A Slow Boat in China

Still struggling to move from its ‘Three Overlay’ period – essentially the indigestion added by the post-GFC ‘stimulus’ burst to the already unbalanced economic structure – to its vaunted ‘New Normal’ – slower headline growth but growth of much higher quality, to be concentrated not in building steel mills, metal smelters, and dormitory towns just for the sake of it but on high-tech and clean energy and all sorts of other touchy-feely, Googleworld concepts – China nonetheless managed to eke out a face saving final quarter GDP number of 7.4% yoy and an industrial production uptick to 7.9%.

Taking the data at face value, annualized GDP for the quarter actually did not fare as well, coming in at 6.1% (the worst since QI’12) with IP up 7.5% and overall these numbers – together with those for nominal output – were the weakest in a quarter of a century which has included, one might recall, both 2008-9’s GFC and 1997-8’s Asian Contagion. Within them, the service sector continued to shine – with a nominal increase of 11.1%, a real one of 8.1%, and an increase in electricity consumption of 6.4% – but secondary industry slowed to 5.7% nominal with a price drop of 1.5% ostensibly boosting the real output component to a 7.3% rate which was nevertheless somewhat at odds with the lacklustre 3.7% pick-up in energy use. Primary industry was also sickly, recording scores of 5.4% nominal, 4.1% real, and -0.2% electricity.

As for real estate, let no-one tell you there is not a genuine bust underway. Investment has slowed from 2013’s final quarter gain of 20.1% over 2012’s like period all the way down to QIV-14’s miserly 5.4%. Even that masks the extent of the deceleration, for the last two months of the year were only 5.6% ahead of the preceding equivalent, while the total for December itself was 2.9% lower than Dec’13. The NBS figures from new construction area make grim reading, too, being off 10.7% overall and down 14.4% for the residential sector. As for sales area – a 9.1% drop in RE was not only outmatched by the 13.4% drop in office sales, but the latter also came with an average price drop of 9.2% which made for a precipitous revenue decline of 21.4%.

No wonder the debt default by developers Kasai in Shenzhen is causing both creditors and stock market punters to look askance at the sector. Indeed, given that Reuters is reporting a freeze in new onshore lending to some of Kasai’s peers and that Bloomberg has a story about how yields on some debt in the sector are hitting distressed levels, one might well expect the situation to deteriorate further. This is all the more likely since much of the trouble is bound up with local conformity with President Xi’s ongoing anti-corruption campaign and may well be encountering additional complications from the findings of the as-yet unreleased results of the latest audit of local government financing practices.

None of this had done much to dampen enthusiasm for the stock market – at least not until the powers- that- be decided that the spectacular rise in margin loans had the potential to vitiate the whole thrust of a policy seems to have been aimed at getting people to move their savings from bricks and mortar and into shares, thus not only alleviating the pressure on RE but also promoting a gradual shift away from over-reliance on short-term credit instruments and inculcating a renewed emphasis on the role of within the capital structure.

Nor is at any real wonder the authorities did feel compelled to do something to stop the rise – however welcome in principle – from going ballistic. According to data from the Shanghai Stock Exchange, quoted by the FT, margin debt on just that one board had shot from $71bln equivalent at the end of October to $123bln last week. To put this in context, the NYSE has only managed to add a matching sum of $50bln or more in a similar period twice in its history. No prices for guessing that these records were set right at the peak of the Tech Bubble and again add the very crest of the CDO Supercycle in 2007. For a sense of the scale of what is afoot in China today, also note that the US examples took place in a market whose total capitalization was then around four times that of which the Shanghai Comp can boast today.

Coincident with the three month ban on opening new accounts imposed by the CSRC on Citic, Haitong, and Guotai Junan Securities (handed down to accompany sanctions visited upon nine smaller brokerages) for a range of regulatory infractions which included violations of the stipulation that loans are not supposed to be rolled at the end of their limited term – the bankers’ regulator, the CBRC, made it a double-whammy by issuing a much broader directive prohibiting the use of the widely-abused entrusted loans – a kind of corporate fiduciary credit – for the purposes of financing bonds, futures, derivatives, financial products, equities or other investment vehicles.

Entrusted loans, you may be aware were one of the stand-out components of December’s above-forecast increase in Total Social Financing where they made a sudden jump to a record high of Y455billion which was roughly 135% of the past four years’ norm and which made up approximately twice the usual percentage of the total TSF itself.

15-01-20 ChiNext (2)
Courtesy of Bloomberg


Lest anyone think that the rally itself was been frowned upon, however, CSRC spokesman Deng Ge was quick to dispel any such interpretation, saying soothingly that: ‘…Investors’ interpretation that regulators are suppressing the stock market is not accurate.’ Stocks duly obliged by recouping around a quarter of their 9%+ intraday swoon, as did the ChiNext index which soared to a 20 day high, just a couple of percent from mid-December’s all-time peak.

Thus is the eternal dilemma of the central monetary authority: if the real-side is not open to a useful and profitable expansion of activity, the minute some new means of raising the table stakes is offered by the policymakers, the greater the energy becomes which is directed to playing the financial casino instead.

15-01-21 PBOC

In fact, the PBOC has been relatively blameless in this of late, with its total assets increasing at an 18-month low pace of 7.1% as forex reserve additions dwindled (revaluation effects, capital flight, or the use of IPO proceeds to pay down offshore debt?) and domestic reserve additions of only 8.1% per annum took place – a number which, you might observe, is nigh on indistinguishable from that pertaining to nominal GDP and, like that datum is something only undercut in decidedly less vibrant times (explicitly, in mid-2003 and 2009 when we consider the behaviour of the money supply alone).

15-01-21 CHI Hot

Indeed, it might be worth noting that the rate of monetary increase in once-booming China has fallen to less than half of that obtaining in a supposedly ‘deflationary’ Europe – 3.2% YOY versus 6.9%. Unlike in Europe, moreover, there is none of that necessary re-equilibration between money and credit taking place.

15-01-21 TSF

Though the two are not strictly comparable, the annual increment to Chinese M1 is no higher than it was in 2002 when NGDP was only a fifth of its present value and the addition was fully 15-16 times less than the tally of new levels laid out atop the pyramid of credit piled up above it. In Europe, by contrast, M1 growth (allowing for the breaks in the series caused by new entrants to the Zone) was only once briefly higher than it is now – a surge which came in the wake of Lehman’ collapse, of course.

15-01-21 ChiM1

Contrary to the Chinese case, new money per unit of NGDP is thus two-thirds higher than it was in 2002 and, furthermore, the system is becoming ever more liquid, again in contrast to what is happening in China, with the ratio of M1 (the base) to M3 ex-M1 (the pyramid) rising from 72% in 2008 to 133% today.

Regardless of all this, a sagging European economy is no handicap for those wishing to use the unwholesome fruits of easy money by putting them to work boosting asset prices, which are rising without overmuch concern being expressed as to the relation of those latter valuations to the amount of wealth being generated by the entities upon which these represent claims and to which they constitute capital inputs.

For its part, China, however belatedly, seems to have seen the error of its ways and while it will not be immune to the temptations of fine-tuning and top-down meddling as the vice starts to tighten, it has trumpeted its recognition that micro-economic and institutional reform pave the only sure route to a renewed heightening of general well-being. Thus, though progress is currently being made, the road ahead is undoubtedly a rocky one along which there is no guarantee either that the viaduct which spans the deep ravine ahead will not collapse under the weight of the locomotive as it passes or else that the train’s engine drivers will not be frightened into abandoning their course well short of their final goal.

In Europe, alas, the opposite is still very much the case. Only allow the central bank to introduce some new and yet more heavy-handed means of hammering at interest rates, asset prices and currency parities – while the politicians sit idly by, still pampering themselves and their fellow office holders with the proceeds of a threadbare public purse – and all will soon be made right. That is, at least, what most outside the Bundesbank appear to believe. Widely held the supposition may be: if only it were true as well.

Instead, as Premier Li himself admitted, the Chinese economy faces ‘relatively large downside pressure’ in coming months and so, he insisted, it is vitally important to continue the attempt at restructuring. As President Draghi seems unable to admit, it will be just such a restructuring that eventually alleviates Europe’s pain, not his prestidigitations, however crowd-pleasing they may at first appear.


Crisis? What Crisis?

[The following is a shortened version of an original which first appeared on the author’s website, ]

As Britain fast approaches what is arguably the most intriguingly unpredictable election of the modern era, the question must be also asked, how well situated is the country – economically speaking – to endure such a vigorous test of its political institutions?

To this observer, the answer would be ‘not very well, at all.’ Britain, you see, is rapidly sliding back into its bad old ways of spending too much, saving too little, and all the while allowing the state to loom far too large in people’s affairs, bolstered by the fact that far too many members of the populace are loth to give up their long-accustomed habit of trying to live at their neighbours’ expense and of borrowing from abroad whatever dole transfers the state cannot raise in taxes at home.

Let us start with the latest economic round to see what we mean. Though hours worked in the UK, along with both overall and private sector GDP, are each enviably some 3-5% above the pre-Crash peak – a constellation of which many Eurozone countries can still only dream – this has come about only through a 7-year reduction in real wages of a cumulative 11%.

Pricing people back into jobs this way is one thing – if decidedly more unfair on all the other innocent victims of the Bank of England’s inflationism than would have been a simple pay cut – but it is also significant that, having trended up at around 2.3% per annum for almost four decades, real GDP per hour worked has shown no improvement whatsoever since Northern Rock closed its doors, seven long years ago. If we add in the fact that the UK has officially seen net inward migration of 1.5 million people in that same period, we can perhaps see how much of that growth has been achieved – through the blunt instrument of adding a big slug of low wage, low output, imported labour to the mix.

Sadly, in its policies of determined monetary laxity, Fred Karney’s army have added two malign side-effects to the short term boost to growth for which they are so widely praised. Firstly, the combination of Gilt-enacted QE with near zero interest rates has loosened the constraints on a state sector which still routinely spends a sum equivalent to almost one half of private GDP, with around a sixth of that being borrowed, even now amid a recovery vigorous enough to elicit a full measure of George Osborne’s headline-hogging boastfulness. Alarmingly, too, the punishment of savers and the encouragement of borrowers has reached a point where households have become net debtors at the aggregate level for the first time since the GFC while, simultaneously, non-financial corporates have collectively swung into the red for the first time since they were borrowing to relieve Culpability Brown of his pricey mobile phone airwave licences, back at the height of the Tech Bubble.

Mortgage debt is rising by £20 billion a year, consumer credit by £10 billion (the most since late ’08), student loans by £7 billion. Disposable income grew £29 billion in that same time which means debt:income may be swelling once more, from a point still north of 130%.

As a result, while state prodigality has diminished from its peak deficit of 10.7% of GDP (seen between QI-09 and QI-10) to today’s 5.9%, the non-financial private sector has gone from a point where it was saving 8.8% (and so funding four-fifths of Leviathan’s excesses) to a point where it, too, is now looking for 0.5% of GDP for its own consumptive purposes (all figures 4Q moving averages).

No wonder then that the current account deficit has blown up to a six decade high of 6.0% of GDP, despite the co-existence of a record surplus of 5.1% on the service account (the arithmetically astute will quickly infer that this must entail a similarly swingeing deficit on visible trade – a shortfall which in fact stretches to a hefty 7.1%). For comparison, when Chancellor Dennis Healey suffered the ignominy of appealing to the IMF for help in 1976, the balance of payments was only 1.5% in the red (though the tally had briefly hit 4.3% a year or two before, in the immediate aftermath of the first oil shock).

In fact, if we only look at the latest reported data – those for QIII – there is a chance that the BOP number may be revised to yet a deeper nadir since, in the three months to September, the ONS presently estimates that the public deficit was 5.1% of GDP, while households borrowed a six-year high balance of 2.6% of GDP and corporates took up a 14-year high credit of 2.2%, making for an aggregate shortfall of no less than 9.9%. Subtracting a net positive contribution of 0.2% from the domestic financial sector, that still leaves 9.7% to be financed, in theory, from foreigners and thereby to determine the scale of the current account deficit.

Performing the calculation in a different manner, the UK government has borrowed £109 billion ($167 billion) in the twelve months to September, an overspend which has leaked almost entirely abroad and has thus required a £98 billion ($150 billion) contribution in goods sold on credit from the world beyond Albion’s shining seas.

So, let us forget for a moment the controversy over the gaping hole which persists in the government’s finances and the laughably misnamed policy of ‘austerity’ which the regime has adopted to try to deal with this. Instead, let us lift our eyes to a horizon beyond our shores and we can surely agree that the sum of £130 a month per capita is not at all an unimpressive pace at which to be adding to a net external deficit of £450 billion (25% of GDP) or to an ex-FDI gross liability of £8,840 billion (490% of GDP), against which mountain of potentially nervy obligations the Treasury disposes of a defence against a classic ‘sudden stop’ of a paltry £63 billion in FX reserves (equal to around two months’ worth of goods imports).

Thus, not only is a full-employment Britain a country which must run an unsustainably large external deficit (since it is already setting records with 6% of the workforce still out of a job), but it has again been seduced into being one where all sectors are borrowing, not saving, largely in order to finance present consumption, meaning it is prey to a rather nasty, Hayekian ‘intertemporal’ disequilibrium – the cardinal economic sin of enjoying overmuch jam today at the cost of jam foregone tomorrow.

One day the piper to whose shrill accompaniment we are now dancing our merry jig (our Chuck Prince Charleston?) will present us with a bill which we are unlikely to be able to meet absent a great deal of sacrifice and possibly not without suffering a veritable collapse in the value of the currency to boot.

Since this is the time of year when we pundits traditionally have to set out scenarios containing an element of surprise, allow us to posit a very pleasant one, amid all the foreboding outlined above. Imagine if you will that, shortly after the election is held, our migrant cuckoo of a central bank governor will be fluttering off and away, back to his native Canada to ready his own political promotion – either by reinforcing the governing team if Junior Trudeau’s Liberals triumph there in October or perhaps by taking over the leadership should the latter’s bid ends in failure. One thing of which we can be fairly sure is that Moralising Mark will not hang around long to see a political melt-down in Britain mutate into a full blown sterling crisis and so add a few unsightly blots to his heretofore Teflon-coated escutcheon.


The Economist discovers the Entrepreneur.

In its latest edition, in a piece entitled ‘Monetary policy: Tight, loose, irrelevant’, the ineffably dire Ekonomista considers the work of three members of the Sloan School of Management who conducted a study of the factors which – according to their rendering of the testimony of the 60-odd years of data which they analysed in their paper, “The behaviour of aggregate corporate investment” – have historically exerted the most influence on the propensity for American businesses to ‘invest’.


The article itself starts by deploying that unfailingly patronising, ‘it’s economics 101′ cliché by which we should really have long ago learned to expect some weary truism will soon be rehashed as fresh journalistic wisdom.

It may be only partly an exaggeration to say that the weekly then adopts a breathless, teen-hysterical approach to a set of results which, with all due respect to the worthies who compiled them, should have been instantly apparent to anyone devoting a moment’s thought to the issue (and if that’s too big a task for the average Ekonomista writer, perhaps they could pause to ask one of those grubby-sleeved artisans who actually RUNS a business what it is exactly that they get up to, down there at the coalface of international capitalism). Far from being a Statement of the Bleedin’ Obvious, our fearless expositors of the Fourth Estate instead seem to regard what appears to be a tediously positivist exercise in data mining as some combination of the elucidation of the nature of the genetic code and the first exposition of the uncertainty principle. This in itself is a telling indictment of the mindset at work.

For can you even imagine what it was that our trio of geniuses ‘discovered’? Only that firms tend to invest more eagerly if they are profitable and if those profits (or their prospect) are being suitably rewarded with a rising share price – i.e. if their actions are contributing to capital formation, realised or expected, and hence to the credible promise of a maintained, increased, lengthened or accelerated schedule of income flows – that latter condition being one which also means the firms concerned can issue equity on advantageous terms, where necessary, in the furtherance of their aims.


[As an aside, do you remember when we used to ISSUE equity for purposes other than as a panic measure to keep the business afloat after some megalomaniac CEO disaster of over-leverage or as part of a soak-the-patsies cash-out for the latest batch of serial shell-gamers and their start-up sponsors?]


Shock, horror! Our pioneering profs then go on to share the revelation that firms have even been known to invest WHEN INTEREST RATES ARE RISING; i.e., when the specific real rate facing each firm (rather than the fairly meaningless, economy-wide aggregate rate observable in the capital market with which it is here being conflated) is therefore NOT estimated to constitute any impediment to the future attainment (or preservation) of profit. Whatever happened to the central bank mantra of the ‘wealth effect’ and its dogma about ‘channels’ of monetary transmission? How could those boorish mechanicals in industry not know they are only to invest when their pecuniary paramounts signal they should, by lowering official interest rates or hoovering up oodles of government securities?


At this point we might stop to insist that the supercilious, wielders of the ‘Eco 101’ trope at the Ekonomista note that these firms’ own heightened appetite for a presumably finite pool of loanable funds should firmly be expected to nudge interest rates higher precisely in order to bring forth the necessary extra supply thereof, just as a similar shift in demand would do in any other well-functioning market (DOH!), so please could they take the time in future to ponder the workings of cause and effect before they dare to condescend to us.


They might also reflect upon the fact that when the banking system functions to supplement such hard-won funds with its own, purely ethereal emissions of unsaved credit – thereby keeping them too cheap for too long and so removing the intrinsically self-regulating and helpfully selective effect which their increasing scarcity would otherwise have had on proposedschemes of investment – they pervert, if not utterly vitiate, a most fundamental market process. Having a pronounced tendency to bring about a profound disco-ordination in the system to the point of precluding a holistic ordering of ends and means as well as of disrupting the timetable on which the one may be transformed into the other, we Austrians recognize this as theprimary cause of that needless and wasteful phenomenon which is the business cycle. It is therefore decidedly not a cause for perplexity that investment, quote: ‘…expands and contracts far more dramatically than the economy as a whole as the Ekonomista wonderingly remarks


Nigh on unbelievable as it may appear to the policy-obsessed, mainstream journos who reviewed the academics’ work, all of this further implies that the past two centuries-odd of absolutely unprecedented and near-universal material progress did NOT take place simply because the central banks and their precursors courageously and unswervingly spent the whole interval doing ‘whatever it took’ to progressively lower interest rates to (and in some cases, through) zero! Somewhere along the line, one supposes that the marvels of entrepreneurship must have intruded, as well as what Deidre McCloskey famously refers to as an upsurge in ‘bourgeois dignity’ – i.e., the ever greater social estimation which came to be accorded to such agents of wholesale advance. This truly must shake the pillars of the temple of the cult of top-down, macro-economic command of which the Ekonomista is the house journal.


Remarkably, the Ekonomista’s piece is also daringly heterodox in inferring that, given this highly singular insensitivity to market interest rates, we might therefore return more assuredly to the long-forsaken path of growth if Mario Draghi and his ilk were to treat themselves to a long, contemplative sojourn, taking the waters at one of Europe’s idyllic (German) spa townsinstead of constantly hogging the limelight by dreaming up (and occasionally implementing) ever more involved, Cunning Plans directed towards driving people to act in ways in which they would otherwise not choose to do, but in which Mario and Co. conceitedly deem that they should.


Rather, the hacks have the temerity to assert – and here, Keynes be spared! – it might do much more for the investment climate if the Big Government to which they so routinely and so obsequiously defer were to pause awhile in its unrelenting programme to destroy all private capital, to suppress all economic initiative, and to restrict the disposition of income to thecentralized mandates of its minions and not to trust them to the delocalized vagaries of the market – all crimes which it more readily may perpetrate under the camouflage provided by the central banks’ mindless and increasingly counter-productive, asset-bubble inflationism.


Having reached this pass, might we dare to push the deduction one step closer to its logical conclusion and suggest that the only reason we continue today to suffer a malaise which the self-exculpatory elite (of whom none is more representative than the staff of the Ekonomista itself) loves to refer to as ‘secular stagnation’ is because its own toxic brew of patent nostrums is making the unfortunate patient upon whom it inflicts them even more sick? That, pace Obama the Great, The One True Indispensable Chief of the NWO, the three principal threats we currently face are not Ebola, but QE-bola – a largely ineradicable pandemic of destruction far more virulent than even that dreadful fever; not the locally disruptive Islamic State but the globally detrimental Interventionist State – the perpetrator of a similarly backward and repressive ideology which the IMF imamate seeks to impose on us all; and definitely not the Kremlin’s alleged (though highly disputable) revanchism being played out on Europe’s ‘fringe’ but the Kafkaesque reality of stifling and undeniable regulationism at work throughout its length and breadth?


We might end by reminding the would-be wearer of the One Ring, as He lurks warily, watching the opinion polls from His lair in the White House, that in being so active in propagating each one of these genuinely existential threats to our common well-being, He (capitalization ironically intended) will not so much ‘help light the world’ – as He nauseatingly claimed in His purple-drenched, sophomore’s set-piece at the UN recently – as help extinguish what little light there still remains to us poor, downtrodden masses.







The offending article:



Monetary policy

Tight, loose, irrelevant


Interest rates do not seem to affect investment as economists assume




IT IS Economics 101. If central bankers want to spur economic activity, they cut interest rates. If they want to dampen it, they raise them. The assumption is that, as it becomes cheaper or more expensive for businesses and households to borrow, they will adjust their spending accordingly. But for businesses in America, at least, a new study* suggests that the accepted wisdom on monetary policy is broadly (but not entirely) wrong.


Using data stretching back to 1952, the paper concludes that market interest rates, which central banks aim to influence when they set their policy rates, play some role in how much firms invest, but not much. Other factors—most notably how profitable a firm is and how well its shares do—are far more important (see chart). A government that wants to pep up the economy, says S.P. Kothari of the Sloan School of Management, one of the authors, would have more luck with other measures, such as lower taxes or less onerous regulation.


Establishing what drives business investment is difficult, not. These shifts were particularly manic in the late 1950s (both up and down), mid-1960s (up), and 2000s (down, up, then down again). Overall, investment has been in slight decline since the early 1980s.


Having sifted through decades of data, however, the authors conclude that neither volatility in the financial markets nor credit-default swaps, a measure of corporate credit risk that tends to influence the rates firms pay, has much impact. In fact, investment often rises when interest rates go up and volatility increases.


Investment grows most quickly, though, in response to a surge in profits and drops with bad news. These ups and downs suggest shifts in investment go too far and are often ill-timed. At any rate, they do little good: big cuts can substantially boost profits, but only briefly; big increases in investment slightly decrease profits.


Companies, Mr Kothari says, tend to dwell too much on recent experience when deciding how much to invest and too little on how changing circumstances may affect future returns. This is particularly true in difficult times. Appealing opportunities may exist, and they may be all the more attractive because of low interest rates. That should matter—but the data suggest it does not.


* “The behaviour of aggregate corporate investment”, S.P. Kothari, Jonathan Lewellen, Jerold Warner



New Normal

Just over three weeks ago, in his keynote address to the Global Corporocracy at the so-called ‘Summer Davos’ meeting in Tianjin, Li Keqiang firmly stated that:  ‘…we [have] focused more on structural readjustment and other long-term problems, and refrained from being distracted by the slight short-term fluctuations of individual indicators.’


He went on to downplay the fetish for the 7.5% GDP number, saying that ‘…we believe the actual economic growth rate is within the proper range, even if it is slightly higher or lower than the… target.’


As if that were not clear enough, Finance Minister Lou Jiwei rather spoiled Madame Lagarde’s infrastructure orgy at the Sep 20th weekend G20 meeting in Australia when he pointed out that China had already tried the very approach which his Western peers are itching to undertake – and which they hope can be financed by a grab at their citizens’ private pension funds.


Lou pointed out that while the programme may well have provided a short term fillip to ‘growth’, it brought environmental damage, capital misallocation, and dangerously increased indebtedness in its train. As if that were not enough of an ‘ice bucket challenge’ for his audience of panting Keynesians, he reiterated Li’s diagnosis that his government’s macro-economic policy would ‘continue to focus on the general objectives, in particular to maintain employment growth and price stability’ and that [emphasis added], ‘policy adjustments will not change on a single economic indicator’.


However determinedly deaf certain Occidental wise monkeys were to this pronouncement, Lou’s local market traders certainly took the words to heart: rebar, rubber, and iron ore fell 4% to major new lows in the Monday session, while a whole range of metals, petrochemicals, and others dropped 2% or more. If the impending Golden Week holiday may have been enough to discourage any further initiative selling of the metals over the succeeding few days (steel, iron, rubber, and cotton were NOT similarly spared), nevertheless the verdict was clear: the pain would continue.


Li himself seemed to be resolutely sticking to his guns. In the two policy announcements he has made since his big speech, he has continued to tinker with microeconomic reforms (e.g., liberalizing delivery services) and to enact fiscal measures (notably the introduction of  a series of accelerated depreciation measures aimed both at alleviating the current tax burden and at encouraging SMEs to undertake a little more capex in future). Nowhere is there any hint that the regime’s nerve has failed or therefore that the spigots are about to be opened once more.


The latest kite to be flown on this account is the speculation raised by the WSJ that PboC chief Zhou Xiaochuan will be ‘retired’ at the upcoming autumn plenum. Though no confirmation of any sort has been forthcoming so far, we have already been subjected to no shortage of punditry as to the whys and wherefores of the supposed move.


Chief among these have been somewhat conflicting conspiracy theories that his expulsion would represent variously a reassertion of its influence by the factions so far largely being steam-rolled by Xi and, in almost exact opposition to this, a move by Xi to ride himself of a turbulent monetary priest who – wait for it – has proved too reluctant to swamp the ailing economy with the massive amounts of liquidity Xi has now decided is necessary in complete contradiction of the programme he and his team have been pursuing!


Though we have no special insight into this matter, it does strike us as unlikely that Zhou is suddenly now regarded as an enemy – this is, after all, the man whose gravitas and reputation for calm confidence was deemed so valuable to the incoming administration that it deliberately bent the rules concerning the mandatory retirement of top officials in order to keep him in his post. It seems far more probable, therefore, that if the personnel change is indeed to be affected – and the fulsome encomium to this ‘wise old sage’ which was carried in all the main outlets over the weekend rather diminishes the prospect – his baton would be passed on to someone of like mind. Several commentators have already noted that this may well be the case if the go-to man tipped to be his successor, Guo Shuqing, actually does get the nod.


Whether the incumbent stays or goes, however, the very fact that the mere rumour of his departure was enough to have the stimulus junkies drooling that their itch for the next fix would soon be assuaged is revealing of the parlous state to which we have all been reduced in our QEternity, Goldilocks world of an utter reliance on the foibles of central bank heads to determine where we should place our next bets, to the exclusion of all other factors.


Giving this crowd some brief hope, the PboC did in fact adjust the repo rate lower and also offered (in its usual, frustratingly opaque manner) a CNY500 billion injection of funds to the five biggest state-owned banks even though this may have been no more than a partial offset to the ongoing lack of foreign exchange accumulation – of especial significance now that the CBRC has clamped down on end-period deposit hunting – and/or a timely assist aimed at preventing the IPO flood from dampening a rekindled enthusiasm for stocks.


The realisation that the country’s current afflictions might not be susceptible of alleviation in the time-honoured Yellen-Draghi fashion seems to be spreading. With the capital market queue for bank refinancing now said to stretch to CNY600 billion and with the count of bad and doubtful loans rising rapidly (if still hugely understated), the lenders seem to have a somewhat different focus than that of showering credit on each and every would-be borrower.


Nor are borrowers beating down their doors, at least according to the results of the central bank’s latest quarterly survey. This has loan demand falling below the lows of 2012, so no wonder the monthly data dump shows the pace of increase in yuan loans on bank books dropping to the lowest levels of the past eight years. No wonder either when, as CASS academician Yu Yongding told an audience at Tsinghua University, a recent NBS survey found that lending rates for the average SME was no less than 25.1% annualized.


The combination of usurious rates and burgeoning liabilities (especially accounts receivable which are up more than 14% yoy) means that financing costs for SOEs are rising at a rate of 16.7% p.a. (as the MOF tells us), while those for joint-stock enterprises are growing 14.4%, and for the usually more profitable HK, Macau & Taiwanese owned-firms at no less than 27.2%, so says the NBS. The Chinese Enterprise Confederation also reported that the top 205 state-owned manufacturing companies’ income margin was a mere 1.8% this past year, while that for their 295 private counterparts was a less than stellar 2.8% (for comparison, over the past 4 ½ years, US manufacturers have returned an average of 10.6¢ pre- and 8.7¢ after-tax on each $1 of sales).


Would you be borrowing more in a decelerating economy if these were your business metrics?


Reflecting all this on the macro side, Want China Times reported that, with several Chinese provinces finding it ‘hard’ to reach their GDP numbers, voices are being raised in favour of a lowering of the goalposts (the message naturally being far more important than the medium in Leninist thinking).


Recall here that the official spin keeps emphasizing both the long-term nature of the shift to the ‘New Normal’ (which one unnamed cynic dared to translate as ‘recession’!) and continually pleads the medium-term difficulties associated with the ‘Three Overlay’ constellation – viz., the problems of changing the emphasis from the quantity to the quality of output; the ‘structural’ shift away from investment and toward consumption as the focus of future development; and the tribulations of eliminating (‘digesting’ in Newspeak) some of the excess capacity and crippling debt levels built up during the ‘stimulus’ the Party unleashed in the attempt to combat the effects of the financial crisis.


Significantly, at the grandly titled ‘2014 Co-prosperity Capital Wealth Summit’ held on Sunday, former NBS chief economist and State Department advisor Yao Jingyuan opined that this baleful cyclical conjunction would last for another three to five years. Simultaneously, Shengsong Cheng of the central bank pointed out – in what may be the first serious attempt at disassociating the regime from its previous expectational anchor – that if China were to grow at no more than 6.7% p.a. over the remainder of the decade, the desideratum of doubling the size of the economy over the whole of that ten year stretch would still have been achieved. It would also seriously embarrass many of the Sinomaniacs’ determinedly bullish projections.


As Want China Times also wrote, besides the growing shortfalls in Jiangsu, Shandong, Shanxi, Heilongjiang, Hunan, and Guangdong provinces, Shenzhen is labouring under the burden of a fall in two-way trade volumes of 28% over the first seven months of the year in addition to a 60% plunge in newly constructed real estate.


As 21st Century Herald has pointed out, the upshot has been that many local governments are trimming outlays, dipping into reserves, and even indulging in asset fire-sales in order to stem the fiscal haemorrhage. Even then, in order to meet revenue goals, resort has been made to a neat, fraudulent round-robin whereby local businesses borrow the money with which to pay fictional taxes and then recoup the outlay in the form of phony subsidies, rebates, and contracts. An official at one northern city admitted that up to 15% of his authority’s budget consisted of such shenanigans but that in certain county governments the padding amounted to 30% of the total. No wonder the expansion of bank balance sheets is having so little effect on genuine activity.


Further to the regional tale of woe, the local stats bureau made it known that even mighty Shanghai’s industries saw an actual drop in the value of output of 2.5% yoy in August, figures which represent a truly stunning reversal from June’s +7.1 gain and the first half’s overall increase of +4.4%.


Meanwhile, the CISA reported that implied steel consumption has failed to grow so far this year for the first time in the new millennium. No surprise then that rumours continue to swirl about the possible CNY10’s of billions involved in the potential bankruptcy of Sinosteel. Likewise, Reuters reported that ‘sources at the country’s major oil companies have predicted that China’s diesel consumption is set to post its first decline in more than a decade.’ How much of even that is real demand is another moot point given that SAFE has just announced the identification of $10 billion in fake cross-border transactions in a scandal which has progressively widened out from the initial Qindao port incident to encompass no less than 24 separate provinces and cities thus far.


Globally, the impact is being felt in the bellwether chemical industry.  As the American Chemistry Council noted, there was a ‘worrying’ slide in operating rates during what is typically the seasonally strong second quarter.  Things have not improved much since. Q2.   The ACC showed Germany dropping from 4.8% growth in February to a fall of 3.5% in August.  India crashed from +12.9% in January to +3.4% in August. Japan fell from +9.2% in March to just +0.8% in August. Mexico went from 1% growth in April to -2.8% and Russia slowed from +4.2% in January to -10.4% last month.


Only one major country managed to maintain a relatively strong growth level. You may not be surprised to learn that this stalwart was China, where output peaked at +11.1% in April, was still a strong +8.8% four months later. Why the anomaly? No real mystery: the country has swung from being a net importer of bulk chemicals to being a net exporter, much as it has in refined oil products and also in some metals. No-one dare utter the word, ‘dumping’!


All of this is a sharp contrast to the first stages of Chinese expansion when the country purchased large quantities of raw and semi-processed items – without much regard to their cost – either to employ them in building out its own industries and infrastructure (as Mr Lou pointed out) or to incorporate – along with a range of other bought-in, more sophisticated components – into finished-goods exports bound for Western consumers who were borrowing a goodly portion of the necessary invoice amounts.


Nowadays, many of those foreign customers are either unwilling or unable add any  more to their slate, while the prevailing quest for China’s factory owners is to find some way of more profitably utilising some of the vast overcapacity they have built up in the interim.


One consequence is that, even allowing for possible distortions in the data, it is clear that things are running no where near as hot as they once were. Taking the five years to the peak of the last cycle, Chinese industrial corporations enjoyed compound annual revenue growth of over 25% and profit growth of 37%. Fast forward and since the end of 2012, earnings growth and – perhaps even more tellingly – revenues are up by a much lesser 10% or so. Not a basis on which to be too gung-ho on further capital outlays, nor one in which double-digit rises in wage costs can continue to be blithely accommodated.


At the largest of scales, evidence of this change can also be found. During the whole of the two decades before Crash, world trade volumes rose at 7.2% a year, compounded: since the start of 2011, that pace has slowed to a tardy 2.0%, meaning that now, some six years on from the Snowball Earth episode, we are only at three quarters of the level we would have attained had the crisis not intervened. And, as we know, all this is closely related in a complex web of cause-and-effect to the rate global money growth. That latter is facing its own challenges given that the ongoing steep rise in the dollar reduces the effective global heft of the monies being emitted by just about everyone other than the Chinese themselves with their similarly-soaring currency.


In passing, economic turmoil may be one thing with which the leadership has to contend, but the upsurge of violence in Xinjiang – where up to 50 people were reported killed during a bomb attack on two Luntai police stations – and the rather more peaceful, if no less weighty, street protests in HK – with their uncomfortable echoes of East European ‘Colour’ revolutions – are another matter entirely.


All told, the Chinese CCP and its new leaders have some sizeable challenges to overcome in the months ahead.


Money, Macro & Markets

First it was the government’s miraculous ability to deliver on-target GDP growth that got the permabulls bellowing again, then it was the striking (world-beating, one might even say), 12% currency-adjusted rally in its stock market that got them triumphantly pawing the ground. Nor did the drop in interest rates serve in any way to dampen the eternal hope that China was once again deferring meaningful structural reform in the face of a threat to near-term output.


Quite what was actually behind the equity rally is not easy to say. There were whispers that the Russians (who else?) were piling in, now that their assets were subject to arbitrary seizure as part of Nova Roma’s vilification of their leader and proxy war against their homeland. There was also talk that the imminent linkage of the Shanghai and HK bourses was driving an arbitrage between the unusually-discounted mainland A-shares and their offshore H-share equivalents. Finally, in a typically neat piece of circular reasoning, the imminent rebound in the economy which we have even seen some brave (or foolhardy, according to preference) souls project at a startling 8.5% (sic) early next year was held to be at work to push up what was an otherwise under-owned and thus optically ‘cheap’ emerging market.


On the face of it, news that, over the first seven months of the year, the increase in SOE earnings had accelerated from June’s 8.9% YOY to July’s 9.2% – well up on the first quarter’s paltry 3.3% pace – may have seemed to have offered some much-needed confirmation of this optimistic thesis. However, a closer glance at the figures would not have proven quite so reassuring, had anyone bothered to actually take one.


Over the past, supposedly brighter three months, revenues advanced a modest 6.2% compared to the like period in 2013, though with as-reported profits up an ostensibly more creditable 12.1%. There, all grounds for positive spin, alas, were exhausted. For one, operating profits were, in fact, only up 4.0% like-for-like (a wide discrepancy which can only excite suspicion as to the nature of the headline surplus) while financing costs vaulted a fifth higher.


Worse still, in eking out even this degree of improvement since May, liabilities have soared by an incredible CNY2.320 trillion (around $125 billion a month) – an increment fully half as big again as that registered twelve months ago and a sum which is actually greater than the entire reported sum of ‘total social finance’ over the trimester (that latter ‘only’ managed CNY 2.240 trillion after last month’s thoroughly unexpected swoon).


And what did our proud commanders of the economic heights achieve for shouldering such a hefty weight of obligations? An addition to revenues of CNY719 billion (extra debt to extra ‘sales’ therefore coming in at a ratio of 3.2:1); a pick-up in ‘profit’ of CNY76 billion (d[Debt]:d[Income] = 30:1); and a blip up in operating profit of just CNY16 billion (at a truly staggering ratio of 144 to 1).

Reversing these latter relationships, we can see that while swallowing up all of the nation’s available new credit since the spring, China’s SOEs added 31 fen per one renminbi in sales, 3.3 fen in reported profit, and a bare 0.7 fen in the operating version of income. Just the sort of performance on which to base expectations of a significant coming rise in growth and prosperity!


Armed with such an underwhelming use of resources – both physical and financial – it is perhaps no wonder that MIIT is again trying to shut down swathes of superfluous capacity, issuing what are effectively cease-and-desist orders against 132 firms in a whole range of heavy industries – iron, steel, coke, ferroalloy, calcium carbide, aluminium, copper and lead smelting, cement, flat glass, paper, leather, printing and dyeing, chemical fibres, and lead-acid batteries. Shipbuilding may not be far behind, either, given that it formed the main topic of discussion at a meeting of the National Committee of the CPPCC this week.


The language used was, in some cases, pretty uncompromising, too: “Total industrial capacity in cement and plate glass is still growing, but the industry-wide sales rate is in decline and accounts receivable are increasing… there are to be no new projects in the sector for any reason,” thundered the MIIT communique.


This time around, given Chairman Xi’s rigorous ‘anti-corruption’ campaign, there might well be a little less of the back-sliding and wilful defiance which has greeted such edicts in the past. The emperor is no longer quite so fare away, nor the mountain quite so high, if you are a recalcitrant local cadre these days!


Even before this, the signs were there for those with eyes to see. Despite the much-bruited pick-up in activity, Chinese power use, excluding the residential component, SLOWED to 4.5% YOY in the three months to July from 8.1% in the preceding three months. Nor did this come without a significant deceleration in so-called ‘tertiary’ industry sector (loosely, that encompassing services and light indstry) which is henceforth supposed to be the torchbearer for growth and employment. Here, consumption dropped from the spring’s 10%-plus rates to just 7.4% YOY last month. Added buring of lights and turning of lathes in the secondary industry category – essentially manufacturing – was a tardy 4.2% even though growth in industrial production, we were told, had averaged 9.0% in that same period.


Hmmmm. No wonder the PMI seems to be shedding some of its recent, rather inexplicable exuberance.


Round and round the circle of vicious consequences swirls. As Wang Xianzheng, President of the China Coal Industry Association, admitted: ‘Currently, more than 50 percent of enterprises are in payment arrears and have delayed paying wages.’ Of 26 large companies spread across nine provinces, he revealed that 20 are making losses, only 9 are still in the black, and the remainder are hovering uneasily between (commercial) life and death.


Other obvious signs of distress are to be had among the loan guarantee networks which had everywhere come into being with the then-laudable aim of persuading constitutionally reluctant banks to lend to customers other than SOEs when times were good. Now trapped in flagging businesses which are more correlated than perhaps the participants had realised – and often having succumbed to the diversion of funds to less commendable ends in the interim – they are all going sour together and the same interconnectedness which was once their mainstay is proving instead a sheet anchor with which to drag them all under.


As Zhou Dewen, president of Zhejiang Federation of Private Enterprise Investment, told the Global Times, the rash of bankruptcies in Zhejiang and Jiangsu provinces has disrupted production and led to lay-offs, with 80% of all sour loans in the area associated with such mutual guarantee schemes. So elevated is the level of distrust, as bad debts have risen at an annualized 30% pace this year, that banks are now trying to call loans in early and obtaining court orders to freeze the assets of those firms that are unable to comply with their demands.


The banks themselves are beginning to accelerate write-offs dramatically – even though the official NPL ratios still look woefully understated. They are also drawing heavily upon the markets in order to bolster their capital as a precaution. As the WSJ reported, the four largest state-owned lenders have started raising a planned $73 billion in debt and equity this year – a call which is expected to jump to more than $300bn in the next five years, according to the banking regulator.


In addition, five local governments in the south and east of the country are setting up so-called ‘asset-management companies’ – effectively state-sponsored ‘bad banks’ – in a mirror of the system used by Zhu Rongji in the 1990s to shuffle the more toxic stuff off its originators’ balance sheets and thus allow them to continue to lend while the bitter fruits of their previous mistakes were hidden away elsewhere.


Though this only disguises and does not in any way alleviate the economic waste spawned by the boom, it might at least allow banks to issue new equity-like capital – perhaps to the insurers who are themselves being heavily promoted by Beijing as the next battalion of systemic saviours – at above notional book value and hence to enable them to remain a viable source of new credit. Note that the last time this was done, the losses were essentially fiscalized: banks simply swapped the bad loans on their books for what have since proven to be irredeemable – but nonetheless fully par-valued – loans to the state entities which, in turn, financed the obliging AMCs. Balance sheets will not shrink, therefore, only become sanitised, by the operation of this mechanism.


Here, however, is where it all gets fraught once more, because the same local governments who are being marshalled to assume the banks’ bad debts (many of them ensuing from extending credit to LGFPs) are themselves becoming desperate for funds given that all too many of their own, sure-fire investment gambits are turning out to be the dampest of damp squibs.


As the Economic Information Daily reported, an audit of 448 eastern township platform companies found that two-fifths of them were curently loss making, while a further thirty percent barely broke even. With these bodies so heavily dependent on land sales to generate the revenues needed to cover their current outlays, much less their ambitious capital expansion plans and ongoing debt service costs – and with such ‘sales’ only being possible in large part if the authorities extend the credit to the purchasers in the first place – a decidedly negative feedback loop has begun to tighten around their necks as the property market itself enters a slump.


Indeed, according to research conducted by brokerage company Centaline Property Agency, twenty major developers have between them spent CNY182.5 billion yuan so far this year to purchase new sites – a drastic 38% down on the like period last year.


‘Worsening property sales have undercut the willingness of developers to buy land. Their focus now is on raising cash from the sales of what they’ve already built. Few are in the mood to buy more,’ said Zhang Dawei who headed up the company’s research team.


In July alone, aggregate land sales revenue for 300 Chinese cities was off by a half from the same month in 2013, as reported by the China Index Academy. Sales in the four largest cities of Beijing, Shanghai, Guangzhou, and Shenzhen – normally a slam-dunk – sank by a staggering 70%.


‘The downturn means that the scale of land sales for the remainder of this year could continue to contract. Developers have pushed the “conservative” button,’ said Zhang with commendable understatement.


And quite right, too, as anecdotal evidence grows that formerly avid house-buyers are beginning to adopt that age-old American practice of ‘jingle mail’ – that is, they are simply walking away from properties they either cannot afford or do not believe will again appreciate in price.


At one end of the scale, one Nanjing online estate agent recorded a growing back-log of such defalcations and referred to the ‘unspeakable pain’ in the local market – an agony apparently shared in at least six other of the districts neighbouring his.

Despite the widespread belief that Chinese buyers are sitting on a typical equity cushion of 30-40% of the property value – and hence, unlike their less well-endowed US, Irish, and Spanish cousins, are impervious to all bar the most extreme events in the market – the scary truth is that much of the real estate to which they do hold title has been, how shall we say, ‘rehypothecated’ – i.e., pledged as collateral for a range of business loans as well as for the more speculative use of funds.


‘In the past few years, many small business owners blindly invested in real estate, mining and other industries. These industries are now suffering from overcapacity and falling asset prices, so business owners are unable to pay their debts,’ said one general manager of a Wenzhou microfinance company.


‘Many [of these] use the house as collateral when business loans go wrong,‘ Ge Ningbo, a county bank manager, told a journalist.


To get a feel for the scale of the problem, consider press reports that in Wenzhou, 1,000 homes were abandoned as a result of the decline, homes with an ostensible market value of more than Y6.4 Billion – or roughly $1 million a pop! No scrabbling rural migrants, these, but possibly members of an increasingly scrutiny–shy party apparatus! Clearly, the banks will need to suck in even more money from their gullible preference shareholders if this phenomenon starts to spread and, in the meanwhile, it is hard to see how they will be empowered to make sufficient revenue-positive new loans to keep the whirligig in motion in such a climate of confusion and disabusal.


Sadly, we have not finished our tale of woe there because there are also stories circulating in the official media that those same local governments, who are in many ways the lynchpins of the whole merry-go-round, may be far deeper into the mire than has been recognised to date.


As the articles detail, a member of the relevant NPC standing committee confided to a press contact that when hidden liabilities are taken into account alongside those uncovered in a recent audit, the true total of LG debt almost doubles to a wince-inducing Y30 trillion. Just for sheer size – some 50% of national GDP – this would be a matter of concern, but it also should not be overlooked that far too much of that monstrous total is comprised of short-term obligations against which are held long-term, illiquid, and often economically redundant ‘assets’.


Given that the last NAO study showed that are some 3,700 governmental bodies across various categories which had debts in excess of 100% of their local GDP, something patently needs to be done if the mad Chinese juggler is to keep his profusion of balls bobbing in the air.


So, welcome to local scrip issues. Yes, it seems that ingenious local cadres have dusted off their depression-era news clippings and revisited the age of the mediaeval mint and simply started using their own IOUs as media of exchange wherever their writ may run.


Economic Information Daily reported that in Hubei, Hunan and Guangdong, among others, government IOUs have become a ‘discount currency.’ In fact, commentary on Caijing suggests that not only are even small, rural communities now doing likewise, but that some companies, too, are paying their workers in scrip – just as in the early days of the Western factory age when resort by employers to what was called the ‘truck’ or ‘Tommy’ system was widespread.


As the early 19th century English radical, William Cobbett noted, ‘… when this tommy system… makes its appearance where money has for ages been the medium of exchange, and of payments for labour; when this system makes its appearance in such a state of society, there is something wrong; things are out of joint; and it becomes us to inquire into the real cause of its being resorted to…’


His answer? The state of economic depression brought about by the costs imposed upon entrepreneurs by the dead-weight of government:-


‘It is not the fault of the masters, who can have no pleasure in making profit in this way: it is the fault of the taxes, which, by lowering the [net] price of their goods, have compelled them to resort to this means of diminishing their expenses, or to quit their business altogether, which a great part of them cannot do without being left without a penny… Everything was on the decline… I was assured that shop-keepers in general did not now sell half the quantity of goods in a month that they did in that space of time four or five years ago… need we then wonder that the iron in Staffordshire has fallen, within these five years, from thirteen pounds to five pounds a ton [metal-bashers were similarly bearing the brunt, it appears]… and need we wonder that the iron-masters, who have the same rent and taxes to pay that they had to pay before, have resorted to the tommy system, in order to assist in saving themselves from ruin!’


‘Here is the real cause of the tommy system; and if [we wish] to put an end to it… prevail upon the Parliament to take off taxes to the amount of forty millions a year.’


Caijing devoted quite some space to ‘netizen’ comments on this state of affairs, several of which reflected a considerable degree of awareness that this had come about because of the unbridled spending and lavish self-indulgence of the relevant officials, while some were also aware that such an emission of fiat money was a direct parallel of the official money-creation process and further that it could only persist for so long as some minimal degree of trust resided in the councils’ ability one day to redeem the claims. Moreover, it was noted that since people ultimately expect the discount between township paper and that issued by the PBOC to widen, they were using the former preferentially to buy and sell and clinging on to the latter – a classic, Gresham’s Law example of bad money driving out good.


If the localities are in such dire straits as these, then it is hard to resist the temptation to believe that we are approaching some sort of end-game. But what, we should ask ourselves, might be the trigger for its no-doubt jarring denouement?


Well, here we come full circle with the latest act of Xi Jinping’s grand ‘anti-corruption’ drive. For, as well as Our Glorious Leader’s insistence at last week’s Leading Group get-together that everyone must ‘truly push forward reform with real guns and knives’ (ulp!), news has come out that the National Audit Commission will next conduct a full, ‘rigorous’ check of all land sales and related transactions carried out between 2008-13 and that, moreover, the results will be to hand when the top men convene for their next Plenum this coming October.


One can only imagine the consternation in the ranks which this announcement has unleashed. After all, there is unlikely to be overmuch evidence that any of these deals were conducted transparently, competitively, honestly, and legally, in the absence of any and all inducements, kickbacks, or displays of favouritism, not only since such was the accepted practice during the reign of Wen and Hu – especially during the infamous, no questions asked, frenzy of post-Crash stimulus – but also because this is a sphere notoriously subject to peculation in what we fondly imagine to be our more enlightened polities, too.


We can therefore not only expect the bodycount to rise substantially as officials fearful of censure seek to avoid their imminent disgrace and subsequent punishment, but we should also be prepared for the possibility that when this most capacious of all cylindrical metallic containers of vermiform invertebrae is opened, it will be accompanied by a blast of sufficient megatonnage to bring the whole flawed edifice crashing to the ground.


Under such circumstances, we find it very hard to shake off the presentiment that, on the one side, some commentators’ touching faith in an incipient re-acceleration are horribly misplaced while, on the other, the tired old ‘Goldilocks’ scenario whereby all bad news is good because it presages the launch of another round of sustained, indiscriminate ‘stimulus’ seems equally out of key with what Xi tells us he is trying to achieve.



Having dealt at such length with China, let us try and dispose of the rest of the globe in as short a space as possible.


Japan: Abenomics is still a horrible failure as drooping machine orders, frozen store sales, and exports back at 4 ½ year (currency-adjusted), one-quarter-from-the-peak lows reveal. So, guess what? As the PM’s approval ratings slip, another ‘stimulus’ package is said to be in the offing (sigh!)


Europe: Even one of Hollande’s own ministers confided to the press a couple of weeks back, ‘the truth is, he thinks we don’t have a chance’ – who are we to disagree? Meanwhile, the chap at the head of the other Sick Man, Matteo Renzi, has undergone a moment of almost Caligulan delusion, assuring supporters that the hour had come for Italy ‘to tow Europe out of the crisis’ and ‘to assume… the leadership’ of the Continent.


And what of his first steps to make good on such a vaunting claim? Why, in an Onion-like act of farce, to insist that ISTAT no longer releases the GDP numbers a week ahead of its peers and thereby afford underemployed analysts and commentators more opportunity to be critical of the country’s performance! And then there’s the Neocon-inspired catastrophe unfolding on the bloc’s eastern fringe from which the emergence of a bout of renewed economic difficulty is the very least of our worries.


USA: Chairperson Yellen is currently holding court at Jackson Hole as the US numbers continue their rebound from the winter’s retardation. What a moment for her to take the stage. Non-financials (large cap-led) are at new records, Tech at new, post-Bubble highs; junk spreads have narrowed sharply; vol has again crashed, correlations fallen, and put-call ratios evaporated. With the Bund-UST spread at a 15-year high and equities outperforming, the USD stands on the verge of a break out and up from what is already its best level in a year. The cycle is still running in favour of the States on a comparison basis, no matter how ninety-Nth percentile many of its valuations are when considered in isolation.


With money supply still swelling rapidly – and amid hints that it is being more actively utilised than of late—it is hard to see quite what will bring that run to an end in the near term. Were we to really be critical, one of the few clouds ‘no bigger than a man’s hand’ is that the growth of both inventories and payroll expenses are outstripping sales in the durable goods sector. Thus, while US assets are hardly ‘investible’ in the Benjamin Graham sense, they are also a tough short in the Sell’em Ben Smith one.


Britain: While MPC member David Miles saw fit to describe the EU as ‘dead in the water’ as a trade partner, closer to home some of the gloss is finally coming off the reputation of one of the country’s most expensive recent imports, its egregious Bank governor.


No doubt, dear reader, you too were shocked – shocked! – to hear local Tory Mark Field, the Honourable Member for the Cities of London and Westminster, opine to his mates in Grub Street that “…from the moment Mark Carney became governor in July 2013, it was pretty clear forward guidance was an indication rates would not rise this side of the election – for all the talk of Bank of England independence, there was a clear bargain between him and George Osborne.” Be that as it may, it is surely not too cynical to note that Fred Carney’s Army will not want to contibute to a possible defeat by Alex the Bruce’s forces in the coming Scottish independence vote.


You can just hear it now, that ringing oration:-


‘Aye, vote ‘Yes’ and interest rates may rise. Vote ‘No’ and they’ll stay as is … at least a while. And dying in your beds, many years from now, would you be willin’ to trade ALL the days, from this day to that, for one chance, just one chance, to come back here and tell our neighbours that they may take our pound and their nuclear subs, but they’ll never take… OUR FREEDOM!


Commodity Corner


Truth be told, it has not been the kindest of summers for commodities. Since reaching their late June peak, returns have suffered a 7.5% slump to touch six month lows even as US equities have added 2%. For the record, in that crumbling eight week stretch EM stocks put on 4.7%, US bonds were up 1% and junk was flat.


Within commodities themselves, what some commentators have been calling a ‘Garden of Eden’ summer in the US grain belt has ensured that the corn is as high as an elephant’s eye almost everywhere you look, while oilseeds and wheat have been similarly profuse. A loss of 11.3% and, in fact, the casting into jeopardy of the entire cyclical bull market in prices has been the result.


Energy, too, has suffered, as the record longs in oil finally began to liquidate, triggering the biggest 6-week sell-off of positions in WTI on record. IN notional value terms, net spec longs in Brent and WTI combined crashed from close to $97 billion worth of contracts to $59 billion. It is possible to read the charts to declare that this swoon has violated the uptrend in place for the last five years, as well as breaking all major MAs. Against that, we are arguably a touch oversold and the last four years’ sideways stationary, Arab Spring range remains intact. Tacticians, Faites vos jeux!


Dollar strength, the subsidence of financial market anxieties alluded to above, and the cessation of labour unrest in SA have hardly been conducive to higher PM prices (palladium — and Russia—excepted). Gold has also broken 200, 100, 50-day MAs and is threatening the uptrend drawn from the June 30-Dec 31 $1180 double bottom and June 3rd’s $1240 probe. Lease rates remain positive and net specs—at 43% of total O/I – as long as they have been on average throughout the last 12 years’ bull market.


Only Base metals seem to offer any hope (they rallied 4.2% while everything else was collapsing). Strength has partly been predicated upon what we think are decidedly ephemeral signs of a Chinese renaissance, but also on evidence of dwindling stockpiles and the litany of capex cuts and asset disposals emanating from the mining industry. They appear, therefore, to offer the least dirty shirt in the laundry basket.


Money, Macro and Markets

It was something of an irony last week when the idiots savants who constitute the upper ranks of the ineffable current incarnation of the IMF decided briefly to forgo their penchant for the politics of the Montagnard – more inflation, higher wages, death to the speculators, les aristocrats à la lanterne, that sort of thing – in favour of those of the ancien régime. Specifically, this took the form of updated proposals for a ‘Visa’ of the kind twice instituted in early 18th century France; the first to try to clear up the fiscal mess which was the principle legacy of the military vainglory of the just departed Sun King and a second time to mop up after that QE disaster of its time, John Law’s infamous ‘System’.


Sorting the participants into five classes whose activities were deemed to have been increasingly speculative – and hence liable to more swingeing penalties – those in charge of the Visa saw to it that the bigger players (or at least those bigger players unable to use their royal connections to secure themselves an indemnity) suffered haircuts, retrospective tax assessments, forcible debt extensions, property confiscation – and, in one or two cases, a salutary trip to the Bastille.


Jump forward three centuries and in its latest position paper on sovereign debt ‘resolution’ the IMF is drooling about dipping, in a not wholly dissimilar fashion, into people’s pension funds and insurance policies – since these are seen to be easy targets – as well as about imposing arbitrary prolongations of tenor on outstanding securities should the state’s chronic mismanagement end up rendering it temporarily unable to entice sufficient new or repeat suckers into enabling the maintenance of its naked fiscal Ponzi scheme.


As the reader may be aware, we are all for adopting a stance of unsentimental realism when it comes to facing problems of over-indebtedness and, further, that we have long bemoaned the readiness of governments to swell their own commitments in the aftermath of financial crises, not just because of the inherent cronyism and inequity which riddles most TBTF assistance packages, but because sovereign debt is intractable in a way that private sector obligations generally are not. We are, therefore, more than happy to see all breaches of contract – which is what the unpayability of a debt involves – dealt with in as clinical and judicial way as possible, no matter whether these failures are misjudgements, examples of malfeasance, of ‘acts of god’. Moreover, we are exceedingly happy to see anything which reminds people that, despite the modern fiction of the ‘risk-free’ rate which attaches to them, Leviathan’s IOUs have always been among the least trustworthy of all pledges to pay.


However, that principal is not what is at issue here, but what does gall is the IMF’s glib reliance on the sneaky, archly legalistic, announce-it-once-the-banks-are-closed repudiation of existing agreements by a borrower which has not only promoted itself as the one true guardian of the people’s well-being, but which has frequently given its subjects precious little choice but to trust a goodly part of the surplus they have wrung from their already sorely-taxed income to those same instruments whose terms the state is now unilaterally amending in its favour.


As yet one more example of the sinister creed of ‘Gemeinnutz geht vor Eigennutz’, this betrays the classic statist proclivity to view all notionally private property as really belonging to the Collective, even if this is rarely expressed so clearly today as it was when last elevated into a central tenet of axe-and-bundle political theory in the 1920s and 30s.


‘What’s yours is only truly so to the extent that we, the functionaries of the Hive, do not decide that we have a better use for it and so do not exercise what we insist is our prior claim to it, ‘ they imply, though a little more disingenuously than heretofore. Having ignited an all too short-lived burst of outrage at last year’s more overt Visa proposal to go for a straight confiscation of 10% of ‘wealth’, this latest business of simply denying people an exit route has the poisonous virtue of being more subtle in its operation and therefore of being more likely to pass into effect all unremarked, even if the effect upon those being locked in would be broadly equivalent in many respects.


Moreover, for all the weasel words uttered in the Fund’s blueprint about limiting moral hazard, the plan explicitly endorses what it archly terms the ‘reprofiling’ measure on the grounds that it serves to deliver a ‘larger creditor base’ into the meat-grinder and hence helps limit damage to ‘longer-term creditors who would have otherwise had to shoulder the full burden of the debt reduction’ As an added bonus, stiffing one’s existing creditors in place of begging a payday loan from Uncle IMF ‘…increases the chances of a more rapid return to the market, as the debt stock will be less burdened by senior claims’ – i.e., those emanating from the IMF itself. A third, tacit advantage would be that since the IMF would not be not committing an actual monies, there need be no debate among its members about the implementation of such a programme, while the softening of the criteria calling for its use from one where the state’s finances are categorically ‘unsustainable’ to one where there is a mere inability to rule out the arrival of such a contingency drastically lowers the nuclear threshold.


One might object that the very knowledge that such steps could be taken would be enough to destroy any residual element of ‘sustainability’ with which a given sovereign’s budget might otherwise be imbued. If people became aware that in buying a 3-month T-bill (and buying it at vanishingly small rates of interest at that) they were also selling their overlords a 30-year put, or that the YTW calculation of their security really ought to include the chance of a 10% principal reduction, would they not try to incorporate this in its price, thereby pushing up yields and so aggravating any incipient funding difficulties? Might they, indeed, not halt their discretionary purchases altogether and so advance rather than retard the onset of the crisis?


Given that they are each, in their own way, subject to the compulsions of so-called ‘prudential’ regulations with regard to the assets they must hold to ensure their solvency and liquidity, would such ‘captives’ as the banks, pension funds, and insurers thus be left the only buyers outside of the ever-eager to oblige central bank? A moment’s consideration of what could happen to the most fragile of these – the already–impaired banks – if their assets were suddenly to suffer another sizeable mark down as a result of state defalcation shows why the IMF wants the universe of the afflicted to be as all-inclusive as possible. That way, however large the absolute loss might be, the percentage loss to each holder could be conveniently minimized as the poor individual innocent was once again mulcted to provide a subsidy for the rich, corporate players whose fate is so closely entwined with that of their overlords.


Thus, under the terms of this new wheeze, we might imagine a day when the following missive drops onto the doormat of the Forgotten Men and Women up and down the country


“Dear Grandma and Grandad, thank you for making the valiant effort over these past decades to achieve a measure of self-reliance in your dotage and for allowing us jacks-in-office full use of your savings in the meanwhile as both a means to fulfil our political ambitions and as a way to act out our own economically-illiterate and usually illiberal prejudices at the expense of you and yours.”


“Sadly, it transpires that we have not only wasted a goodly part of your savings, but we have greatly added to the host of irredeemable promises which we made to you, in the form of a mountain of even more pressing pledges issued to the Biggest of Big Fish in the financial markets. So that we do not entirely dissuade these latter sophisticates from again indulging our follies at the earliest opportunity, we shall now have to ask you to share – and thereby greatly to reduce – their pain.”


“Be assured, however, that the loss for which you have my heartfelt sympathy will patriotically ensure that we can continue to live well beyond our means. In this way your sacrifice will see to it that the least possible harm will come to any of us in the political classes (a.k.a. the agents of your misfortune), to our army of placemen, patronage-seekers, and dole-gatherers, or to our plutocratic enablers for – as the IMF puts it – ‘…resources that would otherwise have been paid out to creditors will have been retained [to] reduce [our] overall financing needs.’ Nor will we have to suffer the indignity of modifying our existing approach overmuch by actually only spending money on the things for which you, in true democratic fashion, have openly voted the taxes since – here let me cite those marvellous chaps in Washington, once again – ‘resources could be efficiently employed to allow for a less constraining adjustment path.’, i.e., to allow one demanding as little fundamental ‘adjustment’ as possible.”


“I feel confident you will join me in looking forward with some enthusiasm to the next, inevitable ‘reprofiling’, just as soon as we can arrange to overspend enough to make one necessary once again. Should I have already laid down the heavy burden of selfless public service by the time this comes about and gone instead to my just reward as a highly-paid ‘consultant’ to a global investment bank, I would urge you to give your full support to my successor, of whatever political stripe he or she may be. In such an event, there will, of course, be precious little different in the treatment you receive at the hands of any of the mainstream parties as currently constituted”


Yours Insincerely, The Minister of Finance.


It is all too easy at present to make fun of the IMF, though in so doing we should bear in mind that such ridicule is perhaps the only weapon we have in our fight to prevent it from lending a spurious air of rationality to the worst predilections of our national nomenklatura.


A case in point is that, at the conclusion of its periodic, Article IV review of the economic condition of the homeland of so many of those in the upper reaches of the Fund, the website prominently carried the triumphant banner, “France: Policies on the Right Track.”!


Truly, you could not make this up. For a slightly less self-justificatory assessment, one only has to trawl briefly through the Bloomberg series or consult the most recent verdict of the official ‘auditor’ of the nation, the Cours de Comptes.


There it becomes readily apparent that while the two decades prior to the first oil shock saw Real GDP, ex-government trend upward at a 5.5% annualized rate, and the next three decades managed 2.3% compound, the last seven years have seen no progress made whatsoever. Similarly, real capital formation by non-financial business has decelerated from 7.5% to 2.9% to zero over those same divisions of time. Exports stand at close to a 6 ½ year low and two-way trade at the weakest in more than three years. Industrial output – a whisker off the worst since the rebound from the GFC – lies 13% below its peak and hence no higher than it first reached in 1988


Government expenditures, meanwhile, have swollen to a record 58% of overall GDP, 80% of private, with taxes some 4-5% behind. These are levels only exceeded in the EU by Finland, Denmark, Greece, and Slovenia. The EU-calibrated debt:GDP ratio has risen by 30% of GDP since the Crash and by 12% since 2010 alone (that latter a slippage of 15% compared to the German pathway from an almost identical starting point). Here, fast approaching €2 trillion outright, it stands at 94% of overall GDP and therefore at 120% of that of the private component out of whose income that debt must be ultimately serviced.


Yes, policies are indeed on the right track, assuming that track itself is an economic highway to hell.


Given the foregoing, it was of note that the Governor of the Banque de France, Christian Noyer, insisted over the weekend that it might be highly counter-productive to speculate publicly about any programme of even partial debt repudiation.


“This all corresponds to a somewhat contrived definition of sustainability and ignores the highly disruptive effects… besides, it relies on a very pessimistic growth outlook,” he argued. “Once one starts not to pay ones debts, borrowing becomes very expensive and the impact on growth greatly exceeds that of managing a gentle reduction in debt.”


The only problem with such a judgement is that M. Noyer’s preferred – if sometimes implicit – remedy is for a reinforcement of the policies which have so signally failed France over the past several years – viz., further extreme monetization of assets (to include equities, if need be) and a weaker currency.


As a result, we find ourselves ensnared in nest of Keynesian paradoxes and economic canards. We need more investment, we are told, but the only means we can imagine to stimulate it is to lower interest rates. We understand that debt levels are too high, but we are so terrified that they might actually begin to be reduced that we subsidize profligacy as the default option of policy. We fret that prices of assets are rising as a result, not the price of labour (which we implicitly want to increase so we can reduce debt ratios, rather than debt itself) and in order to offset a form of inequality we ourselves have engendered, we stultify an economy already overburdened with rules and regulations with that en vogue form of top-down, baby-with-the-bathwater interference we style ‘macroprudential’ policy.


We want to see more people in work, on the one hand we work manfully to introduce ingenious tax and benefit ‘wedges’ which act to discourage marginal job seekers and, on the other, we call for the cost of labour to be raised through higher minimum wage rates (and or plain-old monetary inflation). We decry the fact that businesses will not hire while lowering the prospective economic returns to such hiring by seeking to tax profits more heavily.


The reality is that it does not have to be like this. The curse of macroeconomics is that it takes what should be a crude metalanguage which merely attempts the convenient shorthand of describing an impossibly complex but largely self-organising whole using a few, hopefully representative general features and attempts to elevate it into a rigorous, cybernetic control system to be twiddled and fiddled by the fingers of Philosopher Kings. Given this assertion, let us try instead to work from the other – the microeconomic – end and see if we can shed a little light on this dark and dismal scene.


If Robinson Crusoe wishes to survive his enforced sojourn on his remote island, he must only engage in such activities as provide him with a flow of the needs – at their most elementary, sustenance and shelter – that is at minimum no smaller than their accomplishment costs him in the expenditure of time and effort. The more astute he is in doing this, the more alert and adaptable he is in going about it, the wider will be the margin of success he enjoys, the more rapidly his most essential requirements will be satisfied, and the sooner he can move on to meeting a broader range of desires and to building up a precautionary reserve against misfortune.


It should then be obvious that, when Friday washes up over the reef, Crusoe – unless driven by an inexhaustible fund of potentially-self-endangering altruism – will not be able to offer his new companion an ongoing share in his accomplishments, free access to his stock of implements, or the instant ability to draw upon his, Crusoe’s, hard-won skill and understanding if Friday does not at the very least act in a manner which exacts no net toll of Crusoe (including the unseen one of foregoing better opportunities for gain in their use elsewhere). In fact, he would be unlikely to take the risk of depleting his own scarce resources and of squandering his finite energies if Friday does not contribute something beyond such a bare material parity, the which surplus he, Crusoe, will be able to use to increase the future possibilities open for the two of them to exploit.


If we stop to think about it clearly, Crusoe’s surplus income – and let us not be shy to call this his profit – is what enables him firstly to improve his own standard of living (to invest) and eventually to afford Friday the means with which to leapfrog away from the perils and privation of shipwrecked destitution to the more secure and less impoverished existence he may lead if he contracts to work under the guidance of Crusoe’s entrepreneurial instincts while utilising some of Crusoe’s already-produced stock of capital. For this, Friday earns himself the right to avail himself of an agreed proportion of the goods (the income) they generate through their mutual collaboration. Once more, it is Crusoe who rightly accedes to and disposes of any subsequent excess which he by his craft, and they two by their sweat, can conjure out of the unforgiving surroundings of their savage little world.


Assuming Crusoe to be as diligent in his way as Friday is in his, the generation of each successive surplus will allow Crusoe progressively to improve the quality, quantity, and variety of means they each can employ, so that Friday, as well as he, can enjoy those better returns on his effort which accrue from the fact that his capital endowment has risen, those better returns being what we call a higher real wage.


It is all very well to bewail the fact that, in the modern world, the admirably rugged individual, Crusoe, has been transformed into that bête noire of the scribbling and scriptwriting classes – the faceless and vaguely sinister Crusoe Incorporated – and it may equally be a matter of unthinking dogma that ‘profit’ like ‘property’ is theft, but the truth remains that what applied to our pairing of Lost-prequel cast members still applies in the disembodied world of distributed shareholding and managerial agency: profit is both the sign of entrepreneurial success and the seedcorn of capital provision; labour will only be – can only be – hired if the value of its product exceeds the cost of its retention; and the more capital each worker has at his disposal (including the kind contained between his ears), the greater will be the likely worth of his product and hence the more lavish his reward.


There are no short cuts on offer. Or perhaps none which bear up to the test of self-sustainability. Thus, the would-be macro-puppeteers of the kind characterised by Deputy BOE Governor Jon Cunliffe when he waxed metaphorical in a recent speech about how the Old Lady’s duty was to ‘steer’ the economy ‘at the highest speed that can be achieved… down a winding road’ can be seen both to seriously overate their powers to do good and to vastly underestimate their proclivity to do harm.


Allow a man the scope both to make and keep a profit (to win receipts greater than costs, adjusted for the passage of time); place no restrictions on the terms of the mutually-beneficial, freely-contracted co-operation into which he enters with less adventurous, but no less assiduous, persons as he seeks to do so; do as little as possible to add to the costs of any such contract (monetary manipulation herein included) and thus to dissuade either party from entering into it; subject our man to no deterrent to ploughing the fruits of this cycle’s endeavours back into the attempt to make those of the next more succulent and more plentiful and, by and large, though failures will occur and frauds will not be unknown, all those involved will flourish – even if they happen to live in a France where, the last we heard, the laws of economics still applied and where it was not the people who were failing but those who ruled over them.


But let us not to be too unfair to the worthies who reside among the splendours of the Elysée, the Matignon, or Bercy: as the Cours de Comptes points out, the performance of their counterparts on the other side of the Channel has in many ways been just as unimpressive.


The UK, after all, still runs a deficit of around ₤100 billion a year, 6% of total and 8% of private sector GDP. Net debt of more than ₤1.4 trillion amounts to 85% of overall and 110% of private GDP (even without counting in the obligations pertaining to the bailed-out banks) and has doubled in five years, tripled in nine. Total spending has risen by a half since 2005, climbing 5% of pGDP in that time to reach a very lofty 52.5% – and this despite all the bleating about swingeing ‘austerity’. The ₤650 billion which comprises that churn amounts to around ₤200, or more than 31 hours of minimum wage pay, per week for every man, woman, and child in the country. Not entirely unrelated is the fact that the current account gap yawns as wide as ₤75 billion a year, equivalent to what is fast approaching a post-war record of 4.5% of total, 6% of private GDP.


Here, too, the optimists have been somewhat deceived by their hopes of undergoing a true economic revival. Though the series is bumpy, manufacturing output in May appears to have stalled, suffering its largest drop since the harsh winter of 2013 and leaving overall industrial production barely 3.5% off 2012’s 27-year lows and still having 80% of its GFC losses to make up.


Despite the glaringly obvious construction that the UK is once more undergoing a lax money, too-low interest rate, classic, Tory Chancellor pre-election boom – all about non-tradables, a housing mania, an excess of imports, and plagued with soft-budget government incontinence – the myopically GDP-fixated macromancers cannot resist becoming ecstatic at the results.


Jack Meaning, a research fellow at the highly-regarded National Institute of Economic and Social Research, for example, was quoted this week in the broadsheets in full Trumpet Voluntary mode:-


“The outlook is very positive,” he exulted. “Growth now is very much entrenched, and given all the positive data that has come out, it looks like growth is here to stay.”


Hmmmm! While it is true that the Carney-Osborne duumvirate will do nothing to restrict access to the punch bowl (a) before the Scottish Independence referendum; (b) before the UK General Election next spring ; and (c) if it can be managed, before our beloved Governor quits (in 2017?) to leave his palm print on the pavement of Grauman’s Chinese Theater en route to what is rumoured to be his apotheosis at the pinnacle of the Canadian Liberal Party hierarchy, the longer this particular locomotive of ‘growth’ progresses along its current track, the more certain we can be that it will terminate in the same, drear Vale of Tears where all its predecessors have hit the buffers.


As for the US – where policy has retrogressed through some sort of Phillips Curve warping of the space-time continuum to make un(der)employment the only real matter of concern – well, let’s not get too bogged down in the to and fro about Birth:Death adjustments, the household versus the establishment survey, competing explanations for a falling participation rate, part-time versus full-time job issues and all the rest of the minutiae.


Taking the data at face value, private sector jobs (adding agriculture and self-employed to the establishment total) seem to have risen over the whole of the last four years by a remarkably steady 180k a month, 1.8% a year, for a cumulative 870k gain which is pretty much in tune with the simultaneous official estimate of 910k in population growth. While similar to the pace mapped out in the 2003/07 expansion (then 210k and 1.6% off a higher base), this is one of the slower episodes in the last half century. If we calculate the real wage fund (2.1% outright and 1.4% per capita) or real private GDP (3.0% outright and 2.3% per capita) we get similar results: the US private sector has been expanding reasonably, if a little tardily, in real terms though it has also been more obviously lagging in nominal ones.


Why no faster rebound? Certainly not because interest rates are too high, or government outlays too parsimonious, or because the ‘low-hanging fruit’ of human progress has been well and truly plucked to leave us the unpalatable choice between ‘secular stagnation’ and an invigorating burst of warfare.


Read the Crusoe paragraphs again: incentives matter, especially at the margin. And among the many perverse incentives to limit hiring we have, just as in the 1930s, a whole host of programmatic and regulatory barriers to take into account – extended benefits, changes to health care, access to classification as ‘disabled’, unemployment insurance rules, and so on.


Though America is not as sorely afflicted with these hindrances as are many Western nations, it is not hard to see that the sort of work done by Richard Vedder and Lowell Galloway, by Lee Ohanian, by Robert Higgs, and lately by Casey Mulligan all come back to the same basic conclusion: that for the micro-economics of job-creation to take hold, the legal and institutional framework must not only be conducive to fostering the hope of gain among those seeking to employ both capital and labour (including their own), but it must be straightforward to negotiate and stable in its composition. Neither constant bureaucratic tampering, nor wrenching shifts in fiscal or monetary policy – with all the wilder swings they transmit via the financial markets through which they act – can contribute much that is positive, for all the arrogance of the Colossi who never cease to promulgate them.


Heaven is high and the emperor is far away

Imagine, if you will, a small, isolated hamlet where the daily round proceeds in harmony with the gentle rhythm of agriculture. Ground is tilled, seed is sown, crops are harvested, dried, threshed, and milled, each in their due season. In the lush, green meadows a little higher up the valley cows are impregnated before their calves are led docilely off to slaughter – both for their meat and for their cheese-making stomach enzymes. The kine turn the sweet grass which covers the pasture into much-needed fertilizer for the arable lands and, twice daily, milking takes place according to its own timeless routine.

Into this bucolic idyll now intrudes an ambitious village headman who has heard that he can further his own lot in life if he erects a series of shrines to the glory of the Emperor who is honourably busying himself with the mandate of heaven, far away in the stately pleasure dome of his Celestial Palace. Work begins at once, employing both those locals who have too little to do and, in due course, attracting itinerant labourers to the village.

Since the business of shrine building produces nothing tangible of itself – no new stands of millet or of teeming paddies of rice, no additions to the lowing herds of cattle – it is necessary that all those set to constructing them be given a share of the existing produce of the land. Thus, the biddable farmers are constrained to eat less heartily of the fruits of their own labours so that the community’s meritorious contribution to the cult of the Emperor may better be advanced. Not wishing to be seen as grasping, those toiling to break the rocks and pile up the cairns which constitute the sacred monuments are also persuaded that they, too, should forego the immediate enjoyment of the entirety of their daily wage and should also set some of it aside as their own offertory act.

So as to recognise the sacrifice each has made – a propitiation which each fully expects will earn him a future reward in something a little more material than the Emperor’s gratification alone, though from whence exactly none can truly say – the village scribe diligently records the size of each implicit donative against the name of its pious contributor in his scrolls (implicit since each has already been used up as surely as if they were burned in some great communal hecatomb). Slowly then and at no little personal cost in denial, if not outright privation, this local register of deeds grows longer, keeping as it does a tally on the mounting sum of savings being laid down by the dutiful and the diligent.

Imagine then, the consternation which ensues when, one fine spring morning, a courier rushes into the market square and, gathering his breath, proceeds to read out the latest proclamation from an imperial capital so far removed from their daily experience that few in the village have any firm conception of either its extent or its location. The Most Venerated Prince has decided, the messenger declares, that the count of the shrines being dedicated to the royal personage is become too large and that His Highness’ most farseeing haruspices and horoscopists have persuaded Him that it is unseemly for an earthbound divinity such as He to be seen to rival in this way the worship of the true Immortals in all their celestial splendour.

Henceforth, all such construction is to be halted and no more oblations are to be made in His most blessed name. No one, the herald continues, is to ‘save’ any further, upon pain of exciting both the Emperor’s awful displeasure and the thunderous anger of the Sky Gods whom He, too, serves in his turn. Instead, each must consume up to the very limit of his income and entertain no further thought of laying in a store against a future already so lavishly provisioned for.

But, goes up the cry, where will we, His Majesty’s most loyal temple builders, earn our bread, if the farmers do not continue to set aside our due portion?  Are we, too, to follow the plough tomorrow? And, if so, who will grant us the lands, the tools, the skills to enable us to do so? All we have to hand are these well-used chisels and thrice-repaired picks. All we otherwise possess is a certain facility in the mason’s art. Surely these will not now serve to fill our empty bellies and still the crying of our hungry children?

And, for our part, how will we achieve any measure of recompense for the manifold portions already foregone, howl the farmers who have come to realise that their ‘savings’ are nothing but an empty twirl of the calligrapher’s brush, that they represent no bounty – present or prospective – to see them through their dotage or to pay their daughters’ dowries? Indeed, beyond a sterile list of claims to ownership of the many useless piles of now deconsecrated rubble, to what has all their devout abstinence amounted, they wonder. Will these bring forth butter or bread on which to spread it? Will it give us flax for our wives to spin into clothing, or hide to keep us shod, they quail?

“Be still, you wretches!” comes the haughty retort of the imperial mouthpiece. “His Most Elevated Puissance has become aware that the world is out of balance, that Yin does not match Yang, that there is too much investment in tomorrow and not enough indulgence here today. This must cease forthwith!”

“What is it to Him if you did not fashion mills to grind your corn or locks to render navigable your streams – and so increase the size and richness of your coming reward – but instead you sought to curry the royal favour by erecting rough-hewn altars to His cult on every rutted cart track and every dusty crossroads? The time has come, His most learned astrologers have ruled, to eat your way to wealth and for those who have hitherto laboured in what they misguidedly took to be His service to do the same for you farmers in your own homes. His mages, in their unfathomable wisdom, have determined that this way, and this way only must be followed: that the erstwhile builders will hew your wood and carry your water, they will sweep your paths and carry in the tapers to light your rooms at night. In short, they shall come to share your table openly with you and, in so doing, will ensure that it straightways will groan under the weight of all that greatly augmented whole that will instantly appear to be laid upon it.”

It was realized—if grudgingly—that this arrangement would not be entirely without merit: the farmers were used, after all, to feeding the temple builders and this way they would at least be free to devote more of their energies to higher order tasks and less to menial ones in return. Nevertheless, it came as a rude awakening to one and all to realise that where they thought they had been piling up the riches with which to ease their lives in future, all of their sacrifice had availed them naught and they would have to start again from their beginnings, poorer if hopefully wiser.

No word was said as to what the scribe should do with all those carefully guarded scrolls, now rendered utterly worthless by dint of the Imperial whim. The man himself was cautious enough quietly to make his exit, long before he could be blamed for what he had only wrought at the behest of his masters.

‘Feeling the Stones’, but Drowning Still

Ok, so, folksy analogies aside, we have to confess that not every ‘investment’ laid down in modern China is a folly; that not every plant operates far short of its capacity; that not all ‘profits’ are an artefact of hidden subsidies, false accounting, the shameless exploitation of captive savings, and a vast monetary influx, as in our little parable.

Nevertheless, in far too many instances this has indeed become the case. Moreover, the situation is far more fraught than was that which prevailed in our simple village economy because the scribe’s register of ‘savings’ there have as their actual counterpart the liabilities of the financial system. These, as we know, are not simple transactions recorded between two directly consenting counterparties, but are the nodes in a web of a myriad of subsequent interdealings whose complexity is beyond comprehension and whose strands comprise the means of circulation of goods and services everywhere they would go within the economy.

Thus, it is all well and good to declare by way of some sort of macroeconomic truism that we ‘need’ less investment and we ‘need’ more consumption and that the Kuznetsian Y will remain unchanged if C rises and I falls in a like manner and in the same timeframe, but that exquisitely interconnected, ever-evolving  meta-organism which is an economy cannot be reduced to such a trivial game of adding more of one thing here and taking away some of  another there as if we were simply hanging baubles on a Christmas tree.

For a start, the ability to consume must be in some way linked to the fact of having completed a prior act of production, whether we look at how one acquires an ‘effective’ demand upon such product or how one gains access to the requisite supply. Where that linkage is broken, as when credit creation or money printing tries to circumvent this necessary order of precedence, the consequences are always invidious and usually pernicious, to boot.

Secondly, each particular action, whether of consumption or production, is only sustainable – i.e., can be undertaken without unduly limiting the future possibilities for either its repetition or amendment – to the extent that it is integrated into the greater whole of all such actions, a condition which implies not just the instantaneous, but the intertemporal coherence of intentions.

Thirdly, each is dependent not only on the shifting sands of individual subjective preference, but its commission typically depends on the purposeful employment of both specific human skills and a dedicated, non-versatile endowment of capital.

Fourthly, much as the curvature of spacetime gives rise to the gravitational effects on a mass which then curves that same spacetime, each action cannot fail to effect changes in the milieu in which all subsequent actions must be planned and carried out. Thus, in this most Heraclitan of worlds, all is flux, meaning that not even the most bolted down, immovable hunk of plant or machinery should ever be confused with ‘capital’ per se (that would be to commit the same kind of error of association as is entrained in Marx/Ricardo’s labour theory of value and its ‘cost of production’ school among the resource analyst community).

Nor should it be considered to have any meaningful degree of ‘permanence’ simply because of its physical durability: function is what matters, not form and, moreover, it should never be forgotten that the true function of capital is to produce positive net income, not the things which we (mostly) trade onwards to others in order to assure receipt of that income. Indeed, we would do better to disembody our conception of capital entirely and to view it solely as a collection of property rights (including the primal right of self-ownership) from whose use we aspire to generate that net income over time and whose composition we must constantly adjust to fit the ever-changing circumstances in which it must be employed and which its very employment also alters.

Finally, in our intimately financialized economy, each one of our undertakings leaves its own trail of obligations given and received, each of which pathways of itself forms the foundation for yet other layerings of promise and contractual delivery. Thus, were our hamfisted attempts at puppeteering to cause a certain critical level of disruption to the operation of and – perhaps more importantly – the faith in one of these trackways, a cascade of failure could all too easily result turning as we Austrians like to say, an initiating monetary problem into a real one.

Thus, it borders on the facile to presume to re-arrange the pawns on the macroeconomic chessboard by lifting them off and putting them back, one by one and regardless of the actual progression of the game, but it is an exercise which not even the grandest of grandmasters could accomplish to orchestrate the march of the pieces from one such position to another not only while they are all moving at once but, indeed, doing so according to their individual expressions of will and, moreover, while they are simultaneously changing not only their own shapes and capabilities for movement, but redrawing the very dimensions of the board as they do.

China – or should we rather say, the individual Chinese – would undoubtedly be better off in an environment where more room was allowed for the ‘spontaneous order’ of consumer sovereignty under property rights to emerge and less was reserved for the corrupt gaming of central diktat, but to avow this is not to assume either that the transition will be seamless, much less painless, nor to accept that it can be so ordained simply by exchanging one set of fiats and public choice manoeuvrings for another.

But, never underestimate the penchant of the crude Keynesians for patent nostrums, state worship, and the elevation of hidden-cost collectivism to a guiding principle. Thus it is that, among the encomia for reform, we hear such idiocies as the following, oft-parroted, Cargo Cult wishfulness:-

[China should] Reform the Hukou system through creating a path for rural migrants to gain affordable housing and social services in urban areas. This could unlock much more consumer spending because, at the moment, some 270 million migrants who lack access to these services are forced to save hard to pay for their families’ education, healthcare and housing, etc…

-which is to imply nothing less than if the migrants themselves do not have to save, no-one else will either since the tutelary welfare state is, after, all a Tooth Fairy!

‘Cutting the Wrist’ with a Blunted Blade?

In the present vogue for voicing the previously inexpressible – presumably as part of the strategy to persuade the diehards that change is an unavoidable imperative – one of the New Men of the reform movement, Fang Xinghai, ex-Shanghai, World Bank, and Stanford, warned that many small banks were horribly over-reliant on wholesale sources of funding – to the tune of no less than 80% in some cases, Fang alleged – thus making them highly vulnerable to a run and of then acting as the ‘triggers’ in a possible asset price ‘cascade’.

To say such things openly is indeed to peer into Pandora’s Box. Total Chinese banking assets currently stand at some CNY147 trillion, around 2 ½ times GDP. As such, they have doubled in the past four years of increasingly misplaced investment and frantic real estate speculation, adding the equivalent of 140% of average GDP – or, in dollars, $12.5 trillion – to the books. For comparison, over the same period, US banks have added just less than $700 billion, 4.4% of average GDP, 18 times less than their Chinese counterparts – and this in a period when the predominant trend has been for the latter to do whatever it takes to keep commitments off their balance sheets and lurking in the ‘shadows’!

Indeed, the increase in Chinese bank assets during that breakneck quadrennium is equal to no less than seven-eighths of the total outstanding assets of all FDIC-insured institutions! It also compares to 30% of Eurozone bank assets (which are broadly unchanged over our chosen horizon, but which do represent an even more scary 320% of GDP and, in many cases dispose of worryingly scanty tangible equity ratios, q.v. below).

Published NPL ratios are reassuringly low and, as a result, earnings seem wonderfully robust, but it simply defies belief to accept either of these at face value, given that we know the Chinese leadership itself is terrified at the state of the nation’s finances.

It is for this reason, as much as any other, that we will believe all the brave talk about capital account liberalization and exchange rate reform when we see it. It would be simply too dangerous for a country stuffed to the gunnels with  Ponzified finance raised against a plethora of underproductive assets and overpriced properties. If the PBOC wants to see its $3.7 trillion reserve stash evaporate amid a flirtation with becoming the 1997 Thailand of the current decade, we suggest it proceeds to abolish its controls at its earliest convenience.

It is too early to be justifiably pessimistic and too tempting to let scepticism shade into cynicism, but no-one can readily deny that the implementation of all these much-vaunted reforms will not take place without a struggle: too many losers will be created, who must either be compensated or else outweighed in influence by the new winners who emerge.

Take the relaxation of the one-child policy. We already harbour some doubts about just how much pent-up Maternal Instinct there exists in a nation of increasingly professionalized, materially better-off women (a group for whom the indisputable global precedent is that they voluntarily rein in their fertility) whose dream of owning a suitable home in which to raise the first, much less the second, child is ever less realizable thanks to China’s soaring property prices.

On top of this, it has already been admitted by the ruling National Heath and Family Planning Commission  that the policy will be left largely to the discretion of lower levels of government to enact, that “there will not be a unified timetable” in recognition of the fact that “preparations or conditions might not be mature in some regions”.

We might suspect that Hukou reform will be seen to require a similar, locally-sensitive and hence inherently piecemeal enactment. Shame about all that ‘consumption’ we might have to forego among those looking forward to cracking open a bottle of Maotai the minute they receive their state pension booklet.

Then there is the ingrained habit which will be hardest of all to break: namely that the facilitation of shrine building – sorry, ‘investment’ – is the raison d’être of being a local government official. Take the report from this week’s, post-Plenum edition of First Financial News which pointed out that the joint spending plans of ten Chinese provinces amounted to a stupefying CNY40 trillion – or 80% of nationwide GDP! Clearly they did not get the latest memo from Chairman Xi.

Before leaving the topic of China, there is just one other faint concern to address; viz., the demotion of the previously ubiquitous champion of reform, Premier Li, almost to the status of Unperson as his superior, President Xi, conversely, has undergone a veritable apotheosis in recent weeks.

Though not quite airbrushed from the May Day balcony shot, Li has been obviously and humiliatingly relegated to the inside pages of late, having conducted such pressing duties as entertaining the Romanian PM on the sidelines of a conclave of central and eastern European leaders in the throbbing heart of Uzbekistan and of chairing a State Council meeting whose agenda read like the trailer for an edition of the BBC’s consumer affairs programme ‘Rogue Traders’ at which our man set his face firmly against the evils of counterfeiting and the future sale of ‘shoddy’ goods. (There goes the Chinese Mittelstand, we are tempted to observe).

Though much has been made of the significance of the newly-instituted Central Leading Committee for the Comprehensive Deepening of Reform (don’t you just revel in the wilder flights of Socialist Newspeak?) and of its possible role in stymieing the local cadre-friendly NRDC, there is a growing suspicion that Li himself will not be selected to head it. If such whispers have any merit to them, this would mean that Xi’s thirst for personal power has already come at the expense of the better co-ordination of the reform push. Watch this space.


No zero bound on reason

Five years and more since the successive collapse of the pillars of the American financial system ushered in our present dire ‘unorthodoxy’, it should be obvious that overabundant money is no substitute for a lack of genuine capital. It should also be readily admitted that artificially low interest rates cannot be guaranteed to overcome the many disincentives to entrepreneurship which currently exist. How else could it be in a world where the profit motive is so universally condemned? How else when any businessman worth his salt knows that he is being asked to spend his energies and pledge his future well-being in pursuit of customers who either themselves are not financially sound or who suffer under a government whose own straitened condition may, at any moment, seek to rob them of whatever wealth they have so far managed to preserve.

In such an environment, where the ‘rentiers’ are again being slowly suffocated (in a process far too painful and protracted ever to be dubbed ‘euthanasia’), the effusions of the central banks are, all too predictably, giving rise to the most elevated of Cantillon effects in which those who have access to the cheap credit which their policy openly aims to make available can leverage it up into spectacular gains by speculating in the traditional vehicles of financial claims, real estate, and such fripperies as art and antiques. Thus, the financial wheeler-dealers flourish while the salarymen struggle onward, the retired rein in their aspirations, and the smaller business suffer in a world of uncleared markets, elevated costs, and state-subsidized and bank-evergreened zombie competitors.

Now it may be that Professor Krugman can insist that the grossly inequitable distributional effects which this brings about – letting the GINI out of the bottle as we have elsewhere categorised it – are somehow benign (his irrational hatred of the thrifty clearly overlapping with his bien pensant contempt for the rich with whom he presumably identifies them and thus overcoming his equally demagogic distaste for bankers). But we are far more sympathetic to the analysis presented by that eminently more reputable economist, Axel Leijonhufvud, who, in an address to Cordoba University in Argentina a few months back, dealt decisively with just this malign side-effect of the central banks’ ‘every tool is a hammer’ approach to policy, declaring that:-

Most of all, reliance on monetary policy has the inestimable advantage that its distributive consequences are so little understood by the public at large. But relying exclusively on monetary policy has some unpalatable consequences. It tends to recreate large rewards to the bankers that were instrumental in erecting the unstable structure that eventually crashed. It also runs some risks. It means after all doubling down on the policy that brought you into severe trouble to begin with.

Prof. Leijonhufvud, noting that the privileges extended to our limited liability money-creators are ‘in effect transfers from taxpayers as well as from the mostly aged savers who cannot find alternate safe placements for their funds in retirement’ and talked of the effortless enrichment to be had by those who can borrow at near zero rates from the central bank and leverage it up multiple times to buy higher-yielding government paper, all the while patting themselves on the back – and padding themselves in the pocket – for their genius.

Coincidentally, while writing this, we were sent a report condemning the large French banks’ lack of progress in restoring their finances to anything resembling a structure which could endure the slightest adverse gust were all these implicit and explicit state guarantees not so readily extended to them. Taking a quick look – more at random than out of any more studied approach to finding the worst offender – we checked the broad-brush financials for one of them, Credit Agricole, on the Bloomberg.

Mon vieux Agricole disposes of assets of around  €1.8 trillion – not far short of a year’s worth of French GDP – against which it holds in reserve an official ‘Tier 1 Risk-Based Capital Ratio’ of 10% and a ‘Total Risk-Based Capital Ratio’ of what looks likely a highly conservative 15.4%. But therein lies the rub – namely, in the weasel words ‘Risk-Based’ and ‘Tier 1’. If we look at a good, old-fashioned measure like, say, tangible common equity to total assets, the cushion between continued existence and business failure falls to the exiguous level of 1.27%.

Putting that another way, for every euro of equity to hand, this one bank has piled €78.74 of assets – funding a hefty portion of them, no doubt with the BdF’s favourite little, officially-endorsed, ECB collateral-eligible, exceedingly short-dated titres de créances négociables. Our good Swedish professor would be in danger of choking on his smorgasbord if he were to read of such a crass degree of state-sponsored hyperextension.

We would also gently remind the reader here that, in Hayek’s sophisticated reading of the economic problems we create for ourselves, he relied heavily on a similar concept of distributional unevenness – rather than that of an indiscriminate aggregate demand shortfall – for an explanation of why the Gutenberg School of Economic Quackery should never be allowed the final word.

So, no, Prof. Krugman, savers cannot presume to be ‘guaranteed’ a positive real return on the sums they set aside (though you no doubt hope that those looking after your own, no doubt substantial nest egg will manage to achieve this very feat). But what they can rightly demand from a just society is that the only risks they run are everyday commercial ones and they are not systematically robbed by feckless politicians following the kind of crude leftist trumpery which you and your kind never cease to espouse.

No treatment of these issues would be complete without a brief nod to the spreading predilection for invoking an explanation for the inconvenient fact that we are not responding in textbook fashion to the potions, poultices, and bleedings being administered to us by our leeches at the central banks. This is the hackneyed old idea that we have somehow lapsed into a period of ‘secular stagnation’ – a wasting disease wherein our utter satiety with all the riches which a technologically mature society can shower upon us leaves us enfeebled and enervated, all compounded by the fact that our ineffable ennui has led us to procreate with ever decreasing regularity to the point it is threatening, horror of horrors, to make our blue sapphire of a planet a little less crowded than once we feared it might become.

Heaven forbid, but the latest sermoniser to propagate this nonsense was none other than Larry Summers – the man some thought might actually be a bit, well, less open-handed had anyone had the temerity to risk installing him as Blackhawk Ben Bernanke’s successor – suggesting that maybe Madame Yellen was not the worst choice, after all.

Dear old Larry has come over all Zero Bound constipated, fretting that the natural, real rate of interest has somehow become fixed down there at negative 2%-3% where conventional policy (if you can still remember of what that used to consist) cannot get at it – unless we blow serial bubbles, that is, these episodes in mass folly and gross wastefulness now being raised to the level of such perverse desiderata of which Krugman’s only partly-facetious call for a war on Mars forms an infamous example.

In fact, this entire notion is another piece of nonsense to spring from the one of Keynes’ least cogent ramblings, the notoriously insupportable notion of ’Liquidity Preference’ – a logical patch fixed over the lacunae in his reasoning when, having insisted that saving must always equal investment, all he could think of to determine the rate of interest was our collective desire to hold money for its own sake. From such intellectually bastard seed soon sprang, fully-armed like Minerva from the head of our economic Jove, the even worse confusion of the ‘Liquidity Trap.’

Not only Austrians, not only Robertsonians, not only Wicksellians like our man Axel Leijonhufvud have shown this to be a nonsense – easy enough since all of these generally look in some way at the balance being struck between the funds made available for loan according to potential savers’ subjective degree of time preference and the eagerness with which these funds are sought with regard to would-be entrepreneurs’ estimations of the profitability of their projects. But even Keynes himself all but confessed he had the whole thing backwards less than a year after that infernal tract, ‘The General Theory’, was first published.

Responding then to concerted criticism of his peculiar concept of interest rate determination as an internal mental conflict conducted in the heads of ‘framing’-prone, stick-in-the-mud, ‘college bursar’ bond-buyers who would, he felt, resolutely reject unusually low market rates on gilts in favour of accumulating cash hoards , he was forced to admit that the main part of that demand for money which he found to be the root of all macroeconomic evil was not at all related to people’s supposedly irrational desire to hoard it for its own sake, but rather was due to their wholly unobjectionable aim of ensuring a ready supply of funds prior to making planned outlays from them, something Keynes, with uncharacteristic humility, admitted in print that he ‘should not have previously overlooked’.

Since Summers himself made reference to a man dubbed the ‘American Keynes’ – that avid New Dealer Alvin Hansen – who raised this spectre, seventy years ago, let us also refer the reader to the complete dismissal of this strain of thought accomplished by George Terborgh  in his contemporary 1945 work, ‘The Bogey of Economic Maturity’.

As Terborgh summarised in what he called a ‘thumbnail sketch’ of this theory:-

Formerly youthful, vigorous, and expansive… the American economy has become mature. The frontier is gone. Population growth is tapering off. Our technology, ever increasing in complexity, gives less and less room for revolutionary inventions comparable in impact to the railroad, electric power, or the automobile

Robert Gordon and Tyler Cowen are hardly the trailblazers they like to imagine they are, either, it appears –

The weakening of these dynamic factors leaves the economy with a dearth of opportunity for private investment…  Meanwhile… savings accumulate inexorably… and pile up as idle funds for which there is not outlet in physical capital, their accumulation setting in motion a downward spiral of income and production… the mature economy thus precipitates chronic over-saving and ushers in an era of secular stagnation and recurring crises from which there is no escape except through the intervention of government.
In short, the private economy has become a cripple and can survive only by reliance on the crutches of government support.

Two hundred-odd closely-argued and empirically-rich pages later, Terborgh sums up as follows:-

If… we suffer from a chronic insufficiency of consumption and investment combined, it will not be… because investment opportunity in a physical and technological sense is persistently inadequate to absorb our unconsumed income; but rather because of political and economic policies that discourage investment justified, under more favourable policies, by these physical factors.

Hear! Hear!

As Wikipedia laconically notes in its biographical sketch of Terborgh’s protagonist, Hansen, the verdict of history was unrelenting:-

The thesis was highly controversial, as critics… attacked Hansen as a pessimist and defeatist. Hansen replied that secular stagnation was just another name for Keynes’s underemployment equilibrium. However, the sustained economic growth beginning in 1940 undercut Hansen’s predictions and his stagnation model was forgotten.

So, why should we not forget it, too? Only because, as Terborgh was only too aware, the popularity of such views is a gilt-edged invitation for continued, large-scale interventionism by the Bernankes, Summers, and Yellens of this world and there will surely come a point where the slow drip, drip of these will utterly undercut the foundation of our modern order and usher in to office a much darker series of opportunistic overlords and aspiring saviours.

On that somewhat sombre note, we will leave matters for now, with only a pair of questions to ask of our present leaders by way of an epilogue:-

If, as you and your ilk mostly do, you affect to fear that we are somehow exhausting the planet’s capacity to give our species a domicile, how can you also be worried that we may be slowing down, dying out, and using less and hence presumably be making less of a call upon Holy Mother Gaia—and doing so, moreover, in a wholly voluntary fashion?

Furthermore, if you really do believe that we are on the verge of such a ‘stagnation’ as you describe—with all it implies for the potential dwindling of income streams and the drying up of future returns on capital—how can you reconcile the current, extraordinary buoyancy in the stock market with your firm insistence that no part of the policies you have been implementing can in any way have contributed to what must therefore be an untoward degree of optimism (aka a ‘bubble’) in the valuation of its components?

Answers, please, on a postcard.


The root of all evil

The FT blog entry dealing with the Pope’s recent apostolic exhortation is, as we might expect, a somewhat tendentious selection, archly culled from the proclamation. But, in the spirit in which it is there presented, let us deal with a few of the passages excerpted.

While the earnings of a minority are growing exponentially, so too is the gap separating the majority from the prosperity enjoyed by those happy few. This imbalance is the result of ideologies which defend the absolute autonomy of the marketplace and financial speculation…

No, such gross inequalities arise only due to state intervention (not least in the imposition of flawed systems of state money), from state-granted legal privilege, and through the state-exercised, post hoc largesse which is routinely showered upon its favoured lackeys whenever they make one of their frequent gross errors of judgement or succumb to their all too typical and wholly execrable violations of ethics.

Let us here be clear, whatever the pope may think, tax minimisation is not one of the latter. A man’s honestly come-by income is his, not his petty overlord’s, to dispose of and all non-violent efforts he makes to reduce the depredations being visited upon that income are just. The problem with this contention is that the ability to do so not extend equally to all. Thus, the larger fish – flaunting their state-granted immunities – swim free while the smaller fry – who might one day grow to be their competitors were they not so viciously oppressed – are caught in the net and squeezed all the more mercilessly in order to make up a budgetary shortfall (which itself only seems so pressing because of the insatiable lust for power of their rulers).

Jesus may have made a point of cultivating the company of publicans – i.e., of tax farmers – as a way of showing up the self-righteousness of the Pharisees, but He was surely not suggesting that it was their office that was the highest of all callings in that it assisted the voracious state in its attempt at ensuring ‘a better distribution of income’ – better distributed to its functionaries and supporters for the most part, that is.


…they reject the right of states, charged with vigilance for the common good, to exercise any form of control. A new tyranny is thus born, invisible and often virtual, which unilaterally and relentlessly imposes its own laws and rules

Does anyone in their right mind really think the market makes the rules? If so, then why are we plagued with a cradle-to-grave, self-perpetuating, largely self-selecting claque of political parasites and bureaucratic busybodies whose path up the greasy pole to view ‘all the kingdoms of the world, and the glory of them’ consists of a never-ending striving to think up new rules, regulations, prescriptions and prohibitions to impose upon the rest of us, the better to prove the  political ‘vision’ – and hence fitness for high office – of their promulgators?

Furthermore, it strikes one as the bitterest of ironies that in this flight of rhetoric the Holy Father has seemingly chosen to confound the utterly notional ‘tyranny’ of fair dealing and contractual fulfilment with the innumerable, very real horrors inflicted upon his flock by that most bestial of institutions, the state, throughout its long, bloody history.

In a true free market – however much of an abstraction that concept may, alas, remain – self enrichment can only come about as the reward for a meritorious success in best satisfying the material needs of others. This is hardly a ‘tyranny’. Indeed, if anyone is subject to such a binding constraint, it is the profit-seeking entrepreneur since, in such a world, he is a man who earns his daily bread by making sure others receive theirs at the lowest cost, in the highest abundance, on the most regular basis, according to the shortest delay, and comprised of the greatest quality. If he does not do so as a matter of basic business principle, he risks soon going hungry himself.

Moreover, the ‘worship of the ancient golden calf’ which is held up as so abhorrent a practice has always been something most pitilessly enforced by the state, not the market. Leviathan – in order to shore up the pillars of its earthly dominion – has typically either perverted true faith into a religion of diabolical service to own glorification, or else has set itself up as the secular deity, one to be defied only at the price of life, liberty, and property. It is therefore not the ‘idolatry of money’ wherein we meet the most awful, crushing, ‘inhuman dictatorships’, but in societies which pretend to despise honest trade and which prey upon fruitful commerce.

We can no longer trust in the unseen forces and the invisible hand of the market… [and when, pray tell us, did we ever get a chance fully to do that?]

Growth in justice requires more than economic growth, while presupposing such growth: it requires decisions, programmes, mechanisms and processes… [etc., etc.]

Perhaps we might encourage His Holiness to find time among his regular schedule of devotions to read a little Hayek and perhaps some Buchanan, for here he has succumbed to the fallacy of the pretence of knowledge and he is also gathering up tares, not wheat, by failing to take note of the teachings of  ‘public choice’ theory. Planning – for that is what this passage is advocating –  is the scourge which drove us into this mess in the first place. The very ‘decisions, programmes, mechanisms and processes’ being implemented by the idiot savants and the hubristic meddlers who populate the ranks of the influential are what keep us mired within that mess and so prolong the suffering of one and all, far beyond their due measure and far in advance of their allotted span.

Our new Pope is doubtless a man of unimpeachable piety and great personal humility, but what the chosen paragraphs appear to demonstrate is that the concept of his infallibility is rightly reserved for his considered pronouncements on matters of doctrine, not economics or even politics. Otherwise, instead of echoing the sentiments of such a leading light of humanitarianism as Che Guevara – whose Stalinist ramblings also dwelt on the ‘alienation’ suffered by the masses and who likened the market economy uncomprehendingly as a ‘contest among wolves’ – he would surely acknowledge that, for all the inevitable human failings of the individuals who make up the class, entrepreneurs routinely do, have always done, and always will do more good for more people in more instances than ever have or ever will the commissars, crony plutocrats, and corrupted vote-mongers from whom the Alphaville redactor (if not necessarily the Pope himself) finds them drearily indistinguishable or else beside whom she deems them decidedly less commendable.

The FT post itself concluded with fashionably cheap jibe en passant at the Tea Party – which it no doubt sees as a howling mob of ape-knuckled reactionaries stubbornly resisting all that uplifting soixante-huitard progressiveness which some of its authors and the rest of the more enlightened so joyously embrace. This itself reveals much about the ideological intent behind the careful culling of the Pope’s words, as does the breathless worship of Keynes and Krugman which has become FT Alphaville’s default setting.

Yet there are one or two phrases in the Apostolic which could be cited to support a completely opposite view of the world, as for example, when the Pope says:

…Today’s economic mechanisms promote inordinate consumption, yet it is evident that unbridled consumerism combined with inequality proves doubly damaging to the social fabric…

Agreed. But on the FT blog the talk is usually a wearisome rehearsal of ‘paradoxes of thrift’, ‘liquidity traps’, and of the need for programmes of economic ‘stimulus’ which are all aimed at fostering that two-masses-for-the dead, pyramid-building Uber-consumption of the kind which can only spawn what are ultimately unsustainable levels of ‘…Debt and the accumulation of interest [which] also make it difficult for countries to realize the potential of their own economies and keep citizens from enjoying their real purchasing power…’ – that latter a cry not to resort to any further inflationism, perhaps; not to mention a suggestion that we might do well to reduce, not inexorably increase, indebtedness, pace the Bloomsbury Sage and his brutish New York Times enforcer?

And as for the inherent collectivism of much of the commentary here, well, there is always this to consider:

…all this becomes even more exasperating for the marginalized in the light of the widespread and deeply rooted corruption found in many countries – in their governments, businesses and institutions – whatever the political ideology of their leaders.

Here, Pope Francis – if with perhaps not the greatest degree of consistency, given what he has argued earlier in his address – is categorically expressing his deep disapproval of those same enlightened, disinterested, Platonic philosopher-kings to whose tender judgement we are often told in the FT we should commit our care, lest the evils of the market come upon us as a wolf upon the fold.

Adding to this, in a different section, the pontiff argues that,

…the principal author, the historic subject of this process [of building a fair society], is the people as a whole and their culture, and not a single class, minority, group or elite. We do not need plans drawn up by a few for the few, or an enlightened or outspoken minority which claims to speak for everyone. It is about agreeing to live together, a social and cultural pact…

Not much room there for that sordid Republic of Men, not Laws for which we are enjoined to abandon that fructifying “social and cultural pact” which is the market.

Francis goes on:

…it is the responsibility of the State to safeguard and promote the common good of society.  Based on the principles of subsidiarity and solidarity, and fully committed to political dialogue and consensus building, it plays a fundamental role, one which cannot be delegated, in working for the integral development of all. This role, at present, calls for profound social humility…

Here, ultimately, is the root of all our woes. Not the “absolute autonomy of the marketplace and financial speculation”, but the fact that none of those who hold sway over us – neither the unelected technocrats like Mario Draghi and Janet Yellen, the heads of our increasingly arbitrary governments – whether elective, theocratic, single-party socialistic, or monarchic in flavour – the sinister spymasters they have empowered to snoop and pry and curtain-twitch at our every thought and deed, nor the pettifogging officials they have let loose to harry us about our daily round – not one of them display much in the way of ‘social humility’, profound or otherwise.

Perhaps that’s because most of these worthies have never had to operate within the one institution most likely to inculcate such a virtue; the one in which the consumer – and not the producer – is sovereign; the one where the customer – not the merchant – is always right.

I refer, of course, to the free, unhampered market – the bringer of bounty and promoter of peace, the forum of fraternity and congress of co-operation where man meets with man in order to trade, mine for yours, to the mutual benefit of both.


Dear George

Dear George,

No purple prose this time, I promise – I wouldn’t dream of risking any untoward interruption of your natural digestive processes – but I just came across the little invective (is there any other genre to which you turn your hand?) – in which you gave full vent to your scorn for my alleged lack of understanding of the banking system.  

[Oh, and thanks for the editorial obiter dicta, but ‘fulfil’ is correct in real English, while the OED validates my use of both ‘nominated’ and ‘incongruous’. Typos are, alas, another matter for which you will just have to excuse one’s eternal inability properly to proof read one’s own work. It was however very stylistically astute of you, I must say, to exploit the frequent use of the [sic] insertion to make the subliminal suggestion that someone who apparently could not set grammatically accurate sentences on a page was ipso facto to be considered suspect in the coherent thought department, too! But, let’s not be too schoolgirlish about it. Onward to the point in hand.]

To chew over the first bone of contention and as you will not take my word for it that banks do create deposits by lending money, let me quote you a little Roepke from a footnote (p113) to his 1936 work, ‘Crises & Cycles’: 

The process [of credit creation] is now clearly explained in any text-book on economics, banking or money (especially recommendable is Hartley Withers’ Meaning of Money). A fuller treatment may be found in the following books: R. G. Hawtrey, op. cit.; J. M. Keynes, A Treatise on Money, pp. 23-49 : C. A. Philips, Bank Credit, New York, 1920; W. F. Crick, “The Genesis of Bank Deposits,” Economica, June 1927, and F. A. von Hayek, Monetary Theory and the Trade Cycle, London,1933.

Without an understanding of this process and of its limitations, no real insight into the working of our banking system and, consequently, of our entire economic system seems possible, to say nothing of the mechanism of business cycles. There may still be many people who can no more believe the story of the genesis of bank money than they can believe the genesis of the Bible, but on the whole it now seems to be generally accepted. A last but hopeless attempt at disproving it has recently been made by M. Bouniatian, Credit et conjoncture, Paris, 1933. [Emphasis mine and apparently NOT the last!]

Or as Hayek indeed noted in ‘Prices and Production’ above his own lengthy footnote (pp 81-2):-

The main reason for the existing confusion with regard to the creation of deposits is to be found in the lack of any distinction between the possibilities open to a single bank and those open to the banking system as a whole.

Shall we hear from Mises?  ‘Monetary Stabilization and Cyclical Policy’ (p105) seems pretty unequivocal on the matter:- 

If the banks grant circulation credit by discounting a three month bill of exchange, they exchange a future good—a claim payable in three months—for a present good that they produce out of nothing. It is not correct, therefore, to maintain that it is immaterial whether the bill of exchange is discounted by a bank of issue or whether it remains in circulation, passing from hand to hand. Whoever takes the bill of exchange in trade can do so only if he has the resources. But the bank of issue discounts by creating the necessary funds and putting them into circulation. [which, incidentally, is an almost exact paraphrase of the argument I advanced and to which you took such exception, George]

Finally, let us allow Dennis Robertson a few words on the matter from the posthumous collection ‘Essays in Money and Interest’, p25:-

…bank money comes into existence mainly as the result of loans and investments made in the banking system… … Historically, there seems to me no question that the bulk of bank money in existence has come into existence in this way… If anyone retains any lingering doubts on this matter, whether these doubts arise from consideration of the multiplicity of banks or from some less rational cause, I commend to him the patient and careful article of Mr. Crick [see above]… Here time forces me to treat this particular controversy as closed. [Emphasis mine again]

Your basic case is that when a miller supplies flour to a baker on credit and takes the evidence of his claim on the latter to a bank to be monetized, the blameless Free Fractional Bank can only accommodate this demand once its managers are satisfied they already have sufficient, saved monies – either to hand or readily available – to honour whatever surplus of cheques it is which, as a consequence, will be presented to them at the next clearing.

This is utterly wrong, but to demonstrate my point, you will have to grant me a little empirical diversion.

Bundesbank data for aggregated balance sheets across the EZ show that, as of the end of QII, banking institutions (or ‘MFI’s) had taken in roughly 60¢ of deposits from other banks for every €1 owed to non-banks, and had extended a similar proportion of 60/100 in credit to other banks versus that granted to non-banks by means of loans or security purchases. In the first case, the total was some €7,617 billion outstanding, in the latter €9,515 billion – whether in absolute terms or at 38% of the relevant totals, hardly trifling sums. 

Meanwhile, BIS data for cross-border banking shows an even greater predominance of ‘pig-on-pork’ with $19,204 billion in assets out of a total of $32,655 billion (59%) being claims against other banks and $20,875 billion out of $31,646 billion (66%) being liabilities due to other banks.

Clearing, did I hear you say? Clearing? Or, are we rather dealing with ‘money-from-thin-air’ pyramiding?

Since you so like to affect a folksy tone in your dismantling of opposing views, let me respectfully offer you a simple analogy in my turn.

Mick the Miller delivers flour to Bert the Baker in exchange for a post-dated IOU to the redeemable value of, say, $100. So far, so good – savers and lenders matched and nary a sign of inflation. Mick, however, next sells the note to Bartholomew the First Banker for a small discount and spends the $99.50 credited to his account on wages for the mill-hands.  Matt the Miller’s assistant gets his paid into his account with Benjamin the Second Banker. 

Alack and alas for your Trumpton theory of free banking, Ben does not send a runner, post haste off to present the cheque for clearing and thereby instantly expose Bart’s reckless issue of an unreserved demand claim, instead he goes searching for a convenient place to acquire an offsetting asset to put against his newly-assumed liability and typically ends up lending an equal amount to Bart in an interbank market which I have already demonstrated is still vast in extent, even today in our post-Lehman state of funk and even though I will grant you that as much as €1 trillion of this had to be further intermediated via the ESCB’s own balance sheets, using the TARGET2 system, at the height of the panic.

In this way (feel free to draw out the T-accounts if it is somehow not clear), money – i.e., Matt’s all too readily spendable credit balance in his demand account with Bank of Ben – has indeed been created ex nihilo. What is more, this has taken place long before Bert the Baker has had time to bring a fresh batch of his widely-praised Rustic Cobs out of the oven to sell to Matt and thereby begin the process of redeeming his own liabilities with an exchange of goods for the newly-created money. That creation was therefore inflationary, despite the complete absence of a central bank to muddy the waters in our toy community. 

Not that this has exhausted the possibilities either. Banker Bart could simply sell Baker Bert’s IOU to Banker Ben, though obviously Ben will have to repeat the exercise if the recipient of Matt’s imminent expenditure does not himself bank with Ben. More likely Bart will try to repo it (effectively, pledge the IOU as security for the sum he needs to borrow from Ben). After all, this is a market which just in the US amounts to a $2.8 trillion daily turnover, a mind-boggling sum to which we can add the €11.9 trillion a month passing across the LCH in London and the €700 billion a day going via Euroclear. Furthermore, given the controversy which has arisen over the multiple use of such collateral as Bert’s IOU – its ‘rehypothecation’ in the proper jargon – we can be fairly sure that this innocent little promise to pay will be positively flying around the system, assuring the ready creation of ‘money-from-thin-air’ for so long as it remains in some banker’s or broker-dealer’s hands.

You might like to know that, many years ago now, I started out working in the Treasury department of a small international bank in the City and that several of my peers from that day now occupy decidedly senior positions in that same milieu. I can assure you that none of us had ever given much thought to the business of covering (or at least of matching) our loans before granting them up, right up until the late outbreak of unpleasantness. The working assumption was that funds could always be had in the short-date interbank market, even if a degree of interest rate risk was therefore unavoidable (indeed, this latter, offering the chance of a profitable arbitrage, was often the primary motivation behind the lending decision itself). Things may not be quite so free and easy post-2008, but the point nonetheless stands.

Incidentally, even with the baleful presence of the CB, you should be aware that for much of the last boom, as the result of a captured-regulatory race to the bottom, reserve requirements – and hence active, statist reserve provision – were so nugatory (indeed, in the UK they were both voluntary and the degree of that voluntarism was actually capped) that they were irrelevant to the everyday functioning of the banks in much of the developed world. Moral hazards and implied backstops were of course all too operative, but reserve provision per se was not really a determining factor in the contemporary insanity.

For reasons which escape me, it is widely recognised in your circles that the supposed automaticity of the restraint imposed by the classical gold standard was honoured more in the breach than the observance because of the ready resort to the creation of deferred claims between surplus and deficit entities (whether private or public) in place of any actual final settlement through the transfer of metallic reserves (you cannot afford to be too respectful of the role of the barbaric relic, lest you sound too Rothbardian, I suppose) and yet you seem to insist that the paper trail from every last, utterly mundane banking transaction must be instantly be presented for an equivalent, expansion-restricting act of ‘clearing’. To the contrary, you will find that whether conducted electronically or not, ‘note wars’ are a curiosity of the past and, it is my contention, would be likely to remain so even if the evil central banking were miraculously to be abolished. 

It may be a truism of accounting that every asset has to have a corresponding liability (and that for entities such as banks, unlike for individuals and states, these must match internally, to boot), but this is to elide over the yawning gap between a genuinely ‘saved’ deposit and one which merely happens to have been caught on camera in someone’s possession at the instant of book-closing as it flits busily about between owners, performing its primary role as a medium of exchange. 

Nor are we here even beginning to deal with the distortive effects of ex ante, desired versus ex post, forced savings (I think I am right to venture that I have not seen your school deal much with this concept either).

No. I would suggest to you that the dangers and distortions are much more immediate than that.

If Mick the Miller is turned into Mick the Mortgage Dealer and Bert the Baker into Bert the Bungalow-Buyer, I can hardly see it as a comfort that, when the accounts are squared up at COB each evening, there must necessarily exist a positive entry somewhere in the system (barring the more remote possibility of there existing a corresponding cash holding) or that this is very likely to consist of an inside-money, demand account one which, however fleetingly held between the act of buying and selling, has been transmuted via an equally transient interbank loan into the associated 30-year obligation. 

Kind regards, from a ‘self-styled’ Austrian,