.
It will result in well over 10% unemployment and with momentum in unemployment such that it will be very difficult for it not to go to 15% or higher.
This would invariably lead to massive tension in our urban areas.
It would most certainly lead to rage with the political leadership in allowing this to occur.
While we suffer, almost all our offshore friends and associates will be suffering even more so. The whole "multi-polar" world with countries economies going at different paces and cycles has shown to be a chimera. Every OECD and all large developing countries are now moving in lockstep with the developments in the USA. If our output gap and depression of 8% occurs, it will be double or triple that in every other country in the world.
Extreme international tensions will develop resulting in protectionism and then likely conflict.
I started writing my Congressional Representative's office, my Congresswoman XXXXX, in September of 2008. Unfortunately everything I have portrayed and warned your office about has resulted pretty well as I outlined. My credibility with your office and with Congresswoman XXXXX should be large.
I am begging Congress to reverse this approach shown in HR 1 and write in a significant public investment to at least partially offset the already occurring drop of private sector investment and consumption.
If this does not occur it is very unlikely either of us will have a job as my employer will be likely crushed and Congresswoman XXXXX returned to the private sector.
I remain to do all I can for Congresswoman XXXXX.
I hope she is reading these emails or briefed - again I point out (again I wish it were not so) - my almost perfect track record as we have gone through this crisis.
There is yet to be a sign that Congress has secured dedicated and knowledgeable advice during this most serious national crisis. When we were at the low points in Iraq, did not Congress seek out and listen carefully to those who have made a career in war craft, the Petraeus types of the Army? Did Congress ever feel, no matter how fierce the appropriate criticism, that they could devise national war policy themselves?
Why is Congress drafting and then passing HR 1 as a normal political budgetary process? It is not. HR 1 is supposedly the answer to a severe national emergency. It's drafting should require careful deliberation of our most highly trained experts which Congress should review and offer critique, but should not author. It is clear by the HR 1 no experts were really consulted. CBO staffers are not experts. Congress who have written many budgets are not experts in this particular emergency.
I am afraid that if we carry on as we are the public rage that Congress is deflecting to my industry, along with the press, will exhaust itself with Wall St after it realizes what small fry toll keepers we are, and then swing appropriately to the true cause of their misfortune.
Please avail yourself of my help. You have no reason to not consider my input most carefully, given the complete success I have had in predicting our current status, starting from my first email to Congresswoman XXXXX in September 2008. If called upon I will do all I can to help. I consider this country under the same degree of risk as in a world war.
Income transfer/support payments will be saved in this environment - so too with tax cuts assuming the businesses are still alive and turning a profit and the individuals have income to pay taxes upon.
That leads $29 billion in actual spend in 2009 and $120 billion in 2010.
In a typical Keynesian type of logic I use a Kalecki-Levy identity to figure out what the percentage of GDP will be corporate profits. (Go here if you wish to read on Kalecki-Levy http://ideas.repec.org/p/wpa/wuwpma/0004056.html )
For 2009 (which I provide a graph for below) the % of GDP corporate profits assuming an increase of savings to 7% and a fiscal spend of 29 billion is 4.75% for the usual 10% to 12%.
Calibrating that to SPX annual earnings, that moves the $70 to $90 corporate earnings to $27, down from the usual $70 to $90. At that point multiple will be no more than 10X, so the SPX will be less than 300, a drop of another 70% for 2009.
When the additional $117 billion kicks in during 2010, the psychology will be so dire such that savings will undoubtedly go well past 10% and the multiple contract further so any earnings increase will be offset by savings increase and then the decreasing multiple will likely make for negative returns for SPX in 2010.
The identities and formulation for Kalecki Levy is rather straight forward and we have more than enough real savings number, industrial production numbers, inventory , and other data that if we use the $29 billion as the independent variable - this is not a very strident or contorted conclusion.
Monday, February 2, 2009
The total expansion of Federal Reserve footing is substantial:
But the size of the footing is being reduced. The commercial paper facility CPFF reduced by almost 90 billion last week and foreign central bank funding lines via large currency swaps also reduced. The is an obvious improvement. If this carried on, and it seems it will, it seems the Federal Reserve has been completely successful in restoring liquidity.
The majority of the Federal Reserve expansion to the crisis has not been in the AIG and dealer fundings, contrary to the press and public perception. Rather it has been in two areas, commercial paper purchases and also foreign swap likes to central bank where the Fed for an agreed unwind level at an agreed time , is credited by a foreign central bank and amount of foreign currency and in return the Fed credits that foreign central bank and amount of dollars. These dollars are then deployed by the foreign central bank in various US dollar denominated support operations in their respective countries.
The size of these swap lines is striking, peeking at 600 billion last quarter and currently at 465 billion. That combined with the CPFF facility totals to over 800 billion of additional Federal Reserve "factors" or bank credit provided.
One can see the improvement in the relationship of Fed Funds versus one month LIBOR in 2 year swaps, correcting to below 20 basis points (.20%) at levels indicating fully functioning and liquid bank credit money markets.