When a month ago the Central Banks' Central Bank, aka the Bank of International Settlements (or BIS) in Basel where the MIT central-planning braintrust meets every few months to decide the fate of the world, warned that the Fed-induced collateral shortage is distorting the markets, few paid attention. That the implication behind said warning was that QE can not continue at the current pace, was just as lost. A few short weeks later following the biggest plunge in markets since 2011 in the aftermath of Bernanke's taper tantrum, some are finally willing to listen.
However, they will certainly not like what the BIS just released as a follow up, both in the form of the BIS' 83rd Annual Report, and the speech by Jaime Caruana to commemorate said annual meeting. For the simple reason that it reads like a run of the mill Sunday morning Zero Hedge sermon, which says, almost verbatim, that the days of kicking the can via flawed monetary policy are now over, and that the time for central banks to end the monetary morphine drip has finally come.
The BIS message, as summarized by the FT, is that "central banks must head for the exit and stop trying to spur a global economic recovery... cheap and plentiful central bank money had merely bought time, warning that more bond buying would retard the global economy’s return to health by delaying adjustments to governments’ and households’ balance sheets."
Here is a better summary of the BIS' unprecedented U-Turn on its 5 year long monetary strategy, in its own selected words:
Can central banks now really do “whatever it takes”? As each day goes by, it seems less and less likely... Six years have passed since the eruption of the global financial crisis, yet robust, self-sustaining, well balanced growth still eludes the global economy. If there were an easy path to that goal, we would have found it by now. Monetary stimulus alone cannot provide the answer because the roots of the problem are not monetary. Hence, central banks must manage a return to their stabilisation role, allowing others to do the hard but essential work of adjustment. Many large corporations are using cheap bond funding to lengthen the duration of their liabilities instead of investing in new production capacity. Overindebtedness is one of the major barriers on the path to growth after a financial crisis. Borrowing more year after year is not the cure...in some places it may be difficult to avoid an overall reduction in accommodation because some policies have clearly hit their limits.
Of course, it would have been more useful for the BIS to reach this commonsensical conclusion some four years ago (or roughly when we started preaching to the choir, which now includes the BIS itself), instead of allowing the global private bank controlled syndicate known as "central banks" to inject $10 trillion into global capital markets in the past 4 years, and $16 trillion (a 500% increase!) since 2000.
Some of the "shocking" and painfully late observations on the chart above:
Since the beginning of the financial crisis almost six years ago, central banks and fiscal authorities have supported the global economy with unprecedented measures. Policy rates have been kept near zero in the largest advanced economies. Central bank balance sheets have doubled from $10 trillion to more than $20 trillion. And fiscal authorities almost everywhere have been piling up debt, which has risen by $23 trillion since 2007. In emerging market economies, public debt has grown more slowly than GDP; but in advanced economies, it has grown much faster, so that it now exceeds one year’s GDP.
Some of the other, just as "shocking" observations: a dramatic surge in artificially low bond yields will result in crippling, systemic losses, amounting to trillions of dollars for bond (and certainly stock) investors around the globe, to the tune of 8% of GDP losses in the US, and a mindblowing 35% of GDP in losses for Japanese investors:
Consider what would happen to holders of US Treasury securities (excluding the Federal Reserve) if yields were to rise by 3 percentage points across the maturity spectrum: they would lose more than $1 trillion, or almost 8% of US GDP (Graph I.3, right-hand panel). The losses for holders of debt issued by France, Italy, Japan and the United Kingdom would range from about 15 to 35% of GDP of the respective countries. Yields are not likely to jump by 300 basis points overnight; but the experience from 1994, when long-term bond yields in a number of advanced economies rose by around 200 basis points in the course of a year, shows that a big upward move can happen relatively fast.
And while sophisticated hedging strategies can protect individual investors, someone must ultimately hold the interest rate risk. Indeed, the potential loss in relation to GDP is at a record high in most advanced economies. As foreign and domestic banks would be among those experiencing the losses, interest rate increases pose risks to the stability of the financial system if not executed with great care.
All of which Japan's "sophisticated", yet joyously cartoonish, "leaders" recently found out when they almost lost all control of the bond (and stock) market.
What's the "wealth effect" solution: why buy stocks but don't sell bonds. Or if selling bonds, do so vewy, vewy quietly. Alas, not even the BIS is dumb enough to fall for this (or push) possibility any longer.
The BIS report goes on, doing all it can to distance itself from those central banks who merely implemented policy that the BIS supported (and encouraged) for the past 5 years, but which has suddenly turned a cold shoulder. It does so by dramatically and rhetorically blasting a litany of questions to which it fully-well knows the answers:
How can central banks encourage those responsible for structural adjustment to implement reforms? How can they avoid making the economy too dependent on monetary stimulus? When is the right time for them to pull back from their expansionary policies? And in pulling back, how can they avoid sparking a sharp rise in bond yields? It is time for monetary policy to begin answering these questions.
Regardless of the politics behind the shift in BIS sentiment, the days of Mario Draghi's "whatever it takes" shriek of desperation are over. Here are some more of the key soundbites from the BIS report:
Originally forged as a description of central bank actions to prevent financial collapse, the phrase “whatever it takes” has become a rallying cry for central banks to continue their extraordinary actions. But we are past the height of the crisis, and the goal of policy has changed – to return still-sluggish economies to strong and sustainable growth. Can central banks now really do “whatever it takes” to achieve that goal? As each day goes by, it seems less and less likely. Central banks cannot repair the balance sheets of households and financial institutions. Central banks cannot ensure the sustainability of fiscal finances. And, most of all, central banks cannot enact the structural economic and financial reforms needed to return economies to the real growth paths authorities and their publics both want and expect.
What central bank accommodation has done during the recovery is to borrow time – time for balance sheet repair, time for fiscal consolidation, and time for reforms to restore productivity growth. But the time has not been well used, as continued low interest rates and unconventional policies have made it easy for the private sector to postpone deleveraging, easy for the government to finance deficits, and easy for the authorities to delay needed reforms in the real economy and in the financial system. After all, cheap money makes it easier to borrow than to save, easier to spend than to tax, easier to remain the same than to change.
Yes, in some countries the household sector has made headway with the gruelling task of deleveraging. Some financial institutions are better capitalised. Some fiscal authorities have begun painful but essential consolidation. And yes, much of the difficult work of financial reform has been completed. But overall, progress has been slow, halting and uneven across countries. Households and firms continue to hope that if they wait, asset values and revenues will rise and their balance sheets improve. Governments hope that if they wait, the economy will grow, driving down the ratio of debt to GDP. And politicians hope that if they wait, incomes and profits will start to grow again, making the reform of labour and product markets less urgent. But waiting will not make things any easier, particularly as public support and patience erode.
Alas, central banks cannot do more without compounding the risks they have already created. Instead, they must re-emphasise their traditional focus – albeit expanded to include financial stability – and thereby encourage needed adjustments rather than retard them with near-zero interest rates and purchases of ever larger quantities of government securities. And they must urge authorities to speed up reforms in labour and product markets, reforms that will enhance productivity and encourage employment growth rather than provide the false comfort that it will be easier later.
* * *
As governments responded to the financial crisis with bank bailouts and fiscal stimulus, their indebtedness rose to new highs. And in countries that experienced a housing bubble in the run-up to the crisis, households had already accumulated large debts. In the half-decade since the peak of the crisis, the hope was that significant progress would be made in the necessary deleveraging process, thereby enabling a self-sustaining recovery.
However, that never happened.
Easy financial conditions can do only so much to revitalise long-term growth when balance sheets are impaired and resources are misallocated on a large scale. In many advanced economies, household debt remains very high, as does non-financial corporate debt. With households and firms focused on reducing their debt, a low price for new credit is not terribly relevant for spending. Indeed, many large corporations are using cheap bond funding to lengthen the duration of their liabilities instead of investing in new production capacity. It does not matter how attractive the authorities make it to lend and borrow – households and firms focused on balance sheet repair will not add to their debt, nor should they.
And, most of all, more stimulus cannot revive productivity growth or remove the impediments that block a worker from shifting into a promising sector. Debt-financed growth masked the downward trend in labour productivity and the large-scale distortion of resource allocation in many economies. Adding more debt will not strengthen the financial sector nor will it reallocate resources needed to return economies to the real growth that authorities and the public both want and expect.
* * *
Six years have passed since the eruption of the global financial crisis, yet robust, self-sustaining, well balanced growth still eludes the global economy. If there were an easy path to that goal, we would have found it by now. Monetary stimulus alone cannot provide the answer because the roots of the problem are not monetary. Hence, central banks must manage a return to their stabilisation role, allowing others to do the hard but essential work of adjustment.
Authorities need to hasten labour and product market reforms so that economic resources can shift more easily to high-productivity sectors. Households and firms have to complete the difficult job of repairing their balance sheets, and governments must intensify their efforts to ensure the sustainability of their finances. Regulators have to adapt the rules to a financial system that is becoming increasingly interconnected and complex and ensure that banks have sufficient capital and liquidity buffers to match the associated risks. Each country needs to tailor the reform agenda to maximise its chances of success without endangering the ongoing economic recovery. But, in the end, only a forceful programme of repair and reform will return economies to strong and sustainable real growth.
* * *
Ultimately, outsize public debt reduces sovereign creditworthiness and erodes confidence. By putting their fiscal house in order, governments can help restore the virtuous cycle between the financial system and the real economy. And, with low levels of debt, governments will again have the capacity to respond when the next financial or economic crisis inevitably hits.
The BIS conclusion:
Is this a call for undifferentiated, simultaneous and comprehensive tightening of all policies? The short answer is no. Concrete measures need to be tailored to country-specific circumstances and needs. And the timing need not be simultaneous, although in some places it may be difficult to avoid an overall reduction in accommodation because some policies have clearly hit their limits.
Ours is a call for acting responsibly now to strengthen growth and avoid even costlier adjustment down the road. And it is a call for recognising that returning to stability and prosperity is a shared responsibility. Monetary policy has done its part. Recovery now calls for a different policy mix – with more emphasis on strengthening economic flexibility and dynamism and stabilising public finances.
Finally, today’s large flows of goods, services and capital across borders make economic and financial stability a shared international responsibility. Cross-border effects of domestic policy action are intrinsic to globalisation. Understanding spillovers and finding ways to avoid the unintended effects is central to the work of the BIS. And continued discussions among central banks and supervisors – discussions that the BIS facilitates and promotes – are essential for avoiding national biases in policymaking. Such national bias runs the risk of undermining globalisation and thus blocking the road to sustained growth for the global economy.
And yes, the central banks' central bank really did say all of the above. Unpossible the Keynesian Magic Money Tree growers will say: surely there is an error in the BIS excel model...
Those pressed for time, if unable to read the full 204 page annual report, should at least read the following stunning speech from Jaime Caruana, General Manager of the BIS, titled "Making the most of borrowed time." (only 9 pages - pdf here). Because, if nothing else, it validates everything Zero Hedge has said for the past 4 years.
Japanese individuals now make up 43% of total equity volume - up dramatically from a mere 27% in November of last year - with commissions at brokers quadrupling year-over-year and an increasing number of 'get-rich-quick' investors turning to day-trading. Amid the huge volatility induced by Abenomics and deregulation of margin trading - enabling 300% leverage, the 'investing' public's attention span has collapsed to minutes: "winning at stocks is about predicting the future," one trader said, "I have a lot better chance of predicting what’s going to happen in the next few seconds than what will happen in the next six months." The volatility provides more room for these 'day-traders' to make money when they bet correctly (forget about the downside) on a stock's direction - long or short - and "now you can borrow endlessly." What could go wrong? One trader, as Bloomberg notes, leveraged $4.5mm in cash into as much as $67mm in daily stock bets and made $350,000 this year - triple his annual average of the last eight years.
Sitting before a cluster of computer screens in an apartment with the drapes shut, it took Naoki Murakami seconds to make $3,500 betting $1 million that Tokyo Electric Power Co. (9501) shares would fall a fraction of a percent.
The 34-year-old day trader first sold 50,000 shares at 558 yen ($5.70), then three more lots at 1-yen intervals as the stock dropped. He got out $2,500 richer, repeated the trade, and seconds later had $1,000 more. Within minutes of the market opening, the former water-purifier salesman had made more than the average Japanese person earns in a month.
Stringing together 20 or 30 similar trades each day, Murakami said he’s almost doubled his money to $750,000 this year. He calls himself the smallest player in a group of seven day traders who chat with each other online, vacation together, and cumulatively buy and sell almost $100 million in stocks each day, using leverage to increase the size of their bets.
Day trading helps explain why Japanese individuals now account for more than 40 percent of the nation’s equity volume, or about as much as the overseas institutions that once were the biggest traders. They’ve also helped make Japan the most volatile developed market, which is good for some and bad for others.
"They’re creating the volatility,” said Curtis Freeze, who helps oversee about $320 million as chief investment officer at Prospect Asset Management in Tokyo. “It’s great for them, but for the average long-term investor, it just scares them away -- including me.”
“Watching stocks go up and up since the start of Abe’s government got me thinking about investing,” said Maki Murayama, a 38-year-old Tokyo office worker. “But seeing what’s happened lately, I realize it’s not that simple.”
Dramatic price movements aren’t the only thing that’s made Japan a day trader’s paradise. Deregulation of margin trading opened the flood gates, Murakami said. After rules were relaxed in January, investors can borrow three times as much as their brokerage account balances and turn loans over the instant they exit a trading position.
“Now you can borrow endlessly,” Murakami said.
Working barefoot in a T-shirt and shorts out of a spare bedroom in his rented apartment in Osaka, Murakami said he’s made $350,000 this year, about three times his average in the previous eight years.
One of Murakami’s friends, who goes by the blog name Tesuta, said looser rules let him leverage $4.5 million in cash into as much as $67 million in daily stock bets.
The number of shares traded by individuals rose to a record in May, some 43 percent of Japan’s total equity volume, up from 27 percent before the rally started in November, according to the Tokyo Stock Exchange.
On an average day, the group of seven day traders to which Murakami and Tesuta belong buy and sell somewhere between $80 million to $100 million in Japanese stocks, according to estimates from the members.
“When shares don’t move, you can’t get an opening for a trade,” he said. “Now that the market is moving, I feel like I have to make the most of it.”
Tesuta has tripled his fortune to $4.5 million this year, he said in an interview at a Chinese restaurant in Osaka. Making 200 to 300 trades each day and cutting losses quickly to minimize the cost of bad bets, the 33-year-old said he’s managed to profit even amid the market’s recent decline.
“Winning at stocks is about predicting the future,” Tesuta said. “I have a lot better chance of predicting what’s going to happen in the next few seconds than what will happen in the next six months.”
Now, where have we seen this before?
Submitted by Lance Roberts of Street Talk Live blog,
The recent one month spike in interest rates, along with the mind numbing chatter about the end of the "bond bull market," has sent investors scurrying from from the bond market right into the waiting arms of a stock market correction. Besides being suckered into stocks at the market peak; individuals continue to overlook the significance of fixed income to an overall, long term, portfolio allocation model. Fixed income reduces portfolio volatility, protects principal (bonds mature at face value) and generates an income stream that contributes to portfolio performance. The most important reason to own a bond is that when it is purchased the exact rate of return can be immediately calculated to maturity. This rate of return can be very efficiently modeled into the expected rate of return a portfolio should generate over time. This is absolutely something that can not be done with a portfolio of other investments that are subject to the volatility of the stock market.
However, the recent spike in interest rates has certainly caught everyone's attention and begs the question is whether the 30-year bond bull market has indeed seen its inevitable end. The following is 5 reasons why I do not think this is the case and, from a portfolio management perspective, I believe this is a prime opportunity to increase fixed income holdings in portfolios.
Money hides in U.S. Treasuries for safety when global risks are rising. As I discussed recently in "Is The Euro-zone Crisis Set To Flare Up?" there are currently many promises that have been made to the financial system by the ECB. The question is whether or not they can ultimately "cash the check." I said then that:
"While I do not have certain answers as to the where, the who or the when - I am fairly confident that it will be sooner than we currently imagine."
With yields spiking in the Euro-zone, China showing cracks on its financial front and Greece funding being threatened by the IMF it is likely that we will begin to see a rotation of excess reserves and investment dollars back into the "safe haven" of U.S. bonds to reduce default risks.
Another positive for U.S. bonds, which coincides with the international front, is domestic economic weakness. Weaker economic growth will weigh on the stock market as earnings growth continues to deteriorate which, in turn, will likely make the relative safety of bonds much more attractive. Despite much commentary to the contrary history shows that interest rates tend to follow the strength, or weakness of the broad economy. The chart below shows the annual rate of change for 10-year treasury rates and real GDP.
While the Fed currently has a target of 2% on inflation, so does Japan, it doesn't mean that the have any real control over inflationary pressures in the market. Inflation is ultimately a function of economic activity, employment and production and wages. As I discussed just recently in "Deflation: The Fed's Real Worry" the Fed's biggest fear is the negative economic impact of deflation. The headwinds facing the economy currently are structural in nature and are not something that continued rounds of liquidity injections have been able to fix.
As shown in the chart above interest rates tend to follow inflation. While interest rates have spiked in the last month, a move that has the Fed "more than a little baffled", the decline in both current inflation, as well as future expectations, will likely keep a lid on interest rates through the remainder of this year.
Coming soon to a "kabuki" theater near you will be the second annual revival of the "debt ceiling debate." While I am not suggesting that we will have an exact repeat of the 2011 debacle - it is quite likely that IF the threat of "debt default" begins to surface, once again, interest rates will fall as money seeks a "safe haven" against political turmoil. The chart below shows what happened to interest rates in the summer of 2011.
The recent surge, while it has been quite dramatic, has only returned interest rates back to where they were just two short years ago. With the debt ceiling debate once again looming, the Euro-crisis simmering, Japan faltering and China showing cracks in their financial armor there is only one real place left for the world to store their excess reserves in "safety."
Lastly, despite all of the other commentary and rhetoric in the market as of the last month, interest rates are pushing extreme overbought levels. The chart below shows a weekly chart of interest as compared to its long term moving average. Currently, at more than 3-standard deviations overbought, the level of interest rates is unsustainable and a correction is in order. In the chart I have noted (vertical blue lines) every time that the 10-year interest rate has touched 3-standard deviations above the long term mean. In every single case, over the last 10-years, that was the absolute peak of the move higher. It is unlikely to be "different this time."
With a downside target of 1.8% currently, which is simply a retracement to the mean, there is a fairly low risk entry point for bonds at the current time. Furthermore, if the recent market "sell signal" is validated it is likely that interest rates could fall as low as 1.5%.
Bonds Look Cheap
For all of these reasons I am bullish on the bond market through the end of this year. Furthermore, with market volatility rising, economic weakness creeping in and plenty of catalysts to send stocks lower - bonds will continue to hedge long only portfolios against meaningful market declines while providing an income stream.
Will the "bond bull" market eventually come to an end? Yes, it will, eventually. However, the catalysts needed to create the type of economic growth required to drive interest rates substantially higher, as we saw previous to the 1980's, are simply not available currently. This will likely be the case for many years to come as the Fed, and the administration, come to the inevitable conclusion that we are now in a "liquidity trap" along with the bulk of developed countries. While there is certainly not a tremendous amount of downside left for interest rates to fall in the current environment - there is also not a tremendous amount of room for them to rise until they begin to negatively impact consumption, housing and investment. It is likely that we will remain trapped within the current trading range for quite a while longer as the economy continues to "muddle" along.
Authored by Jonathan Weil (@JonathanWeil), originally posted at Bloomberg,
Until now, I have refrained from trying to explain Fedspeak to the masses. The truth is it's not opaque. It's not indecipherable. It's simple. Or at least you can choose to believe it is, as I have.
At last week’s press conference, Federal Reserve Chairman Ben Bernanke fielded questions from reporters employed by some of the world's most esteemed news organizations. Here is a summary, translated from Fedspeak into ordinary American English and heavily condensed for easy tweeting. (Compare it to a raw transcript, if you like.)
BERNANKE: Good afternoon. The Federal Open Market Committee concluded a two-day meeting earlier today. The economy has good things and bad things. We're on top of it. QE will continue. Subject to change. It depends.
STEVE LIESMAN, CNBC: Can you clarify something?
LIESMAN: So if unemployment falls to 7 percent, then what?
Bernanke: There are many factors we look at. Next question.
JON HILSENRATH, Wall Street Journal: The Fed has an awful track record of forecasting the economy. You sound optimistic. Why should we believe you now?
BERNANKE: We'll see. If we're wrong, we'll adjust.
ALISTER BULL, Reuters: Could you explain the bond market to me?
BERNANKE: That's a good question. No.
ROBIN HARDING, Financial Times: It's your fault that interest rates soared after you testified to Congress last month. You know that, right?
BERNANKE: Well, we were a little puzzled by that. Our policies depend on a lot of factors.
YLAN MUI, Washington Post: Obama says you've stayed too long. You agree?
BERNANKE: I don’t have anything for you on my personal plans.
CRAIG TORRES, Bloomberg News: We'd like to push for a little deeper explanation on thresholds and triggers.
BERNANKE: I'm sure you would.
BINYAMIN APPELBAUM, New York Times: I want to talk about thresholds and triggers, too.
BERNANKE: Low rates. Large portfolio. Large stimulus. Bringing economy smoothly towards full employment. No costs. No risks. I am the Walrus.
VICTORIA McGRANE, Dow Jones Newswires: Aren't you worried?
PETER COOK, Bloomberg Television: Won't your exit strategy be hard?
DONNA BORAK, American Banker: When are you going to pass all those new rules under Dodd-Frank?
BORAK: That wasn't a yes-or-no question.
BERNANKE: Who knows? Takes time.
PETER BARNES, Fox Business Network: Why aren't you going to Jackson Hole?
BERNANKE: Stop asking me personal questions.
STEVE BECKNER, Market News International: It's June 2013. You haven't even begun to scale back asset purchases. What's wrong with you? Could you elaborate?
BERNANKE: There's a range of estimates.
SCOTT SPOERRY, CNN Money: Haven't you messed up the mortgage-backed securities market forever?
GREG ROBB, MarketWatch.com: Could you go over that tapering thing again?
BERNANKE: We may do more. We may do less.
RYAN AVENT, the Economist: Mr. Chairman, why aren't you worried about inflation being so low?
BERNANKE: I agree. It's a problem. On it.
KEVIN HALL, McClatchy Newspapers: Is Hilsenrath the real power behind the throne?
KATE DAVIDSON, Politico: The Securities and Exchange Commission hasn't fixed money-market funds. Why haven't you?
BERNANKE: Why should I?
AKIO FUJII, Nikkei: Why are you killing my country's stock market?
BERNANKE: Hey, blame the Bank of Japan. Not me.
MARK HAMRICK, Bankrate.com: Why do the other Fed governors let you hold press conferences like this?
BERNANKE: You want me to leave? Okay, fine. Thank you.
Just released by the Twitter account of Ecuador's Minister of External Relations and Commerce Ricardo Patino Aroca:
The Government of Ecuador has received an asylum request from Edward J. #Snowden
— Ricardo Patiño Aroca (@RicardoPatinoEC) June 23, 2013
More as we see it.
China’s Mea Culpa: „It Is Not That There Is No Money, But The Money Has Been Put In The Wrong Place“
Ten days ago, we penned "Chinese Liquidity Shortage Hits All Time High", in which we predicted ridiculous moves in the Chinese interbank market as a result of short-term funding literally evaporating as a result of the PBOC's stern refusal to step in and bail out its banking sector (despite the occasional rumor of this bank bailed out or that) by injecting trillions in low-powered money. A few days later this prediction was confirmed when the overnight repo and SHIBOR market for all intents and purposes broke down as was also reported here previously. Now, for the first time, China, via the Politburo's Chinese Hilsenrath-equivalent, Xinhua, has provided its own version of events which is as follows: "It is not that there is no money, but the money has been put in the wrong place."
Oh, so in a world of $12 trillion of excess liquidity provided by central banks in the past 5 years there is a slight capital misallocation problem the world's central-planning states (virtually all of them these days)? And despite injecting trillions, none of this cash is actually going to growing the economy (as we have discussed for the past two years and most recently here ). Why thanks for clarifying (and confirming) all of that China.
The government has yet to give an explicit explanation for the central bank’s move to allow rates for lending between banks to surge on Thursday. But the commentary from Xinhua, which Beijing often uses to make policy statements, comes the closest it has yet to that.
The news agency argued that while banks, the stock market and small and medium-sized enterprises lacked money, the broad money supply M2 had still expanded by 15.8 per cent compared with the same period last year, new loans were still high and total social financing aggregate, a broad liquidity measure, continued to grow rapidly in the first five months of this year.
“Is China really experiencing a ‘cash crunch’ where liquidity is being squeezed?” asked Xinhua, and added that many large enterprises continued to spend heavily on wealth management products, capital was still in search of speculative investment opportunities and private lending continued to be strong.
“This contrast clearly shows that this seemingly ferocious ‘cash crunch’ is in fact structural funding constraints caused by a misallocation of funds. It is not that there is no money, but that the money has not reached the right places,” the commentary said.
Of course, we have covered this topic extensively verbally, as well as visually, both here...
and especially here:
The chart above, from "China Joins The Broken "Keynesian Multiplier" Club" is precisely what Xinhua is lamenting: unprecedented credit formation and yet little of it trickling down to economic growth, hence a "broken Keynesian multiplier."
Which, of course, is what we have been warning about since the beginning: under central planning capital is always, ALWAYS misallocated in a way that ultimately makes any eventual marginal credit/money formation meaningless. As China has found out the hard way.
But here is the punchline and what was left unsaid by China: if what the PBOC is implying is true, then between the unwind of the Chinese Copper Financing Deals, and the less relevant but still substantial, Wealth Management Products, the country is about to undergo an unprecedented deleveraging that could amount to over CNY1 trillion in order to force reallocate capital in a more efficient basis.
That's right: a massive deleveraging coming dead ahead in China just in time to shock the market still reeling from the threat of the Fed's tapering. And it is not as if China needs to be spooked any more: "The mood remained jittery at the weekend. When a technical glitch caused by a long-planned software upgrade at Industrial and Commercial Bank of China made cash withdrawals impossible for almost one hour at the bank’s ATMs, many consumers fretted that one of the biggest state lenders was in trouble." Maybe not today, but force deleverage a few hundred billion, and it sure will be.
It also means that there will be no respite for short-term funding, which while maybe not suffering from lack of money, it certainly is suffering from the lack of money in the right place: the first milestone of a failing central-planning regime.
Just as China finally admitted.
The adjustments in core rates markets driven by repeated Fed commentary about its QE policy led to widespread selloffs in EM assets - and as we explained yesterday, this has potential vicious circle implications for developed markets. The significance of the EM selloffs has raised concerns about whether investors could abandon the asset class and trigger 'sudden stop' scenarios as they prepare for a post-QE world. Barclays believes we have likely entered a 'bumpy transition' towards a normalization of core market interest rates, and while they agree with us that the fundamental vulnerability to an end of QE may still reside with many DMs (eg, euro area periphery), rather than EMs, the large capital inflows into EM economies makes them extremely vulnerable to a rapid outflow of external capital.
(Click for legible large version)
It should be noted at the outset that QE was a policy reaction to pressures at the core of the global financial system and the very high DM debt levels that threatened to push major advanced economies into a recession-deflation cycle. Although deflation threats may have abated, public debt levels in DMs have adjusted little. Hence, the fundamental vulnerability to an end of QE may still reside with many DMs (eg, euro area periphery), rather than EMs.
However, QE pushed large capital flows into EM economies. These flows imply cheaper external funding, push domestic interest rates lower and thus can lead to rapid domestic credit growth, rising domestic consumption and investment, widening current account deficits and higher inflation (ie, loss of external competitiveness). Leverage on private and/or public sector balance sheets increases. A sudden stop withdraws access to external financing, creates FX funding pressures and pressures FX. Depreciation then exposes FX balance sheet mismatches, potentially turning FX liquidity problems into solvency risk.
Our heatmap includes many of the well-established external vulnerability indicators. To account for the particular QE context, we:
- Put emphasis on the flow aspects related to QE – that is, not only current debt stocks or leverage ratios, but also the speed with which these stocks (eg, domestic credit, external and government debt) and ratios (loan-to-deposit ratios) have changed;
- Added a focus on portfolio flows and foreign portfolio positioning in local markets, which has been a particular QE-related phenomenon;
- Include variables that indicate how much the domestic policy response has exposed the economy (real policy rates; FX coverage of foreign portfolio positions);
- Used trends in recent ratings and the current rating outlook as indicators of how fundamental trends are being perceived more generally.
EEMEA still stands out with the most pressure points: large external borrowing needs, high loan-to-deposit ratios and low real rates. The largest (SA, Turkey) and smallest economies (Ukraine, Serbia) look vulnerable to a sudden stop. In contrast, Russia seems less exposed. In EM Asia (ex-China), the vulnerabilities are lower and concentrated in the banking system, where leverage has risen. Indonesia stands out in this regard. In LatAm, Brazil shares this characteristic of rapid banking sector external borrowing. Argentina and Venezuela have the most pressure points. Mexico looks exposed to portfolio outflows given high foreign positioning and limited reserve coverage, but it is sound on many other indicators. From a product standpoint, some indicators are more important than others.
Local rates and FX: Critical for us are countries where large external financing needs are mainly met by foreign portfolio flows. South Africa (where a primary fiscal deficit exacerbates the risk), Turkey and India (to a lesser degree) stand out in these categories. Low or negative real interest rates are a warning sign of the impact of past large inflows, which could reverse. The FX coverage ratio of foreign holdings of local bonds is also key if positions are unwound. The majority of EM reserves cover more than 100% of these positions with Mexico (105%), SA (130%) and Turkey (154%) at the lower end of the scale.
Credit: In credit, investors are likely focused on public debt dynamics and governments’ reliance on international liquidity to fill fiscal gaps. In this regard, the adverse public debt dynamics in countries such as Serbia, Ghana and, to a lesser extent, Ukraine over the past couple of years, coupled with still relatively high fiscal deficits, raises concerns. This is particularly the case if lower ratings suggest more limited debt-servicing capacity than in advanced EM countries and if the share of FX debt in the overall borrowing mix is high.
Just to confirm that in a world in which China and Russia (and Caracas... and Cuba) are increasingly seen as the paragons of liberty, virtue, and civil rights and the US is slowly but surely sinking into the role of the turnkey totalitarian tyranny antagonist, we just go this from House Intelligence Committee Chairman Mike Rogers: "Edward Snowden's reported choice to fly to Cuba and Venezuela undermines his whistleblower claims... Everyone of those nations is hostile to the United States, the Michigan Republican said on NBC's "Meet the Press" news talk show. "When you think about what he says he wants and what his actions are, it defies logic," said Rogers.
Actually, Mike, when "you think about what he says", his actions make all the sense in the world, and certainly validate his "whistleblower claims."
Rogers added that the U.S. government must exhaust all legal options to get Snowden back to the United States, Rogers said. Of course it must: like any totalitarian emperor state exposed before the entire world with no clothes on, it only makes sense to focus on the messenger, and not on the underlying message.
And now back to a panicking administration which is forced to come up with escalating PR responses to a global scandal that is changing by the minute, on a completely ad hoc basis.
Next up: how to punish Hong Kong for not only flagrantly ignoring US orders, but humiliating the US before the entire world with its insubordination.
Moments ago Edward Snowden landed at Sheremetyevo airport in Moscow, but since the American citizen has no Russian visa he will remain in the transit zone. And as Reuters reports, we now have some details on his next destinations, at least according to an Interfax source at Aeroflot: first Havana, Cuba, and finally Caracas, Venezuela as had been speculated earlier (although this may well be misdirection). Oddly enough, no Iceland (for now).
Former U.S. National Security Agency contractor Edward Snowden will fly from Moscow to Cuba on Monday and then plans to go to Venezuela, a source at the Russian airline Aeroflot said on Sunday.
The source said Snowden was already on his way to Moscow from Hong Kong and would leave for Havana within 24 hours.
The South China Morning Post also reported that Snowden had left Hong Kong for Moscow and that his final destination might be Ecuador or Iceland. The WikiLeaks anti-secrecy website said Snowden was heading for an unnamed "democratic nation".
The flight to Moscow prompted speculation that Snowden might remain in Russia, whose leaders accuse the United States of double standards on democracy and have championed public figures who challenge Western governments.
But Putin's spokesman, Dmitry Peskov, said he was unaware of Snowden's plans and the Foreign Ministry declined immediate comment on whether he had asked for asylum.
State-run news agency RIA cited an unnamed law enforcement official as saying Russian authorities had "no claims" against Snowden and that there were no orders to detain him.
Interfax news agency cited an unnamed source as saying Snowden apparently did not have a Russian visa, which U.S. citizens need to enter Russia, and that he might not leave the transit area of Moscow's Sheremetyevo airport.
And the picture at Sheremetyevo arrivals hall:
— Irina Galushko (@IrinaGalushkoRT) June 23, 2013