Tectonic shift under way in Turkmen gas

On a side note...:

[Putin and Erdogan are two sides of the same American CIA coin....

Today, for your entertainment, the rotating Erdogan/Putin role of "enemy of Israel" will be portrayed by Vladimir Putin. He will shock the world press by proclaiming the truth about the "Blue Stream" pipeline project, that Israel will not receive gas from "Blue Stream," giving the impression that it is retaliatory actions for unacceptable Israeli behavior. This truth is an attempt to take advantage of the fact that Israel's "Leviathan" gas find eliminates the need for Russian gas. There is always a surprise at the end of every act in a real world class production, and we are witnessing the most extravagant production ever staged in the history of mankind.

It would be interesting to watch all these little psycho-dramas unfold, were it not for the fact that their outcome will soon prove deadly serious to us all. We live in prophetic times, meaning that with every unfolding key event in the global takeover, our present situation comes to look more and more like things foretold in ancient books. The world is coming together as one, but will it be for good or for evil? This is for us all to answer. The fate of our own souls is the fate of this era, meaning that we will either lift the earth up from misery together, or we will sit on our hands while bad people bring the planet to its destruction.

The little games over control of energy resources is an act of desperation by the rich man's club. People like Vladimir Putin and Recep Erdogan are either invited into that club, or given the impression that they have been accepted into the overlord class. They grow powerful and wealthy now, serving as their henchmen and facilitators to win control over the precious fuel sources and routes, not realizing that when the current con game is over there is already a new plan in place to bring them down. This is the lure of wealth and power. It must be capable of short-circuiting the reasoning processes....]

Tectonic shift under way in Turkmen gas
By Robert M Cutler

MONTREAL - Events this week confirm that Turkmenistan has taken a decisive strategic decision to diversify its gas exports not only beyond Russia but also beyond China.

First, and perhaps most spectacularly, Ashgabat has announced that it will rely upon its own financial resources and technology to renovate and rebuild the East-West Pipeline across the southern part of the country, opening the possibility that gas from the eastern provinces of Turkmenistan may eventually transit to Europe.

That strengthens the prospects for the Nabucco pipeline project, which is planned to take gas from the Caspian Sea basin through Georgia and Turkey to the Baumgarten hub in Austria for distribution throughout the European Union.

Second, President Gurbanguly Berdimuhamedow is making his first visit to India, and discussions about the long-bruited Turkmenistan-Afghanistan-Pakistan-India (TAPI) pipeline will figure prominently in his negotiations. Third, it now appears likely that the United Arab Emirates will receive a concession to explore for hydrocarbon resources in one of the blocks of the country’s offshore Caspian Sea sector.

Turkmen news agencies announced that the state enterprise Turkmengaz will fund the East-West Pipeline project, in which another state enterprise, Turkmennebitgazgurlushik, will participate. The pipeline will be designed for a capacity of 30 billion cubic meters per year (bcm/y). The design phase will start immediately, and it is anticipated the construction will be finished in five years. The gas will come from the South Yolotan field, which a British firm, Gaffney Cline, estimates holds 6 trillion cubic meters, within a possible range of 4 trillion to 14 trillion cubic meters. (See Turkmenistan gas sets Ciceronian riddle, Asia Times Online, October 30, 2009).

In March last year, the signing of a deal for Russian participation was postponed in Moscow

, without warning, by Berdimuhamedow himself, who ostensibly had travelled there for the purpose of that signing. A condition for Russian participation would be that the gas go to Russia. That same month, Turkmenistan announced an international tender for the project, for which it is reported that over 70 companies from all over the world submitted bids. Relations between the two countries worsened further after an explosion in April 2009 that severed gas exports to Russia for the remainder of the year.

For this Turkmenistan blamed Gazprom’s subsidiary in the country for diminishing the quantities it was taking without telling their Turkmen counterparts: the resulting gas buildup would have caused the explosion. Russian media in turn blamed the poor condition of the pipeline in Turkmenistan as well as Turkmengaz's technical workers. In fact, the explosion helped Gazprom save money by cutting losses from its previously agreed contract with Turkmenistan. Exports to Russia, as well as earnings, plummeted. Some reports suggest that Russia's imports from Turkmenistan this year will barely amount to 10 bcm.

The latest announcement on the pipeline also effectively kills a trilateral project including Kazakhstan to renovate and refurbish the segment of the Central Asia-Center pipeline that the three countries had, at Russia's behest, designated the Caspian Coastal Pipeline (CCP), also "Prikaspiiskii" and, erroneously "Pre-Caspian". This idea was originally introduced by Turkmenistan's former president Saparamurat Niyazov in 2003, but its authoritative agreement was delayed throughout the decade. (See Four-way street in Kazakhstan, Asia Times Online, September 18, 2009.)

As to the TAPI pipeline project, this showed potentially significant development as Berdimuhamedow agreed in New Delhi to promote a bilateral intergovernmental commission as a principal forum for economic cooperation with attention to energy questions. India declared its interest in the implementation without delay of the TAPI project, noting that it looked forward to the participation of its experts in hydrocarbon exploration, development, and production, in Turkmenistan. New Delhi is also prepared to host a meeting of technical experts to discuss the project, with the participation of the Asian Development Bank, which has declared its support.

Finally, the United Arab Emirates is entering the field of competition for Turkmenistan's gas. The UAE, whose sovereign wealth fund reportedly exceeds $300 billion, has been exploring for oil in Turkmenistan for a decade, using Dubai-based Dragon Oil as its vehicle. As such, it has an inside track to win exploration rights for offshore gas exploration blocks.

Moreover, as a 20% shareholder in the Austrian firm OMV, which leads the Nabucco project, the UAE is well placed to find easy export routes for any offshore gas that it finds. The German firm RWE, another Nabucco shareholder, has reportedly detected gas in the offshore block that it is exploring.

Thus one of the immutables of Caspian Sea energy development until recently is changing. Turkmenistan is no longer dependent upon Russia to take its gas but, even more important, it does not wish to be dependent upon China any more than it has been on Russia in the past. (See Gas pipeline gigantism, Asia Times Online, July 17, 2008).

Developments are pointing more and more towards the eventual success of Nabucco, and also even White Stream, which seeks to take gas under the Black Sea from Georgia to Romania (bypassing Turkey) and on to Europe, as sufficient supplies for both now become evident if one combines the Azerbaijani and the Turkmen offshore deposits.

Dr Robert M Cutler (http://www.robertcutler.org), educated at the Massachusetts Institute of Technology and The University of Michigan, has researched and taught at universities in the United States, Canada, France, Switzerland, and Russia. Now senior research fellow in the Institute of European, Russian and Eurasian Studies, Carleton University, Canada, he also consults privately in a variety of fields.

Max Keiser: Big Banks Allocate Losing Trades to Clients, Keep Winning Trades for Themselves

Max Keiser - journalist, former Wall Street broker and options trader, and inventor of the software which is now being used for high frequency trading - claims that the big banks retroactively allocate losing trades to their clients, and keep the winning trades for their own proprietary trading desks:

This is the second time in the couple of weeks that Keiser has made this allegation. When he first brought this up, Keiser said that he has first-hand knowledge of this unlawful activity because - when he was a trader - he and everyone else did the same thing....

The second Bernanke crash

The second Bernanke crash
By Martin Hutchinson

The turbulence in financial markets in the last couple of weeks has been ascribed by reporters to doubts about the long-term stability of the euro, and concern over the finances of southern European countries. This is over-optimistic. Whether or not the current market downdraft proves temporary, monetary and fiscal policies in the United States and worldwide have been excessively stimulative since the September 2008 market meltdown. Thus we are at some point in the near future going to suffer the second Bernanke crash.

As I have frequently discussed, there were a number of causes of the 2008 crash, some of them rooted as far back in the past as financial theories devised in the 1950s and housing regulation designed in the 1960s. Nevertheless, if one single cause has to be assigned, it would be the excessive money creation in the United States after 1995 and worldwide after 2002. This caused a massive asset bubble, initially in stocks and later in housing. Once the bubble had inflated, a commensurate crash was inevitable.

Had monetary policy returned to sanity after September 2008 (and fiscal policy not itself relapsed into madness) that would have been the end of it. Banks would have been provided with unlimited funding, as Walter Bagehot recommended in his 1873 Lombard Street, but at high interest rates. The global economy would have undergone a sharp recession, steep because of the deflation of value that had become necessary, but by the middle of last year would have begun a healthy and sustained recovery.

Apart from the direct bailouts of the basket cases Citigroup and AIG and the "stimulus" packages, the important difference between what happened in 2008 and what should have happened lies in the interest rate charged for the liquidity supplied in the crisis. A great deal of capital had been destroyed in the subprime mortgage meltdown, and risk premiums had gone sky high. Accordingly, while capital should have been made available by the world's central banks to their banking systems, it should have been available only at penalty rates. Rates of 8%, even 10% would have been appropriate levels for the federal funds rate and the rate for Fed "quantitative easing".

There would in that case have been no banks borrowing money from the Fed at ultra-low interest rates and investing it in Treasury bonds or government guaranteed mortgage bonds. Conversely, since money at high interest rates was readily available, high-yield uses for that money, such as lending to small business, would have remained quite attractive to the banking system.

A high interest rate in 2008 would have balanced the limited available supply of funds (other than at penalty rates) with the demand for them, balancing financial markets naturally. Instead, we have seen another explosion of leverage, as banks and above all hedge funds have borrowed money at current exceptionally low interest rates to invest in whatever seemed attractive that week. That explosion of leverage has been made worse by the Fed's persistence in keeping ultra-low interest rates for at least a year after the excuse for them had vanished. With the US economy bottoming out around May 2009 and the "stress tests" of that date showing that the banking system was now in decent shape, ultra-low interest rates should have been raised quickly and short-term rates should now be at normal levels, at a minimum in the 3-4% range.

As in 2002-03, ultra-low interest rates caused the stock market to bottom out excessively rapidly at a level well above its natural floor and to engage in an explosive rally that rapidly pushed stock prices above their sustainable level to a point at which equities once again represented poor value.

This has caused two problems. First, the US savings rate, which had shown encouraging signs in the downturn of returning to 8-10%, a level at which consumers have some chance of saving for their retirement and the economy some chance of financing itself, quickly dropped back to below 3%. With overvalued stocks (which both look expensive and make investment portfolios look fatter) and interest rates below inflation, it's surprising anybody saves at all.

Second, the excessive leverage that caused such problems in 2006-08 has returned. Risk premiums on lower-tier corporate and emerging markets debt have declined artificially towards the levels of 2007, at which they were clearly inadequate to compensate for the risks involved in holding those assets.

An additional hidden but connected problem is the further intensification of Wall Street's trading culture, exemplified by the explosion in "fast trading" volume, now three quarters of the trading volume on the New York Stock Exchange. This trading simply exploits the benefits of insider knowledge of money flows; in aggregate it subtracts value from the economy. Its participation in the recent "flash crash" in which over US$1 trillion was wiped off the value of US equities in 15 minutes is symptomatic of the problem - with "fast trading" computers in control, doing thousands of trades a minute there seems no reason why that loss should not have been $10 trillion or even more.

Maybe the theory that advanced galactic civilizations don't exist because they wiped themselves out with super-atomic weapons before developing interstellar travel is wrong. Maybe they simply invented computerized fast trading and reduced their civilizations to impoverished rubble that way.

With excessive leverage and inadequate saving, the US capital base is not being renewed as it would normally be after a speculative blowout. In the financial sector, this brings additional risk of a meltdown such as occurred in 2008. In the rest of the economy, it means in the long run that the US will no longer have sufficient capital supporting the skills of its workforce. If the US comes to have capital per head equivalent to that of China, and its education system is no better, why should it enjoy higher living standards?

Only those of us in the media, who live on reporting and analyzing excitement and chaos, can rejoice that the monetary policies of Federal Reserve chairman Ben Bernanke are unlikely to produce gradual, civilized decline to the living standards of China. Instead, because of the leverage and speculation they generate, they are much more likely to produce a gigantic bursting bubble, with major financial institution bankruptcies. The destruction of wealth will be greater than that of a slow decline, but the impoverished masses will be able to blame the evil private sector bankers instead of the public sector follies of the Fed.

It seems increasingly likely that the generator of the second Bernanke crash will lie in the global public sector. Budget deficits of 10% of gross domestic product (GDP) are not a normal response to economic downturns, and so we have very little idea what pathological market behavior they will produce. Currently, long-term US dollar interest rates are falling rather than rising, as crazed investors "fly to safety" into the bonds of a polity whose current fiscal policies are unsustainable and which under the current administration is showing no significant sign of reforming them. That seems very unlikely to last for long.

Should investor enthusiasm for US Treasuries disappear quickly, as it did for Greek government bonds, the crash in the Treasury market will doubtless be dismissed by Wall Street's risk managers as another "25-standard-deviation event" - or even, this time, a 50-standard-deviation event if the bang is big enough.

The justification for bailout at taxpayer expense will again be trotted out that the crash should not have happened in the lifetime of a billion universes, according to Wall Street's best risk models. The government will look for excuses to get round the new banking legislation and institute those bailouts. However, the one disadvantage for Wall Street of a financial calamity caused by a crash in the Treasury bond market is that taxpayers will not be available to fund bailouts through additional state borrowing. Thus bailouts will have to be funded by direct Fed money printing, making the experience more unpleasant for Wall Street and a lot more unpleasant for the rest of us.

The result of the second Bernanke crash, particularly if it is indeed centered on the Treasury bond market, must therefore be high inflation. I can't see how it can be avoided. Only by robbing the nation's savers of a large portion of their remaining savings through rampant inflation will the government be able to achieve its twin aims, of reducing the value of government's outstanding obligations and reducing the living standards of Americans to a level at which they are once more competitive, given the country's diminished capital base.

For investors, the only safe haven is of course gold. I have written elsewhere how I expect the gold price at some point to enter a "spike" like that of 1978-80 in which it soars to $5,000 - given the monetary expansion since 1980 that price, not the mere $2,400 given by an inflation calculation, is the equivalent of 1980's peak of $875.

Before gold bugs go into their victory dance, however, I would point out that when gold gets to that level, $5,000 may not buy very much.

Doha round going nowhere

Doha round going nowhere

Despite the advantage given by the drafts, the United States is still asking for more.

The World Trade Organisation’s Doha Round appears to be stuck in a strategic deadlock, with no end in sight, and little hope for completion in the foreseeable future. The latest bout of negotiations, a ‘stocktaking exercise’ held in Geneva in the last week of March ended with no direction and without plans for a further meeting of senior officials from capitals, or for trade ministers. The target of finishing the Round by the end of this year was not even mentioned. The Doha Round started in November 2001 at the WTO’s ministerial meeting. At that time the developing countries were strongly against a new Round of world trade negotiations, arguing that they had not even begun to digest the Uruguay Round (1986-1993) and its many problems. So the new negotiations were informally called the Doha Development Agenda to make it more palatable to developing countries. In the nine years since, the development content of the talks has almost entirely disappeared, and the developed countries’ real intentions ­to open up the markets of developing countries while protecting their own turf especially in agriculture, labor services and intellectual property­ have come to the fore. Imbalance The latest draft texts on how agricultural and industrial imports are to be liberalized are imbalanced. They call on developing countries to undertake more real commitments than developed countries. In particular, the developed countries can still make use of their huge agricultural subsidies which enable the United States’ and Europe’s otherwise inefficient farms and companies to capture markets, including displacing the small farms of developing countries. But developing countries are asked to cut tariffs of their manufactured goods drastically so that most of their new import duties will be below 15 per cent. Despite the advantage given by the drafts, the US is still asking for more. They want some developing countries (China, India and Brazil in particular) to also agree to cut their tariffs on some industries to zero. A senior Chinese official said that China had already made major concessions in the draft texts, and these extra US demands are simply unacceptable, as they would damage or wipe out the most important industries in the countries concerned. US-based analysts meanwhile note that the Washington administration faces a Congress and a public that is hostile to the US agreeing to sticking to its own minimal commitments on reducing its maximum level of agricultural subsidies and industrial tariffs. The developing countries are calling ‘foul’ as this goes far beyond the agreed mandate. The US stubbornly sticks to its unreasonable demands, pointing to what its Congress wants. As has often been the case in the checkered history of the Doha talks, the rest of the world is still “waiting for the US”. Previously the wait was for the US to agree to make some commitments to liberalize its agriculture. Now the wait is for the US to give up its unreasonable demands on others. With the US mired in its own domestic problems, it will be a long wait. Developing countries are facing three major imbalances: the imbalance within agriculture, the imbalance within non agricultural market access (NAMA) and the imbalance between agriculture and NAMA. The development component has vanished in agriculture and NAMA and ironically the special treatment is mainly enjoyed by developed countries. Also, the developed countries were supposed to make major concessions in agriculture, in exchange for some concessions from developing countries in NAMA. However in agriculture there are few commitments from developed countries, while the developing countries have to make drastic tariff cuts in NAMA. This is why the equations in the Doha talks have been often dubbed an ‘unequal exchange’ weighted against developing countries. Yet the developed countries, in particular the US is not able to adopt the December 2008 drafts. High-ranking trade officials from developing countries are aghast that the US does not seem to confirm that it stands by the cap on agricultural non-trade distorting domestic subsidies that in December 2008 it had agreed to. And the US in bilateral talks and in recent mini-ministerial's seemed to be demanding more from major developing countries as well as remaining against an effective Special Safeguard Mechanism (SSM). Reports from Washington carry the message that the US is demanding to see big gains in increased exports to developing countries, even more than what it would already get from the imbalanced proposals in the December 2008 drafts. This is at the heart of the Doha impasse. And the deadlock may continue until one side or the other gives way.

What are the military costs of securing “our” oil?

http://www.energyeconomyonline.com/End_of_World_as_Know_It.html

What are the military costs of securing “our” oil?

By Anita Dancs

When Americans pull up to the pump, the price they pay for a gallon of gas does not begin to reflect the true costs of extracting, transporting, and burning that gallon of fuel.

Most people know that burning fossil fuels contributes to climate change. Every time we drive our cars, we are sending greenhouse gases into the air, which trap radiation and warm the earth’s surface. The more the earth warms, the more costly the consequences.

But as bad as the costs of pollution and global warming are, as taxpayers we pay another cost for oil. Each year, our military devotes substantial resources to securing access to and safeguarding the transportation of oil and other energy sources. I estimate that we will pay $90 billion this year to secure oil. If spending on the Iraq War is included, the total rises to $166 billion.

This year, the U.S. government will spend $722 billion on the military, not including military assistance to other countries, space exploration, or veterans’ benefits. Defending American access to oil represents a modest share of U.S. militarism.

Calculating the numbers isn’t straightforward. Energy security, according to national security documents, is a vital national interest and has been incorporated into military objectives and strategies for more than half a century. But military documents do not attach a dollar figure to each mission, strategy, or objective, so figuring out which military actions relate to oil requires plowing through various documents and devising methodologies.

The U.S. military carves the world up into regions—Europe, Africa, the Pacific, the Middle East, South America and North America—each with its own command structure, called a “unified combatant command.” I arrived at my estimate of military spending related to securing oil by tracing U.S. military objectives and strategies through these geographic commands and their respective fleets, divisions, and other units. I only considered conventional spending, excluding spending on nuclear weapons, which is not directly related to securing access to resources.

U.S. Central Command has an “area of responsibility” which stretches from the Arabian Gulf region through Central Asia and was specifically created in 1980 during the Carter administration because of the region’s oil reserves. Two-thirds of the world’s oil reserves and nearly half of natural gas supplies reside within these twenty countries. Aside from joint training exercises with oil-producing nations, securing oil fields, and a host of other oil-related tasks, the command closely monitors the Strait of Hormuz. Nearly half of all oil transported throughout the world passes through this chokepoint, which has been periodically threatened with disruptions. I estimate about 15% of conventional military spending is directed at supporting the missions and strategies of Central Command, and three-quarters of that spending is related to securing and transporting oil from and through the region, as shown in Table 1.

U.S. Pacific Command ensures transportation of oil, specifically through the Strait of Malacca, one of the two most important strategic oil chokepoints. Fifteen million barrels of oil per day flow from the Middle East and West Africa to Asia. This oil is particularly important to another oil-dependent country—Japan, an important American ally in the region. Pacific Command is the largest of all the commands, covering half of the globe. It is also responsible for the largest number of troops and is an important provider of training and troops to U.S. Central Command. Given information on bases, assigned troops and other indicators, I estimate that about 35% of conventional military spending is required for missions and strategies for this command and about 20% of that amount is needed for securing the transport of energy throughout the region.

U.S. European Command and U.S. Africa Command also have resources devoted to securing access to energy. Initially formed to protect Western Europe against Soviet aggression, European Command is currently postured to project power toward the energy-rich areas of the Caspian Sea, the Caucasus, and the Middle East. Alongside NATO, European Command is increasingly focused on energy security in Europe, especially since the revision of NATO’s Strategic Concept in 1999. Finally, the command was also responsible for overseeing the set-up of the newest command, U.S. Africa Command, which was motivated by competition for newly discovered oil reserves. I estimate that around 25% of the military budget is devoted to military strategies relating to Europe and Africa, and of that, about two-fifths can be attributed to securing oil and energy supplies.

U.S. Northern Command and U.S. Southern Command are responsible for North and South America and the surrounding waters. While Canada, Mexico, and Venezuela rank in the top five countries from which the United States imports oil, I could not find definitive activities connected with either Northern or Southern Command that would justify inclusion in the estimate.

Dividing the military budget according to geographic regions and reviewing activities in those regions leads me to conclude that about $90 billion will be spent this year for securing access to and the transport of oil and other energy supplies.

But that number does not include the vast sums spent on the Iraq War. In spite of the Bush administration’s claims that the United States invaded Iraq because of weapons of mass destruction, evidence points to oil. Since World War II and historic meetings between President Roosevelt and the leader of Saudi Arabia, U.S. policy interests have been focused on establishing a stronghold in the region. Prior to the invasion, the Bush administration had already made plans for the oil industry, and currently, the military surrounds and secures the oil fields.

Since 2003, the Iraq War has cost U.S. taxpayers three-quarters of a trillion dollars, as shown in Table 2. Though spending will decline this year, including the Iraq War brings total spending on securing access to oil to $166 billion. Other analysts might point to the strategic importance of Afghanistan in a resource-rich region, but spending on that prolonged war and occupation is not included in this analysis.

Recently, President Obama appeased the oil industry by opening large parts of the East Coast, Gulf waters, and elsewhere to drilling. But this shortsighted policy would only lessen our dependence on foreign oil by a trivial amount. Moreover, if production were increased, oil prices may drop and the average American may choose to drive more. Bring back the Hummer.

Instead, the $166 billion that we are spending right now on the military could subsidize and expand public transport, weatherize homes, and fund research on renewable energy. Typically, the federal government invests only $2.3 billion in renewable energy and conservation each year. Even the stimulus bill, which contained an unprecedented amount of spending for renewable energy and conservation, pales in comparison with military spending. Stimulus spending included $18.5 billion for energy efficiency and renewable energy programs, $8 billion in federal loan guarantees for renewable-energy systems, and $17.4 billion for modernization programs such as the “smart” electricity grid, which will reduce electricity consumption. While these healthy federal investments—spent over several years—will encourage a move away from fossil fuels, strategic military operations securing access to those climate-changing resources will continue to dominate our taxpayer dollar.

Put all these numbers in perspective: The price of a barrel of oil consumed in the United States would have to increase by $23.40 to offset military resources expended to secure oil. That translates to an additional 56 cents for a gallon of gas, or three times the federal gas tax that funds road construction.

If $166 billion were spent on other priorities, the Boston public transportation system, the “T,” could have its operating expenses covered, with commuters riding for free. And there would still be money left over for another 100 public transport systems across the United States. Or, we could build and install nearly 50,000 wind turbines. Take your pick.

Anita Dancs is an assistant professor of economics at Western New England College and a staff economist for the Center for Popular Economics.

SOURCES: Energy Information Administration (eia.doe.gov). These estimates are refined and updated from an earlier paper, Anita Dancs with Mary Orisich and Suzanne Smith, “The Military Cost of Securing Energy,” National Priorities Project (nationalpriorities.org).

The new "order" is Total chaos

The new "order" is Total chaos...
By Chan Akya

I saw a wonderful cartoon this week, which had two kids (one of whom is holding a needle close to a balloon) approaching a balding middle-aged man reading one of the financial newspapers, with the caption "Watch him jump". Replace the adolescents with today's politicians (actually scratch that, most politicians are still adolescent at least as far as their mental growth is concerned) and the balloon as burst; you have the perfect picture of what happened in the markets.

Anyone looking for the "new normal" doesn't have to look too far from the events that drove this week's trading so far. In summary, academics and economists (reportedly there is a difference between the two) have been searching for a "new normal" for the world economy as it attempts to recover from the crisis of 2007.

What they are missing is that the "new normal" isn't going to be defined by the relative economic growth of various countries or the dynamics of inflation; what will define it (as is increasingly becoming clear) is the return of absolute, gut-wrenching volatility that makes investing a permanent state of siege. In that environment, investor behavior is reactive rather than proactive and surprises abound on both the up and down directions.

Welcome to a new world where the definition of order is a state of continued chaos.

What caused this meltdown?

The primary policy response globally since October 2008 has been Keynesian, that is, to throw good money after bad in the fervent hope that any resulting inflation would help to reduce the present value of debts while creating new asset bubbles that could encourage consumers to return to their big spending ways. For a while, the strategy seemed to have worked, what with all manner of risk assets rising over the course of 2009. The indicator that the financial media are most obsessed with is the stock market; and unfortunately for the headline-writers and other cheerleaders for the global economic "V-shaped-recovery" malarkey, that isn't looking in good health now.

As things stand today (May 20), European stocks (Euro Stoxx) are down 13.35% on average for the year (25% down in US dollar terms) within which there is a significant variance across the various countries - Germany's DAX index is only down 1.5% (15% in US dollar terms) while Greece (-27%) and Madrid (22%) have done horribly. In Asia, the Nikkei is barely flat for the year in US dollar terms while being down 5% or so in the local currency; for the Hang Seng index in Hong Kong the decline is 10.6% for the year. The US stock markets, which led the rally last year, were basically flat for the year on Wednesday; declines on Thursday pushed the S&P index down about 2% for the year.

The first polemic: Buyers of risk have the power in the markets today precisely because governments have abrogated fiscal responsibility. In that context, when you are in charge of a government that needs to borrow tens of billions of dollars from the markets every day, it may be a good idea neither to startle people nor indeed to lecture them. It doesn't look to me that German Chancellor Angela Merkel or President Barack Obama have got this particular memo, for they have done precisely the opposite thing.

The second polemic: Governments around the world and particularly in Europe can pretend that this bout of crisis is all about the evils of hedge funds, speculators, short-sellers and whatever have you; the truth is closer to home. Over-leveraged institutions and indeed instruments are prone to rapid bouts of volatility. Any solutions that fail to address excessive leverage would likely buy time and do nothing else. Governments cannot get away with this bluster much as they try to paint new villains into their own ghastly policy responses.

The third polemic: This relates to the political classes - no offense but do shut up. Buyers of risk (see polemic number one) have no appetite for lectures and have been forced to do more work on ensuring that whatever they buy is worth the trouble from a risk perspective. Add a whole bunch of unrelated political noise to these complex equations - and that means your speeches, my dear politicians - and what you have is the makings of a buyer's strike. And if that happens ... oh well, let's not consider that, okay?

Recent developments
This week would certainly never be categorized as "slow news" by any stretch of the imagination. Financial markets were abuzz with developments most of which proved extremely expensive for investors who owned risk (or "long" in the market parlance).

To be sure, there were enough other events that were non-financial: the continued oil spill in the Gulf of Mexico, the tragic events in Thailand, the escalation of rhetoric between North and South Korea over the torpedo incident and the new nuclear deal signed by Iran to defuse tensions. Unfortunately for investors, all of these events were considered strictly with the jaundiced eyes of those who panic; in other words, all of the above compounded the negative tone of the markets (admittedly most of the above is actually bad news).

A look here at the main developments from a financial perspective:
German short-selling ban
The biggest mover of the markets was the announcement by Germany on Tuesday to disallow short sales of European government bonds, "naked" credit default swaps (CDS) and the short positions in the stocks of Germany's 10 biggest financial institutions.

Market reaction ranged from the incredulous to the irreverent (example - a popular e-mail carried a fake headline as its subject "Germany bans goals against its team in the World Cup"). There were a lot of details left to be ironed out by the announcement made by the BaFin agency; not the least of which was how the new rules were going to be enforced and its geographical scope. The confusion only deepened when other European countries, including France and the United Kingdom, denied that the rules were applicable across the region.

As things stand, the rules, if adopted across Europe, would carry significant but unintended consequences. Bear with me for a moment here, but the complexity below is necessary to drive home the point about how clueless today's government officials are with respect to the market.

Take the ban on "naked" CDS; under the rules, no one may purchase protection on a European government without owning underlying bonds. Assuming that everyone complies, there is still a very big problem, that is, that while bonds carry pretty much any maturity date, most CDS contracts are set to mature in quarterly intervals (20th of March, June, September and December).

So if you owned a bond that matured on say February 10, 2015, you would want to buy protection close enough to that date; hence to March 20, 2015 - technically, the rules would disallow this CDS because your contract has a "naked short" exposure on the European government for a month longer than its maturity. Well, why couldn't you get a CDS to mature on February 10, 2015 - because the dealers would consider it illiquid and prefer not to trade with you for the date. Your other alternative would be to purchase protection until December 20, 2014; however, in that event, you as the investor would be left with a "naked long" position for 40 days (which, given this year's meltdown in European government debt, would be unacceptable).

The solution then would be for you to purchase a bond that matured exactly on the CDS rollover dates. This would in turn force governments around Europe to issue bonds that only matured on the appropriate CDS contract dates. Imagine a government having maturities of say 50 billion euros in a given year; that would mean going to the markets on just four days of the year with 12.5 billion euros each time (and remember that all other European governments would also be approaching the market for funding on those same days). The net result is that volatility in the bond markets would increase, not decrease due to such maturity concentrations.

(Yes, I am aware that there are many other solutions, but the point here is to highlight linear interpretations of ill-considered laws).

Other regulatory risks
Just to make things interesting, regulatory risk has increased manifold over the past week:

The European Union is proposing a comprehensive hedge fund regulation that would target the operations of hedge funds across the continent and also limit the ability of European citizens to invest in hedge funds alongside. This is part of the political noise from Europe in recent days but is thought to have significant (adverse) consequences for market liquidity if it is adopted across Europe and particularly by the UK.

There is the much-discussed financial reform bill in the US that is making its way through the process with more than its share of headlines; it was finally approved in the senate on Thursday and must now be merged with a House of Representatives version. It is expected to be signed off by early July. Among other things, the bill calls for new ways to watch for risks in the financial system and writes new rules for complex securities. It would also impose restraints on the large, interconnected banks and call for proof that borrowers could pay for the simplest of mortgages.

The impetus towards a global bank tax has gathered momentum, with both Germany and the UK proposing different variations of the idea. This is a straightforward negative for the share prices of banks but as it highlights the notion of governments scrambling to impose retrospective taxes obviously to improve their fiscal positions the markets are looking at other sectors, including metals, mining, energy et al.

Poor economic data
Forget all the market noise; one can always depend on fundamentals, right? Oh well, not this week. Even as the US produced a surprise deflation print that suggested that sales were only happening at the expense of margins (thereby rendering questionable the market expectations of profits), there was worse news from employment, when claims increased a surprising amount for the week. Elsewhere, the UK produced a surprisingly aggressive inflation print that suggested the counter-effects of the marked decline in the pound sterling for the past few months as the country effectively imported its inflation; this has negative consequences for Europe, where much the same combination of fiscal/quantitative expansion and currency devaluation is happening now.

Commodities, Australia, miners and metals
Following from an Australian government's initiative to tax commodity exports in order to buttress its finances, prices have become more volatile both for companies operating in the business and for the actual commodities as financial markets grapple with the potential consequences. There is now elevated risk that other major exporting countries such as Chile, Brazil and Canada may follow suit, in turn making commodity prices more volatile.

The volatility itself is being fed by the decline in stock markets that has created a negative spiral of wealth for individuals, a postponement of large initial public offerings and share placements, including potentially the $25 billion deal mooted by Petrobras; and a general re-rating towards a negative view.

In credit markets, this has translated into significant bouts of panic. A number of large commodity-based companies have large outstanding lines of credit from global banks under which they would be able to draw down billions in funding whenever required. Given that banks are now paying much more for their funding - particularly if they are based in Europe - and the commodity companies have less illustrious future earnings (apparently), the urge to hedge has vastly increased, thereby driving CDS levels sharply wider.

Zero-sum game exposed
One of the factors keeping the US and emerging markets ticking away in the beginning of the European sovereign crisis was the notion that market flows represented a zero-sum game, ie that outflows from Europe would help market performance elsewhere.

This has now been exposed as a lie as markets have become more cognizant of two constraining factors - firstly, the economic effect of fiscal tightening being imposed across the continent, which would reduce aggregate demand for exports from the US and emerging markets; and secondly, the collapse of the euro, which dramatically escalates the competitive position of exports from the continent (at the expense of the US and emerging markets).

Thus, rather than a zero-sum game, the decline of Europe simply transmits itself to the rest of the markets as a negative.

The way forward
Much as this may seem counter-intuitive, the lesson for governments globally is to do as Germany did, not as they say. If one considers the experience of the country embracing real wage deflation from 2000 to improve its competitiveness and eschewing leverage in favor of a gradual build-up of productivity, it appears almost logical for a number of other countries that have similar demographic situations (much of Europe, the US and others) to follow.

The trick is to avoid listening to the German government as it stands today; where meaningful reforms are being sacrificed at the altar of political expediency in favor of some neighboring countries, such as France. With Germans voting against the current political equations, the rhetoric has become shriller as the attacks on hedge funds and naked shorts make clear.

Markets have woken up to the risks of the excessive debt build-up by governments globally. This will have credit consequences (ie some countries will have to restructure their debts) that then flow to interest rates (as bond yields become steeper or rise) and from there to the rest of the economy (savings will be forced higher, consumption down). These are precisely the objectives that policy responses should have focused on since the beginning of the crisis - it just so happens that when governments avoid tough action, markets go in and do it for them.

The larger lesson is that thanks to the counter-intuitive and eventually counter-productive actions of the Keynesians running global governments today, chaos is the new order; a constant state of crisis is the new normal.

I write to you from a disgraced profession.... Economic theory

The following is the text of James Galbraith‘s written statement to members of the Senate Judiciary Committee delivered a few days ago.

Chairman Specter, Ranking Member Graham, Members of the Subcommittee, as a former member of the congressional staff it is a pleasure to submit this statement for your record.

I write to you from a disgraced profession. Economic theory, as widely taught since the 1980s, failed miserably to understand the forces behind the financial crisis. Concepts including “rational expectations,” “market discipline,” and the “efficient markets hypothesis” led economists to argue that speculation would stabilize prices, that sellers would act to protect their reputations, that caveat emptor could be relied on, and that widespread fraud therefore could not occur. Not all economists believed this – but most did.

Thus the study of financial fraud received little attention. Practically no research institutes exist; collaboration between economists and criminologists is rare; in the leading departments there are few specialists and very few students. Economists have soft- pedaled the role of fraud in every crisis they examined, including the Savings & Loan debacle, the Russian transition, the Asian meltdown and the dot.com bubble. They continue to do so now. At a conference sponsored by the Levy Economics Institute in New York on April 17, the closest a former Under Secretary of the Treasury, Peter Fisher, got to this question was to use the word “naughtiness.” This was on the day that the SEC charged Goldman Sachs with fraud.

There are exceptions. A famous 1993 article entitled “Looting: Bankruptcy for Profit,” by George Akerlof and Paul Romer, drew exceptionally on the experience of regulators who understood fraud. The criminologist-economist William K. Black of the University of Missouri-Kansas City is our leading systematic analyst of the relationship between financial crime and financial crisis. Black points out that accounting fraud is a sure thing when you can control the institution engaging in it: “the best way to rob a bank is to own one.” The experience of the Savings and Loan crisis was of businesses taken over for the explicit purpose of stripping them, of bleeding them dry. This was established in court: there were over one thousand felony convictions in the wake of that debacle. Other useful chronicles of modern financial fraud include James Stewart’s Den of Thieves on the Boesky-Milken era and Kurt Eichenwald’s Conspiracy of Fools, on the Enron scandal. Yet a large gap between this history and formal analysis remains.

Formal analysis tells us that control frauds follow certain patterns. They grow rapidly, reporting high profitability, certified by top accounting firms. They pay exceedingly well. At the same time, they radically lower standards, building new businesses in markets previously considered too risky for honest business. In the financial sector, this takes the form of relaxed – no, gutted – underwriting, combined with the capacity to pass the bad penny to the greater fool. In California in the 1980s, Charles Keating realized that an S&L charter was a “license to steal.” In the 2000s, sub-prime mortgage origination was much the same thing. Given a license to steal, thieves get busy. And because their performance seems so good, they quickly come to dominate their markets; the bad players driving out the good.

The complexity of the mortgage finance sector before the crisis highlights another characteristic marker of fraud. In the system that developed, the original mortgage documents lay buried – where they remain – in the records of the loan originators, many of them since defunct or taken over. Those records, if examined, would reveal the extent of missing documentation, of abusive practices, and of fraud. So far, we have only very limited evidence on this, notably a 2007 Fitch Ratings study of a very small sample of highly-rated RMBS, which found “fraud, abuse or missing documentation in virtually every file.” An efforts a year ago by Representative Doggett to persuade Secretary Geithner to examine and report thoroughly on the extent of fraud in the underlying mortgage records received an epic run-around.

When sub-prime mortgages were bundled and securitized, the ratings agencies failed to examine the underlying loan quality. Instead they substituted statistical models, in order to generate ratings that would make the resulting RMBS acceptable to investors. When one assumes that prices will always rise, it follows that a loan secured by the asset can always be refinanced; therefore the actual condition of the borrower does not matter. That projection is, of course, only as good as the underlying assumption, but in this perversely-designed marketplace those who paid for ratings had no reason to care about the quality of assumptions. Meanwhile, mortgage originators now had a formula for extending loans to the worst borrowers they could find, secure that in this reverse Lake Wobegon no child would be deemed below average even though they all were. Credit quality collapsed because the system was designed for it to collapse.

A third element in the toxic brew was a simulacrum of “insurance,” provided by the market in credit default swaps. These are doomsday instruments in a precise sense: they generate cash-flow for the issuer until the credit event occurs. If the event is large enough, the issuer then fails, at which point the government faces blackmail: it must either step in or the system will collapse. CDS spread the consequences of a housing-price downturn through the entire financial sector, across the globe. They also provided the means to short the market in residential mortgage-backed securities, so that the largest players could turn tail and bet against the instruments they had previously been selling, just before the house of cards crashed.

Latter-day financial economics is blind to all of this. It necessarily treats stocks, bonds, options, derivatives and so forth as securities whose properties can be accepted largely at face value, and quantified in terms of return and risk. That quantification permits the calculation of price, using standard formulae. But everything in the formulae depends on the instruments being as they are represented to be. For if they are not, then what formula could possibly apply?

An older strand of institutional economics understood that a security is a contract in law. It can only be as good as the legal system that stands behind it. Some fraud is inevitable, but in a functioning system it must be rare. It must be considered – and rightly – a minor problem. If fraud – or even the perception of fraud – comes to dominate the system, then there is no foundation for a market in the securities. They become trash. And more deeply, so do the institutions responsible for creating, rating and selling them. Including, so long as it fails to respond with appropriate force, the legal system itself.

Control frauds always fail in the end. But the failure of the firm does not mean the fraud fails: the perpetrators often walk away rich. At some point, this requires subverting, suborning or defeating the law. This is where crime and politics intersect. At its heart, therefore, the financial crisis was a breakdown in the rule of law in America.

Ask yourselves: is it possible for mortgage originators, ratings agencies, underwriters, insurers and supervising agencies NOT to have known that the system of housing finance had become infested with fraud? Every statistical indicator of fraudulent practice – growth and profitability – suggests otherwise. Every examination of the record so far suggests otherwise. The very language in use: “liars’ loans,” “ninja loans,” “neutron loans,” and “toxic waste,” tells you that people knew. I have also heard the expression, “IBG,YBG;” the meaning of that bit of code was: “I’ll be gone, you’ll be gone.”

If doubt remains, investigation into the internal communications of the firms and agencies in question can clear it up. Emails are revealing. The government already possesses critical documentary trails — those of AIG, Fannie Mae and Freddie Mac, the Treasury Department and the Federal Reserve. Those documents should be investigated, in full, by competent authority and also released, as appropriate, to the public. For instance, did AIG knowingly issue CDS against instruments that Goldman had designed on behalf of Mr. John Paulson to fail? If so, why? Or again: Did Fannie Mae and Freddie Mac appreciate the poor quality of the RMBS they were acquiring? Did they do so under pressure from Mr. Henry Paulson? If so, did Secretary Paulson know? And if he did, why did he act as he did? In a recent paper, Thomas Ferguson and Robert Johnson argue that the “Paulson Put” was intended to delay an inevitable crisis past the election. Does the internal record support this view?

Let us suppose that the investigation that you are about to begin confirms the existence of pervasive fraud, involving millions of mortgages, thousands of appraisers, underwriters, analysts, and the executives of the companies in which they worked, as well as public officials who assisted by turning a Nelson’s Eye. What is the appropriate response?

Some appear to believe that “confidence in the banks” can be rebuilt by a new round of good economic news, by rising stock prices, by the reassurances of high officials – and by not looking too closely at the underlying evidence of fraud, abuse, deception and deceit. As you pursue your investigations, you will undermine, and I believe you may destroy, that illusion.

But you have to act. The true alternative is a failure extending over time from the economic to the political system. Just as too few predicted the financial crisis, it may be that too few are today speaking frankly about where a failure to deal with the aftermath may lead.

In this situation, let me suggest, the country faces an existential threat. Either the legal system must do its work. Or the market system cannot be restored. There must be a thorough, transparent, effective, radical cleaning of the financial sector and also of those public officials who failed the public trust. The financiers must be made to feel, in their bones, the power of the law. And the public, which lives by the law, must see very clearly and unambiguously that this is the case.

US National Deficit - Think $5 Trillion Annually.....

May 2010

Comment on other posts that contain within them facts which are so jaw-dropping that silence is impossible - !

From an old friend, John Williams, who specializes in keeping statistics far more reliable than the massaged and distorted numbers released regularly by the US government, comes the seemingly inconceivable fact that the US government is running deeper into the red by $4.5 to $5 trillion dollars per year (not the official and still mind-boggling $1.4 trillion annual figure).

What?

Believe it or not, Mr. Williams, a meticulous statistician, simply crunched the numbers, and this was the figure he got. Why did I round this up to $5 trillion in my article title? Because important fundamental factors are steadily growing more negative - specifically the rising rate on US treasury bonds, which will gradually force the US government to pay higher and higher interest on its debt denominated in bonds, most of which are now sold to international investors (no longer true, the old saw that "we owe it to ourselves").

What exactly is Mr. Williams telling us? I quote from his Gold Report Interview:

"If you look at... GAAP-based statements and include in the deficit the year-to-year change in the net present value of the unfunded liabilities for Social Security and Medicare, what you'll find is that the annual operating shortfall is running between $4 and $5 trillion; not $500 billion as we saw before the crisis or the $1.4 trillion that they announced for fiscal 2009. Now to put that into perspective, if the government wanted to balance its deficit on a GAAP basis for a year, and it seized all personal income and corporate profits, taxing everything 100%, it would still be in deficit. It can't raise taxes enough to contain this. On the other side, if it cut all government spending except for Social Security and Medicare, it still would be in deficit. With no political will to contain the spending, eventually the government meets its obligations by revving up the currency printing press."

Yes, you read it correctly. If US citizens paid 100% of their income, and US corporations paid 100% of their profits in taxes - it would not raise enough funds to meet the real annual shortfall!

Is this not the standard definition of bankruptcy? Yes, .....

For your edification, I have included several 2008 charts from Mr. Williams' Shadowstats site illustrating the scale of US unfunded liabilities in proportion to GDP. In short, the US government has a much higher liability to GDP ratio than the balance of the world, and this is the crux of the problem.

For a general review of US debt issues, click here for an excellent and detailed article in Wikipedia.

Watching the government-level default of Greece on its international debt obligations, presently playing out on the world stage, offers some instruction as to what happens when governments "go bankrupt." It is chaotic and fear-inspiring. Bear in mind, the Greek economy, with a nominal GDP of $343 billion (2008), making it the 27th largest in the world, constitutes only 2.08% of the combined fiscal activity of the European Union (that figure is $339 billion in terms of purchasing power parity, or PPP, the metric by which China is rapidly catching up to and overtaking the US in financial power). Greece has defaulted on its obligations about half the time since it became a democracy, so the Greek economy has never been particularly robust.

So, how large is the US economy, compared to the Greek economy? Well, the US, the country by which PPP is officially measured, is the largest economy in the world, with an annual GDP estimated at $14.266 trillion in 2009. That is, the US economy is 41.6 times larger than that of Greece, or almost as large as that of the combined European Union, with an annual GDP figure of $16.447 trillion.

For the sake of interesting statistics, note that while the GDP of China is about1/3 that of the US ($4.91 trillion in 2009, third in the world), in purchasing power parity terms, the Chinese economy has now reached the $8.77 trillion level, making it the second largest national economy in the world with respect to the quite meaningful PPP metric.

Suffice it to say that Greece is small, the US is big, the European Union is very big, and China is now playing in the big leagues as well.

So if the Greek crisis is creating this kind of global firestorm, then what are the implications of the bankruptcy of the US?

Hmmm (again)...

That could be a giant-sized problem...

Mr. Williams foresees a hyper-inflationary great depression for the US. Maybe - I don't know about things like that.

Here's what I do know. The news media routinely apply the phrases "global reserve currency" and "safe haven in time of crisis" to the US dollar.

Perhaps that will not always be the case. Marc Faber has commented that we have already returned to a global gold standard for functional purposes. Mr. Faber states, "I think we already have now a gold standard… created by the market place. We have the (exchange traded funds) that have proliferated and we have more and more physical buying of gold."

That's an interesting idea....

We all know that the markets can remain irrational longer than we can remain solvent (J. M. Keynes). But can the markets remain irrational longer than the US government can remain solvent? I don't think so. At some point, phrases such as "global reserve currency" and "safe haven" will not apply to the US dollar.

The good news, of course, is that those terms have been applicable to gold for thousands of years of human history. Guess what? Nothing has changed.

It's a no-brainer. Own gold and sleep well at night. Pleasant dreams....

P.S. Gold's next stop = $3000 per ounce in 2012? Maybe - click here.

Financial information WELL worth taking the time to become acquainted with:

- Comprehensive Annual Financial Reports (CAFRs) US agencies have billions, trillions in investments while crying budget deficits


- THE MYSTERIOUS CAFRS:
HOW STAGNANT POOLS OF GOVERNMENT MONEY COULD HELP SAVE THE ECONOMY: by Ellen Brown


- CAFR1 Makes a Challenge to - The San Francisco Chronicle: People have been sound-bite conditioned to think Government only generates tax income and that is where the public's focus is directed. In reality in combination of all local governments and the state from CA the investment capital is massive (noted above in excess of 8 trillion dollars) that generates in return revenue greater than all taxation collected in the state.

The public has been kept oblivious to the scope and size of these collective funds and through intentional misdirection pointed at tax income and expenditures dealt with. So your pie charts that give the impression of 100% is actually just 1/3rd of the pie when it comes down to government's true "gross income"....