Monday, October 31, 2011

Competitive Devaluations: Japan Intervenes to Curb Yen gains for the Third Time this year

Japan intervened in the currency market today, to allegedly halt a rising yen. Today’s action is the third intervention this year.

From Bloomberg

The yen dropped by the most in three years against the dollar as Japan stepped into foreign-exchange markets to weaken the currency for the third time this year after its gains to a postwar record threatened exporters.

“I’ve repeatedly said that we’ll take bold action against speculative moves in the market,” Japanese Finance Minister Jun Azumi told reporters today in Tokyo after the government acted unilaterally. “I’ll continue to intervene until I am satisfied.”

The yen weakened against the more than 150 currencies that Bloomberg tracks as Azumi said that he ordered the intervention at 10:25 a.m. local time because “speculative moves” in the currency failed to reflect Japan’s economic fundamentals. Today’s drop reversed this month’s previous gain by the yen against the greenback, which came amid speculation the Federal Reserve may add to stimulus measures as the U.S. economic recovery stagnates.

Statements like this “I’ll continue to intervene until I am satisfied’” might mislead people to think that political authorities really have the power to control the markets.

It is true enough that their actions may have a momentary or short term impact.

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That’s the yen headed lower following today’s intervention.

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But from a one year perspective, the first two interventions eventually resulted to a HIGHER and NOT a lower yen (blue uptrend)! The initial intervention was in March 18 where the BoJ bought $1 billion and the second was in August 4, both interventions are marked by green ellipse.

Talk about hubris.

Nevertheless, the inflationism or competitive devaluations being undertaken by Japan has hardly been about exports—why prop up exporters when this sector account for only less than 15% of Japan’s GDP?

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Instead, like her contemporaries, the devaluation has been meant to prop up Japan’s rapidly decaying debt laden political institutions of the welfare state-banking system-central banking.

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Japan’s government has the largest share and has the biggest growth of Japan’s overall debt (McKinsey Quarterly)

And as the great Ludwig von Mises wrote

The devaluation, say its champions, reduces the burden of debts. This is certainly true. It favors debtors at the expense of creditors. In the eyes of those who still have not learned that under modern conditions the creditors must not be identified with the rich not the debtors with the poor, this is beneficial. The actual effect is that the indebted owners of real estate and farm land and the shareholders of indebted corporations reap gains at the expense of the majority of people whose savings are invested in bonds, debentures, savings-bank deposits, and insurance policies.

It is sad know how politicians misrepresent what they stand for and use class warfare or supposed underprivileged sectors to rationalize the imposition of what are truly designed as self preservation measures.

Put another way, the BoJ’s serial devaluations has actually been meant to illicitly transfer the resources of the average Japanese citizens to the political class and her banking system. Incidentally, the latter, like the Euro counterparts, has been under strain.

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From Bloomberg (Topix Banks index)

Share prices of Japan's banks have slumped since 2007.

So much for blabbering about public interest. Devaluations are all about political greed.

Philippine 100 Peso Commemorative Bills and the Philippine Political Economy

Yesterday I was surprised to see the freshly printed moneys I received as change from a popular fast chain came with an embossed stamp from an elite law school.

I looked up the web and discovered that such stamp had supposedly been meant as commemorative to the 75th Diamond Jubilee anniversary as shown below.

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Ateneo alumni President Aquino was a guest speaker and received the plaque of special issue from the Philippine central bank, Bangko Sentral ng Pilipinas (BSP) honcho Mr. Amando Tetangco at a recent ceremony

And this has not just been for Ateneo but also for state school University of the Philippines (100 peso bill pictures of Ateneo and UP from rightonthemark)

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People don’t seem to see anything wrong with this but I do. I see these actions as symptoms of a deeply seated social disorder which continues to plague the Philippine society.

My point of inquiries:

1. Why Ateneo and University of the Philippines (UP) and NOT other competing law schools such as San Beda, UST, FEU, UE, Pamantasan ng Lungsod ng Manila, University of San Carlos, Arellano, Lyceum or St. Louis University? What's so special with UP and Ateneo?

2. Why law schools instead of engineering, computer science, sciences, liberal arts, culinary or other schools with different specialization? What's so special with law schools?

3. Why schools and not some other private sector interests (charity, socio-civic groups etc)? Why the predilection for schools?

4. Yet are these commemoratives signs of independence from political and private sector influences?

The privilege of central bank’s monopoly in the issuance of money clearly reveals of its political bias in favor of the political and economic elite and their interests.

Commemoratives are thus emblematic of the incumbent policy structure and the prospective direction of political policies.

Moreover, the impression that central banks are independent of political influences is entirely a myth.

Even more, the preference for ‘elitist’ law schools signify as symptoms of the crony capitalist framework of the Philippine political economy. As pointed out before, elite schools (including my alma mater—saying this cost me many facebook ‘school’ friends) serve as breeding, training and recruitment grounds for the political class and their politically privileged economic clients.

A subordinate polemic is that the Peso bills are used as implicit advertisement space which again depends on political connections and the attendant political interests of the political stewards.

Finally, the pathetic commemoratives on the 100 Peso bill only exposes the true essence of legal tender based paper funny money—the existence of which (New Central Bank Act) ironically have been based on unilateral regulations drafted by lawyers and legitimated by legislators.

Sunday, October 30, 2011

Global Risk Environment: The Transition from Red Light to Yellow Light

One of the foremost concerns of all parties hostile to economic freedom is to withhold this knowledge from the voters. The various brands of socialism and interventionism could not retain their popularity if people were to discover that the measures whose adoption is hailed as social progress curtail production and tend to bring about capital decumulation. To conceal these facts from the public is one of the services inflation renders to the so-called progressive policies. Inflation is the true opium of the people and it is administered to them by anticapitalist governments and parties. Ludwig von Mises

Remember what I have been saying about financial markets being dependent on policy steroids?

Here’s what I wrote during mid-September[1]

If team Bernake will commence on a third series of QE (dependent on the size) or a cut in the interest rate on excess reserves (IOER), I would be aggressively bullish with the equity markets, not because of conventional fundamentals, but because massive doses of money injections will have to flow somewhere. Equity markets—particulary in Asia and the commodity markets will likely be major beneficiaries.

As a caveat, with markets being sustained by policy steroids, expect sharp volatilities in both directions.

Global financial markets, from equities, commodities and currencies have been playing out almost exactly as I have described.

The difference is that instead of being driven by the US Federal Reserve’s credit easing policies, last week’s ferocious global stock market rally appears to have been impelled by the Eurozone’s bailout which came with both a 50% ‘voluntary’ haircut on Greek bondholders and the $1.4 trillion expansion of the European Financial Stability Fund (EFSF).

Insanity: Doing The Same Thing Over And Over Again

Some experts have even been so perplexed by the heft, scale and breadth of the market’s rally to even label this ‘crazy’[2]. However what is seen as ferly to others has long been understood by us as transitional episodes of boom bust cycles. And flouncing markets could even serve as an indicator of major trend reversals[3].

My problem then was that without concrete actions and commitments from policymakers, markets were functionally fragile or vulnerable to a crash.

The Eurozone’s bailout deal fundamentally confirms my earlier exposition on the mechanics of the proposed bailout[4]. But the deal covered more conditions, aside from the conversion of the bailout fund into an insurance-derivative mechanism, this included the ‘voluntary’ 50% haircut of Greece bondholders, the creation of a Special Purpose Vehicle (SPV) which allows private and other non-EU investors (such as the IMF or possibly China and other emerging markets) to participate in the financing of the bailout, bank recapitalization—where banks capital ratio would be increased to 9% by June of 2012, and importantly the continuation of the European Central Bank’s asset purchasing program.

The unfurled package has ostensibly been way beyond the markets expectations and had been warmly received. This exhibits the state of the current markets—deep addiction to policy steroids.

The deal’s insurance-derivative model provides guarantees to investors on the initial (20%?) tranche of debts issued by select EU governments that would allow four to fivefold increase of the debt issuance through leverage; where the details of which has yet to be threshed out[5].

There are valid reasons to be skeptical on the final mechanics of the supposed bailout scheme.

One, questions as to the actual available resources to implement these programs. For instance, the EFSF supposedly will be used as insurance to guarantee debt issuance AND also as last resort financing access to bank recapitalization, so how will the fund be apportioned? Are EU leaders assuming that these resources will only function as contingent resources? Wouldn’t this be too optimistic?

Next the supposed leveraging of debt issuance will likely come from already debt distressed nations.

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As the Bloomberg chart of the day rightly points out[6]

the average rating for the bloc, calculated by Bloomberg from the assessments of the three main evaluators, has worsened to 3.14, representing the third-best grade, from 2.12 in May 2010 when the European Financial Stability Facility was designed. The measure fell 0.23 point in the previous 15 months. The average is calculated by giving a numerical grade for each grading, where 1 is the highest, and adjusting it for each country’s share of the EFSF guarantee.

Seven of the 17 euro-sharing nations have had their ratings downgraded since the announcement of the facility, which maintains a top grade from Standard & Poor’s, Moody’s Investors Service and Fitch Ratings. As the contagion has spread to banks, prompting governments to work out recapitalization plans, further cuts, mainly for the top-rated countries, may reduce the strength of the fund.

So the EU bailout is essentially applying what Albert Einstein defines as Insanity: doing the same thing over and over again while expecting different results. More debt will be compounded on existing debt.

A major credit rating agency Fitch Ratings sees the proposed deal on Greece bondholders as a default that would not remove the risk of further downgrades for other sovereigns[7].

However my general impression behind all the ‘smoke and mirrors’ promoted as a comprehensive rescue strategy is that these measures fundamentally stands on the ECB’s monetization of government debt.

In short, the EU’s Bazooka bailout deal represents as an implicit license for or as façade to the ECB’s massive money printing program.

Global Market Responses

And the commodity markets appear to have responded to the grandiose measures in terms of increasing expectations of the inflationary implications

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Gold has regained its bullish momentum (top most chart), while oil (WTIC) appears to be testing the 200-day moving averages where a breach would mean a reversal of the ‘death cross’. On the other hand, copper has reclaimed the 50-day moving averages.

The coming sessions will be very crucial as they will either reinforce the formative uptrend or falsify the recent recovery.

Importantly, as I have been repeatedly saying, I don’t see the imminence of a recession risk for the US economy for the simple reason that money supply growth has been exploding.

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And a possible evidence of the diffusion of money supply growth has been the very impressive record breaking growth of US capital spending[8]. Capital spending growth should be seen as a leading indicator which should mean more improvement in the employment data ahead. Besides, record capital spending growth demolishes the popular mythical idea of a liquidity trap[9].

China remains as my focal point in my assessment of risk.

Again it is unclear whether China has merely been experiencing a cyclical slowdown or a bubble bust. Signs of piecemeal bailouts including the latest rescue of Ministry of Railways[10] could be signs of a popping bubble.

However signals generated from global equity markets seem to indicate that developments in both the Eurozone and the US could likely influence China, than the other way around.

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Major global equity markets appear to have reaccelerated to the upside.

The US S&P 500 has broken above the 200-day moving averages, where a continuation of this upside momentum would extrapolate to the inflection of the ‘death cross’ into a bullish ‘golden cross’.

And it would seem that my hunch of a non-recession short-lived US bear market ala the Kennedy Slide of 1962 and 1987 Black Monday crash may come to fruition[11].

Meanwhile Europe’s Stoxx 50 appears to also trail the price actions of the US S&P 500 along with China’s Shanghai index whose recent bounce off the new lows has brought the index to test the 50-day moving averages.

Of the three major equity market bellwethers, the US seems to provide the market’s leadership, although it has yet to be determined if the momentum of China’s market can be sustained.

Overall, the impact of the collective inflationary policies being undertaken by the developed nations seems to permeate on both global equity markets and the commodity markets.

And in downplaying the predictive value of mechanical chart reading I recently wrote[12], (bold emphasis original)

The prospective actions of US Federal Reserve’s Ben Bernanke and European Central Bank’s Jean-Claude Trichet represents as the major forces that determines the success or failure of the death cross (and not statistics nor the pattern in itself). If they force enough inflation, then markets will reverse regardless of what today’s chart patterns indicate. Otherwise, the death cross could confirm the pattern. Yet given the ideological leanings and path dependency of regulators or policymakers, the desire to seek the preservation of the status quo and the protection of the banking class, I think the former is likely the outcome than the latter.

Events appear to be turning out in near precision as predicted

In addition, while the markets may have been discounting a QE 3.0 from the coming Federal Open Market Committee (FOMC) meeting this November 2nd, any surprise from team Bernanke could even escalate the current surge in the inflationary boom momentum.

Remember, US Federal Reserve Chair Ben Bernanke has repeatedly been dangling QE 3.0 or has been emphasizing that QE 3.0 remains an option[13], which could readily be redeployed as conditions warrant.

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To add, except the US almost every major economy central banks have recently undertaken to expand on their respective versions of QE (chart from Danske Bank[14]). Aside from Bank of England[15] (BoE) whom earlier this month has announced the expansion of their QE policies, last week the Bank of Japan (BoJ) also increased their asset purchasing program[16].

Thus, the dramatic shift in sentiment to my interpretation epitomizes a transitional phase that can be analogized to the shifting in traffic light signal from red to yellow.

I would reckon the current climate as a gradual phasing-in or a cautious buy for risk assets.


[1] See Definitely Not a Reprise of 2008, Phisix-ASEAN Equities Still in Consolidation, September 18, 2011

[2] See Global Stock Markets: The Euro Bazooka Deal and the Boom Bust Cycle, October 28, 2011

[3] See Sharp Market Gyrations Could Imply an Inflection Point, October 16, 2011

[4] See More Evidence of China’s Unraveling Bubble? October 16, 2011

[5] See Euro’s Bailout Deal: Rescue Fund Jumps to $1.4 Trillion and a 50% haircut on Greece bondholders, October 27, 2011

[6] Bloomberg.com Euro Region’s Debt Quality Is Worsening at Record Pace: Chart of the Day, October 25, 2011

[7] Wall Street Journal Fitch: Greek Debt Deal a Default, October 28, 2011

[8] Wall Street Journal Blog Vital Signs: Capital Spending Hits Record, October 27, 2011

[9] See No Liquidity Trap, US Economy Picks Up Steam, October 27, 2011

[10] See China Bails Out the Ministry of Railways, October 25, 2011

[11] See Phisix-ASEAN Market Volatility: Politically Induced Boom Bust Cycles, October 2, 2011

[12] See How Reliable is the S&P’s ‘Death Cross’ Pattern?, August 14, 2011

[13] International Business Times, Market, FOMC Officials Suggest ‘Increasing Likelihood’ QE3 is Coming, October 26 2011

[14] Danske Research Preview: Bank of Japan Further easing likely, renewed intervention close, October 26, 2011

[15] See Bank of England Activates QE 2.0, October 6, 2011

[16] See Bank of Japan Expands QE, October 27, 2011

Phisix: Repositioning for a ‘Risk On’ Environment

Bubble behavior can be seen as rational, even if market participants know they are seeing a bubble. After all, as long as one catches a bubble on the way up, buying low and selling high, one can make money. Furthermore, bubbles burst precisely because investors recognize that the asset prices at the top of the bubble are out of balance with market fundamentals; it is just that these things do not happen with the mathematical precision and smoothness of the mathematical models, so many academic economists simply turn away from looking at things as they really are. Professor William L. Anderson

The parameters for my repositioning or for undertaking additional risk exposure to markets has been specified last week[1]

To see signs of improvement, we need a significant expansion of Peso volume trades, a broad based bullish or optimistic market breadth which should be supported by an improvement in chart price actions.

But most importantly, outside the local context, we need to see strong evidences of recoveries from our neighbors’ bourses, and similarly from the commodity markets.

Such recovery should likely be accompanied by signs of consolidation or parallel enhancements of the price actions in developed economy contemporaries.

Only from the above developments can we say that we have successfully sailed through the Greek mythological treacherous waters of Scylla and Charybdis

The notable improvements in the commodity and developed nation’s equity markets seem to have satisfied two very significant conditions.

Regional Confirmation

Now we need to see how our neighbors have been responding to the recent “shock and awe” policy steroids

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Like their developed economy contemporary, the ASEAN-4 bourses have all been manifesting material signs of recuperation even prior to the Euro Bazooka bailout deal.

The Philippine Phisix seems as having the best chart picture among the four. The PSEC is the only chart that has yet to transition to a bearish ‘death cross’ pattern. The current buoyant actions by the domestic bellwether will likely widen the spread of the 50-day (blue line) and 200 moving averages (red line) that should signal a clearance from the bear market hurdle or a pivotal move away from the recent critical test. Importantly, sustained upside momentum should highlight the resumption of the bull market.

Three of our neighbors have still been scourged by the bearish ‘death crosses’ patterns, where only Indonesia’s IDDOW have successfully breached both 50 and 200 day moving averages. The implication is that, like the PSEC, should the IDDOW persist to the upside, the ‘death cross’ pattern will transform into a whipsaw, which serves as another evidence of chart pattern failure.

And I believe that a buoyant PSEC and IDDOW will eventually translate to the same market actions for benchmarks of Malaysia (MYDOW) and Thailand’s (SETI)

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Moreover, Asian currencies as reflected by the ADXY or Bloomberg-JP Morgan’s basket of Asian currencies have likewise made a dramatic turnabout.

Again the above only reinforces my repeated assertions that actions of global policymakers have been directing price movements of international markets.

The external environment as seen by the price actions of the commodity markets, developed equity markets and ASEAN-Asian markets have resonated conditions that seem to justify an environment increasingly ripe for renewed risk taking activities.

More Confirmations: Market Internals and the Philippine Peso

At the Philippine Stock Exchange, market internals appear to be on the mend too.

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This week’s average volume has exploded to the upside. But this has mostly been due to the special block sales which accounted for 56% of the total.

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The market breadth has also gradually been improving.

Sectoral performances have all strongly recovered from the recent lows. Services (bright green) lifted by PLDT appears to lead the way, with the other sectors Mining (teal) Property (brown), Holding (orange) and Banking (blue) also up but whose performances has relatively varied.

What seems as the most impressive has been the action of the Philippine Peso

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The Euro Bazooka bailout deal may have prompted for a stunning breakaway gap for the Philippine Peso. The jump in the Peso essentially reflects on the Asian currencies.

Nevertheless the Peso has been firming up even prior to Friday’s breakaway run (in spite of BSP’s interventions). The gap, if sustained, could signal even more strength for the Peso and the Phisix ahead.

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I would reckon that the Peso’s improvement has been immensely supported by expanding net foreign inflows to the PSE.

ALL of the parameters or conditionalities on my checklist appear to have been satisfied. This implies for a graduated re-entry for me.

Although I would still deem that China’s highly uncertain environment could pose as a black swan risk worthy of continuing vigil, inflationary developments globally may be providing a cushion from which may have alleviated the risk environment in China. Again this has to be proven or established.

Learning from this episode, what worries me is that many people seem to have acquired the mentality where all selloffs should be seen as buying opportunities, premised on what seems to be a deepening assumption that governments will always successfully moderate any prices decline.

We understand this outlook as representative of moral hazard, or even as the Bernanke Put[2]—the expectations that central banks will ‘fight market falls’.

This is also symptomatic of the market’s intensifying bubble psychology shaped by intensifying bubble-bailout policies[3].

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In the fullness of time, again markets will be prove that interventions as unsound, tenuous and subject to bust dynamics similar to 2008.

It must be impressed upon everyone that inflation is a policy that cannot last.


[1] See The Philippine Phisix at Crossroads, October 23, 2011

[2] Bernanke Put Wikipedia.org, Greenspan Put

[3] See A Primer On Stock Markets-Why It Isn’t Generally A Gambling Casino, January 18, 2009

Saturday, October 29, 2011

Video: Richard Epstein on US Inequality

New York University Law Professor Richard Epstein at the PBS Hour talks about "inequality"...

Watch Does U.S. Economic Inequality Have a Good Side? on PBS. See more from PBS NewsHour.



Here are some noteworthy quotes, (transcript here)

Inequality as drivers for innovation...
What's good about inequality is if, in fact, it turns out that inequality creates an incentive for people to produce and to create wealth, it's a wonderful force for innovation. So let's just go and take somebody like Bill Gates again or any entrepreneur.

Guy earns $50 billion, right? How much consumer welfare has he created by selling products? We can estimate the amount of gains to purchases, because everybody who buys one of his products or one of Steve Jobs' products, in effect, values it more than he receives.

The social gain from inequality to consumers of those goods probably dwarfs the entrepreneurial gain by a factor of 10-1 or 20-1.
Non-neutrality of tax policies.
You can tell the difference between a liberal and conservative by the following test. A liberal believes that changes in taxes have very little effect on production, but huge effects favorable on distribution.

Folks like myself believe it's exactly the opposite. Very high tax rates or even small changes in taxes have very adverse effects on production, and they do very little to produce redistribution, because the money gets dissipated and taken away through the political process in the ways that even the most ardent supporters of redistribution will not like.
Difference between then and now...
First of all, the highest marginal tax rates were also accompanied with tax shelters for everybody in those rates. The second thing is that the monies that were being spent in those days were being spent in much more intelligent ways. That is, if you go and you look at either state or federal budgets and see the amount of money that is spent on what we would call standard infrastructure improvements, and spent well, like the interstate highway program in 1956, that was very high.

The money that is spent today on infrastructure improvements of a good variety is a tiny fraction of what it was then. And the amount of money that is spent essentially on transfer payments has mushroomed enormously.

The fundamental truth is, the tax system is more redistributive than it was before, which will lead to a reduction in efforts, and the regulatory burden on the economy is vastly greater, and we would expect lower levels of growth.
How profits advance overall welfare...
It's the possibility of earning a high rate of return which does it.

And what happens is, if you let people go through voluntary transactions that produce mutual gain, you will increase overall welfare, you will improve the position of those on the bottom. But increased overall welfare will produce greater skews in income, because in a world with genuine opportunities, you will create billionaires.

In a world without it, the people at the bottom will remain where they were, there will be nobody at the top to subsidize them, so everybody will turn out to be worse off.

The Myth of the Poor as Borrowers, Rich as Lenders

“The Poor are Borrowers and the Rich are lenders” has been one of the enduring myths which the left uses to champion the Keynesian policies of the “euthanasia of the rentier” and central banking.

David Gordon quotes the great Murray Rothbard,

Often, this turns out to be the reverse of the truth. "Debtors benefit from inflation and creditors lose; realizing this fact, older historians assumed that debtors were largely poor agrarians and creditors were wealthy merchants and that therefore the former were the main sponsors of inflationary nostrums. But of course, there are no rigid 'classes' of creditors and debtors; indeed, wealthy merchants and land speculators are often the heaviest debtors" (p. 58).

Even the conditions of nations today do not support this argument.

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Based on the 2010 NIIP or Net International Investment Position statistics by the IMF, which has been defined as a country’s domestically owned assets minus foreign assets, the table above reveals that the US stands as the world’s largest borrower or debtor. (source: Financial Sense)

Yet there has been NO rigidity in classes—some rich countries are creditors while some rich countries are debtors.

Class based borrowing and lending is simply based on fantasy.

As individuals, we act (save, consume or invest) based on our unique value scales and time preferences and not because of the abstraction of being “rich or poor”.

Also it would be equally naïve to say that rescuing Wall Street was about “the poor”, that’s because Wall Street thrived upon unsustainable debt acquired from rampant speculation.

It is the reason why the largest US investment banks vanished from planet earth in 2008, and is the reason for the Troubled Asset Relief Program (TARP) and the explosion of the US Federal Reserve’s balance sheet in 2008, who absorbed toxic assets from the banking and finance industry by transferring the risk to US taxpayers.

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From the US Federal Reserve of Cleveland

These debts were held NOT by the poor but the real estate, financial and banking class elites who profited from Keynesian policies of the euthanasia of the rentier aimed at attaining “permanent quasi booms”, which eventually backfired.

Besides, current political institutions have NOT been designed to protect the poor.

Apart from taxes, the banking system funnels savings of ordinary citizens to finance the government through sovereign securities (treasuries) as mandated by bank capital regulations. Central banks puts a backstop on this.

And politicians spend the savings of the average citizenry partly on vote generating welfare programs and substantially on special interest groups (e.g. green jobs, military industrial complex, banking and finance, foreign dictators) which have not mainly been about the protection of the poor. The poor have perennially been used as an unfortunate tool to justify the political mulcting of society.

Going back to rescuing Wall Street, coincidentally, Wall Street houses the largest number of people who are considered as super rich.

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From the Wall Street Journal Blog

Bottom line: to argue that the “euthanasia of the rentier” is required to redistribute wealth from the rich to the poor has exactly been the reverse—the politically endowed rich benefits from “privatize profits and socialize losses” policies at the expense of society.

As a reminder not all of the rich are cronies. Those who depend on political privileges should be distinguished from those who generate wealth by serving the consumers.

Importantly, those who argue from the above faulty premises are either engaged in self-deception, or if, not hopelessly bereft of reasoning arising from the obsession to politics.

Friday, October 28, 2011

Entrepreneurial Knowledge and Failure as Virtue

Entrepreneurial knowledge and the societal acceptance of failure should be seen as stepping stones or building blocks to economic progress.

From the Wall Street Journal Blog (bold emphasis mine)

Economists at Harvard University and Massachusetts Institute of Technology have just released what they claim to be the crystal ball of economics: a model for predicting a nation’s future growth more accurately than any other techniques out there.

The Atlas of Economic Complexity” ranks 128 nations based on their “productive knowledge” — the skills, experience and general know-how that a given population acquires in producing certain goods. Countries with a high score in the report’s “economic complexity index” have acquired years of knowledge in making a variety of products and goods and also have lots of room for growth. Essentially, the more collective knowledge a country has in producing goods, the richer it is — or will be.

The 364-page report, a study led by Harvard’s Ricardo Hausmann and MIT’s Cesar A. Hidalgo, is the culmination of nearly five years of research by a team of economists at Harvard’s Center for International Development.

“The essential theory … is that countries grow based on the knowledge of making things,” Mr. Hausmann said in a phone interview. “It’s not years of schooling. It’s what are the products that you know how to make. And what drives growth is the difference between how much knowledge you have and how rich you are.”

The above seems quite applicable to the Philippines. As I have been pointing out, four out ten college graduates are unemployed and about 13% of college graduates emigrate.

The Philippine economic predicament has hardly been about the lack of education but mainly the inadequacy of the relevant entrepreneurial knowledge or “knowledge to make things”. And most importantly, a conducive environment for entrepreneurs to underwrite on such risks.

And because risk-taking is an integral part of the market economy, the outcome of either success or failure is indispensable. Failure should also be seen as capitalist virtue from which entrepreneurs can build on, learn and innovate from.

This excerpt from an insightful article by Professor Steve Horwitz and Jack Knych at thefreemanonline.org (bold emphasis mine)

Economists, especially those of the Austrian school, often emphasize how entrepreneurs discover new knowledge and better ways of producing things. But entrepreneurial endeavors frequently fail and the profits thought to be in hand often don’t materialize. According to the U.S. Small Business Administration, over half of small businesses fail within the first five years. But failed entrepreneurial activity is just as important as successful entrepreneurial activity. Markets are desirable not because they lead smoothly to improved knowledge and better coordination, but because they provide a process for learning from our mistakes and the incentive to correct them. It’s not that entrepreneurs are just good at getting it right; it’s also that they (like all of us) can know when they’ve got it wrong and can obtain the information necessary to get it right next time.

On this view failure drives change. While success is the engine that accelerates us toward our goals, it is failure that steers us toward the most valuable goals possible. Once failure is recognized as being just as important as success in the market process, it should be clear that the goal of a society should be to create an environment that not only allows people to succeed freely but to fail freely as well.

The seeming preference by the Philippine society to focus on mass ‘public’ education and on the growing web of regulations will serve as constant source of perpetual socio-economic frustrations because these policies have not been dealing with the fundamentals of the problem: Mass graduates in a political environment that seems unfriendly to business or to entrepreneurship which only places additional strains on current unemployment figures.

Yet fear of failure converted into public policies known as public goods or safety nets encourages political dependency, abdication of personal responsibility, indolence and importantly the curtailment of civil liberties.

From the economic dimension, this implies diversion of scarce resources from productive activities. The obverse side of each safety net underwritten or regulation imposed means employment losses somewhere.

In focusing on the wrong factors evidently we get the wrong outcomes. Worst, since current woes reflect on the failures of political policies, the effect has been noticeably widespread. Yet politicians tend to pass the blame on someone else.

Unfortunately, accountability from these policy failures has practically been absent or are imperceptible from the public’s perspective. In other words, the opportunity cost from each political action have been intangible, unseen or unnoticed by the public.

Thus, the underlying populist tendency to the current social ills has been to ask for more of the same wrong prescriptions or ‘doing the same thing and expecting different results’ a quote on insanity prominently attributed to Albert Einstein.

In politics, a culture of ‘insanity’ seems to be the norm.

The Morality of the Keynesian Monetary Dogma: The Euthanasia of the Savers

The US Federal Reserve and central bankers around the world have conjointly been applying artificially low interest policies (Zero Bound Interest Rates-ZIRP) pretty much in adherence to John Maynard Keynes’ dogma of the “euthanasia of the rentiers”—the idea where capital can be made plentiful by merely tinkering with interest rates.

Since every political decision entails a moral dimension, Professor Robert Higgs eloquently explains how the Keynesian prescription, which in reality signifies a nostrum that resembles the Philosopher’s stone—the alchemy of turning lead into gold—hurts the average citizens. (bold emphasis mine)

In short, the highest yield available to ordinary investors who seek a simple, low-risk investment of their funds is, at best, roughly equal to the rate of inflation—and then, with a 30-year term to maturity, only with substantial risk of capital loss if interest rates should rise. To put the matter another way, all ordinary investors are now being progressively impoverished because the nominal return on their investments falls short of the loss of purchasing power of the dollar during the term of the investment. Getting a positive real rate of return is effectively impossible for the proverbial widows and orphans. Only investors with the knowledge of how to invest in gold, crude commodities, and other such esoteric assets stand any chance of earning positive real returns, and then only with great risk of substantial capital losses.

Given that the Fed’s official policy is to drive all interest rates to near zero, one may conclude that the Fed seeks to impoverish the widows, orphans, retired people, and all other financially untutored people who rely on interest earnings to support themselves in their old age or adversity. Can a crueller official policy be imagined, short of grinding up these unfortunate souls to make pet food or fertilizer?

The politicians constantly bark about their solicitude for those who are helpless and in difficulty through no fault of their own. Yet, the scores of millions of people who saved money to support themselves in old age now find themselves progressively robbed by the very officials who purport to be their protectors. There are many reasons to oppose the Fed’s policy. The reason brought to mind by the official enthanasia of the nation’s small savers deserves far more attention than it has received to date.

Bottom line:

Keynesian policies have been designed at propping up the privileges of the INSIDERS (the central banking-banking-political elites) all at the expense of the outsiders or the ordinary people of the world (this includes me).

Although such policies are camouflaged by rationalizations from academic gibberish as ‘aggregate demand’ and ‘liquidity trap’, the mantra “privatize profits and socialize losses” represents as its implicit ethical framework.

Despite coordinated actions to attain such an environment, which instead has led to higher consumer prices, and that has been explicitly expressive of the policymakers’ intents that deserves the public’s reprobation, ironically there has hardly been a popular uproar.

Instead protestations today have been misdirected at the effects—financial sector deliberately being sustained by the political class.

No wonder politicians and their bureaucrats can afford to keep bamboozling us. Nevertheless, eventually or at the fullness of time, there is no escaping the laws of scarcity.

Global Stock Markets: The Euro Bazooka Deal and the Boom Bust Cycle

I used to think that the stock market has generally NOT been a form of gambling. But events have been tilting the odds to favor “high risk high volatility” or excessive speculative activities.

Here is what I wrote in my stock market primer, (bold original)

government interventions can tilt or distort any markets away far from its price signaling efficiency. This is where the level of the playing field or the distribution share of the odds are skewed to favor one party over the others, mostly the recipients or beneficiaries from these interventions. Where the governments assume the role as the HOUSE and the beneficiaries as the DEALERS, then all other participants operate as PLAYERS, hence your basic description of a gambling casino.

There seems no other solid proof or validation of this hypothesis than what has transpired today.

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tables above from Bloomberg

Last night, major equity markets skyrocketed following the long awaited culmination for a Bazooka approach to the Euro debt crisis which obviously has 'gratified' the global financial markets deeply addicted to bailouts.

Bespoke calls this a ‘crazy market’

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They write,

You know this market has gotten crazy when 100% of Financial sector stocks are trading above their 50-days!

But as I have pointed out since, this has really been more of a boom bust cycle than just an irrational market.

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Another of Bespoke’s chart exhibits the dramatic turnaround of the market breadth of the S&P 500. The S&P 500 is clearly being driven by tidal flows.

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Importantly, the S&P’s 500 chart has popped above the 200-day moving averages which should put pressure on the bearish ‘death cross’ if the bullish momentum holds.

In downplaying the predictive value of chart patterns, I recently wrote,

The prospective actions of US Federal Reserve’s Ben Bernanke and European Central Bank’s Jean-Claude Trichet represents as the major forces that determines the success or failure of the death cross (and not statistics nor the pattern in itself). If they force enough inflation, then markets will reverse regardless of what today’s chart patterns indicate. Otherwise, the death cross could confirm the pattern. Yet given the ideological leanings and path dependency of regulators or policymakers, the desire to seek the preservation of the status quo and the protection of the banking class, I think the former is likely the outcome than the latter.

The Euro ‘shock-and-awe’ deal plus a money supply charged economic momentum in the US, suddenly seems to have switched the risk reward tradeoff conditions to a ‘risk ON’.

Boom bust cycle indeed.

Thursday, October 27, 2011

Quote of the Day: Paradigm Restriction

From Robert Ringer,

Metaphorically speaking, we are all restricted by our unique mental paradigms. It’s difficult to comprehend ideas and circumstances we are not accustomed to hearing and seeing within the invisible parameters that surround our lives.

Thus, one of the causes of our differing perceptions of reality is that we all start from our own set of assumptions. To break through one’s Paradigm Restriction requires a willingness to let go of comfortable, long-held beliefs and look at the world the way it is today rather than the way it was ten or twenty or thirty years ago.

In short, paradigm restriction is a close mind or a tunnel vision.