To go gold or not?

This from

http://www.telegraph.co.uk/finance/comment/ambroseevans_pritchard/5373570/Gold-bugs-at-last-have-their-perfect-trinity.html

A number of readers have written to me in tones of polite reproach asking why I fret about deflation when governments everywhere are spending and printing as if there was no tomorrow. I admit to being tortured by self-doubt, like others grappling with this extraordinary situation.

What we know is that inflation is already negative in Ireland (-3.5pc), China (-1.5pc), Thailand (-0.9pc), Korea (-0.5pc), US (-0.7), Japan (-0.3), Switzerland (-0.3, Spain (-0.2pc). The eurozone may be negative by July. Alistair Darling said Britain's retail RPI inflation used to set wage deals will be minus 3pc by September.

Does this constitute deflation in a meaningful sense? Not yet, perhaps. But it is moving too close for comfort in a world stretched by extreme leverage. The economies of the US, Japan, the eurozone, and Britain have been contracting in "nominal" as well as "real" terms – which smacks of the 1930s.

The "yen GDP" of Japan has shrunk by 10pc in one year; the "euro GDP" of Germany has shrunk 6.2pc, and Italy's by 4.7pc ; the "dollar GDP" of the US has shrunk 3.3pc. Debts are not shrinking, however.

GMO's Jeremy Grantham says in his latest note, Last Hurrah And Seven Lean Years, that the market value of equities, houses and commercial property in the US reached $50 trillion in the boom. This "perceived wealth" sustained $25 trillion of debt.

The crash has cut this wealth to $30 trillion, but the debts are still there. America's debt-gearing has exploded, as it has in the UK and Europe. This looks awfully like Irving Fisher's "debt deflation" trap of 1933. It will be a long slog for households to bring their debt-to-wealth ratios down to manageable levels.

Forecast global decline rate

This from Yale Global at
http://yaleglobal.yale.edu/display.article?id=12338&gclid=CKuZwr6Lw5oCFYEvpAodaWrmrw
The total market value of financial assets held worldwide has declined by about a third, or more than $50 trillion, in 2008 according to a report by the Asian Development Bank. Container traffic in the world’s busiest ports is down by more than 20 percent. While trade volumes show greater volatility than GDP, the figures for the former show a near precipitous decline relative to the former. The IMF expects global GDP to decrease by 1.3 percent in 2009, while economists from the World Trade Organization forecast a 9 percent decline for global trade in the same year, both the largest drops on record since World War II. Export volumes are expected to decrease in every major region of the world. Indeed, double-digit declines in real national variables are so rare that declines in export volumes of over 30 percent, such as in the case of Japan, make one wonder about the “bubble-like” nature of the underlying demand. On the other hand, while Euro area GDP and US GDP are both expected to contract in 2009, emerging economies are the one bright spot with a GDP growth forecast of 1.6 percent.

Capital well running dry

This from
http://www.telegraph.co.uk/finance/comment/ambroseevans_pritchard/5220118/The-capital-well-is-running-dry-and-some-economies-will-wither.html

The world is running out of capital. We cannot take it for granted that the global bond markets will prove deep enough to fund the $6 trillion or so needed for the Obama fiscal package, US-European bank bail-outs, and ballooning deficits almost everywhere.

Unless this capital is forthcoming, a clutch of countries will prove unable to roll over their debts at a bearable cost. Those that cannot print money to tide them through, either because they no longer have a national currency (Ireland, Club Med), or because they borrowed abroad (East Europe), run the biggest risk of default.

Traders already whisper that some governments are buying their own debt through proxies at bond auctions to keep up illusions – not to be confused with transparent buying by central banks under quantitative easing. This cannot continue for long.

US hedge fund Hayman Advisers is betting on the biggest wave of state bankruptcies and restructurings since 1934. The worst profiles are almost all in Europe – the epicentre of leverage, and denial. As the IMF said last week, Europe's banks have written down 17pc of their losses – American banks have swallowed half.

"We have spent a good part of six months combing through the world's sovereign balance sheets to understand how much leverage we are dealing with. The results are shocking," said Hayman's Kyle Bass.

It looked easy for Western governments during the credit bubble, when China, Russia, emerging Asia, and petro-powers were accumulating $1.3 trillion a year in reserves, recycling this wealth back into US Treasuries and agency debt, or European bonds.

The tap has been turned off. These countries have become net sellers. Central bank holdings have fallen by $248bn to $6.7 trillion over the last six months. The oil crash has forced both Russia and Venezuela to slash reserves by a third. China let slip last week that it would use more of its $40bn monthly surplus to shore up growth at home and invest in harder assets – perhaps mining companies.

A disturbing number of states look like Iceland once you dig into the entrails, and most are in Europe where liabilities average 4.2 times GDP, compared with 2pc for the US. "There could be a cluster of defaults over the next three years, possibly sooner," he said.

Last gasp for A-REIT's?

This from
http://www.businessspectator.com.au/bs.nsf/Article/A-REITs-last-gasp-pd20090424-RE5CS?OpenDocument&src=kgb
Goldman Sachs’ property analysts have called it a “canary in the coalmine’’ warning. Does the Dexus Property Group’s $749 million equity raising presage another jolt of fear, loathing and threat for the reeling A-REIT sector?

The reason that the analysts were taken aback by Dexus’ capital raising is that they saw no obvious need for it.

Dexus has a high-quality office and industrial property portfolio, is at the lower end of sector gearing levels (37 per cent) and has no debt maturing until February next year, when $550 million is due. It has another $671 million that will need to be refinanced between September and December next year...

The A-REITs face a particular problem. The domestic banks are trying to reduce their exposures to a volatile sector. They are also re-pricing their lending to the sector to reflect their perception of increasing risk – debt, for the A-REITS, even if it is available comes at an increasingly expensive cost.

Traditionally foreign banks have been major lenders to the property sector but there is concern that they will face pressures to redirect capital and balance sheet capacity to their home economies, particularly those banks that have received assistance from their taxpayers. That’s why the federal government is trying to establish the ‘RuddBank’ with the four domestic majors.

As the A-REITs head into an accelerating cycle of devaluations – Stockland this week flagged revaluations (downwards) of $650 million to $700 million because of the movements in capitalisation rates – the focus on their gearing and liquidity will intensify.

There is a circular element to their predicament that makes the Dexus ‘solution’ potentially destructive.

The stronger A-REITS that get in early and hard with the next round of equity raising will put pressure on the rest to fall into line at even bigger and more dilutionary discounts to weakening equity values even as investor wariness towards the sector increases, casting doubt over the availability of equity for the weaker or more tardy trusts.

Blue skies in China

This from
http://business.smh.com.au/business/positive-signs-in-chinas-economy-20090416-a901.html
SMH calls it postive signs in China, while other articles call it a slowdown?

"China's statistics bureau yesterday said GDP grew 6.1 per cent in the March quarter against the corresponding quarter last year, the lowest since quarterly records began in 1992, due to a 20 per cent collapse in exports.

The Treasurer, Wayne Swan, said the China GDP figure "provides stark evidence of the impact of the global recession on the mining boom" and warned that next month's budget would include "substantially worse" estimates of growth and government revenue than contained in the February budget update."

But what has kept the Chinese economy going?

"The figures also showed the largest part of China's economy - urban fixed asset investment -A Herald analysis of five Beijing government air-monitoring stations shows the city enjoyed more blue-sky days in each of January, February and March than in any previous month in nine years of records, as steel factories closed their doors and motorists used public transport. surged 30.3 per cent in the year to March 31 as state-owned banks poured cash into roads, railways, power plants, property development and asset speculation."

Meanwhile, what does "more blue skies" in Beijing tell us?

"A Herald analysis of five Beijing government air-monitoring stations shows the city enjoyed more blue-sky days in each of January, February and March than in any previous month in nine years of records, as steel factories closed their doors and motorists used public transport."

Copper?

This extract from
http://www.telegraph.co.uk/finance/comment/ambroseevans_pritchard/5160120/A-Copper-Standard-for-the-worlds-currency-system.html
Beijing suspects that the US Federal Reserve is engineering a covert default on America's debt by printing money. Premier Wen Jiabao issued a blunt warning last month that China was tiring of US bonds. "We have lent a huge amount of money to the US, so of course we are concerned about the safety of our assets," he said.

This is slightly disingenuous. China has the world's largest reserves - $1.95 trillion, mostly in dollars - because it has been holding down the yuan to boost exports. This mercantilist strategy has reached its limits.

The beauty of recycling China's surplus into metals instead of US bonds is that it kills so many birds with one stone: it stops the yuan rising, without provoking complaints of currency manipulation by Washington; metals are easily stored in warehouses, unlike oil; the holdings are likely to rise in value over time since the earth's crust is gradually depleting its accessible ores. Above all, such a policy safeguards China's industrial revolution, while the West may one day face a supply crisis. ...

China's State Reserves Bureau (SRB) has instead been buying copper and other industrial metals over recent months on a scale that appears to go beyond the usual rebuilding of stocks for commercial reasons.

Nobu Su, head of Taiwan's TMT group, which ships commodities to China, said Beijing is trying to extricate itself from dollar dependency as fast as it can.

"China has woken up. The West is a black hole with all this money being printed. The Chinese are buying raw materials because it is a much better way to use their $1.9 trillion of reserves. They get ten times the impact, and can cover their infrastructure for 50 years."

Can the USA raise $3.25 Trillion this year?

This from MoneyAndMarkets:

To be sure, the dollar's strength has surprised a lot of people, including me. And it's tough to bet against the greenback when other currencies are looking even worse. Now, however, the dollar may be coming up against some simple but brutal math — foreign central banks may not be able to finance much of the 2009 U.S. fiscal deficit.

The U.S. needs to borrow $3.25 trillion this fiscal year, according to Goldman Sachs. President Obama is asking Congress to approve a whopping $3.55 trillion budget for 2010, and that may not be enough — the nonpartisan Congressional Budget Office estimated the deficit at $1.38 trillion, higher than the White House's $1.17 trillion projection.

So, if foreign central banks stop or even slow down their purchases of U.S. Treasuries, the mighty greenback could be in for a humbling plunge.

Ireland collapses

This from
http://www.telegraph.co.uk/finance/financetopics/financialcrisis/5121728/Ireland-imposes-emergency-cuts.html

Dublin has unveiled the harshest austerity measures in the history of the Irish Republic, raising taxes and slashing expenditure in an emergency budget despite mounting evidence that the country is already tipping into debt deflation.

Brian Lenihan, the finance minister, outlined a grim package of 1930s-style retrenchment, slashing child benefit and allowances for jobseekers. Road and railways projects will be frozen. There will be a cull of junior ministers save costs. Two-thirds of the belt-tightening will come from tax rises. A pension levy of 1pc – imposed in the face of bitter protests in January – will be doubled to 2pc.

"These measures will reduce all our living standards. I'm acutely aware of that," Mr Lehinan told the Dail. He said draconian measures were needed to stop the budget deficit spiralling to 13pc of GDP.

Ireland is facing a triple whammy of fiscal, monetary and exchange-rate policies that are all too restrictive for the underlying needs of the Irish economy. There appears to be little that Dublin can do to change course under the constraints of Europe's monetary union.

In his funereal speech, Mr Lenihan said the economy would contract by 7.7pc this year, the sharpest fall among the OECD club of rich nations. Consumer prices will tumble 4pc as the downturn tightens the deflation vice.

Switzerland into deflation, Japan over a cliff

This from the Telegraph
http://www.telegraph.co.uk/finance/comment/ambroseevans_pritchard/5110578/Swiss-slide-into-deflation-signals-the-next-chapter-of-this-global-crisis.html

Swiss consumer prices fell 0.4pc in March (year-on-year). Swiss CPI will be minus 1pc at least by July, nearing the level where spending psychology changes. By the time you have a self-feeding spiral, it is too late.

"This is something that we must prevent at all costs. The current situation is extraordinarily serious," said Philipp Hildebrand, a governor of the Swiss National Bank.

he SNB is not easily spooked. It is the world's benchmark bank, the keeper of the monetary flame. Yet even the SNB's hard men have thrown away the rule book, taking emergency action to force down the exchange rate of the Swiss franc.

Here lies the danger. If other countries try to export deflation by this means, we will face a second phase of the global crisis. Taiwan is already devaluing. Korea, Singapore, and Sweden all seem tempted to follow. Japan is chomping at the bit.

"We don't fully realise in the West what a catastrophic collapse Japan has suffered," says Albert Edwards, global strategist at Société Générale. "The West has dumped a large part of its economic downturn onto Japan by devaluing against the yen."

This is about to go into reverse as Tokyo hits the ping-pong ball back across the net. "As the unfolding collapse in the yen gathers pace, the West will see its green shoots incinerated to dust," he said.

Japan's industrial output fell 38pc in February (year-on-year), mostly concentrated into the last four months. No major economy imploded at this speed in the 1930s. The country has been hit by a double shock. As an export power it has taken the brunt of Anglo-Saxon belt-tightening: as the world's top creditor it is cursed by a "safe-haven" currency that soars in moments of danger – largely because the Japanese bring home their wealth till the storm passes. Normally, Japan can cope. This time, the yen's rise has pushed the economy over a cliff.

The yen must come back down to earth, and soon, or Japanese society will start to disintegrate. If necessary, the Bank of Japan will force it down by intervention, as occurred in 2003-2004.

Globally industrial production falls 15%!

This extract from MoneyAndMarkets:
In the last five months, global industrial production has tumbled 15 percent, an unprecedented drop in such a short period.

The gloom is spreading pretty darn fast, too. Just last week, the World Bank warned that it expects the world's economy to shrink 1.7 percent in 2009 ... the first global economic decline since World War II.

The World Bank also warned that the world's richest countries — the same countries at the London G-20 meeting — will see their economies shrink by even more (3 percent)!

That's quite a contrast compared to the 2.1 percent growth that the World Bank expects for what it calls the developing countries.

Think about that: The richer the country ... the worse things are going to get, while what we would consider poor countries are humming right along.

And according to the World Bank:

"What began six months ago as a massive de-leveraging in financial markets has turned into one of the sharpest global economic downturns in recent history."

Hans Timmer, manager of the bank's global prospects group added,

"Even with a return to positive growth, the problems that are being created at the moment because of the sharp fall [in growth] will remain with us in 2010 and 2011."

The Organization for Economic Co-operation and Development (OECD), which represents the world's richest nations, has an even gloomier forecast and predicted that global trade would shrink by more than 13 percent in 2009.

After the G20

So the G20 meeting has come and gone but at least we didn't see endless repetitions of "whatever it takes" as the answer! With promises to shore up the IMF, focus is now turning to what each country is doing about protectionism, which looks like a case of "do as I say not as I do".
The most interesting news came out of an apparently offhand proposal by the Chinese to replace the US dollar as the worlds' reserve currency.
Of course there is nothing to replace it any time soon, but what is the problem about having the US dollar as the reserve currency? The problem is that it is a great thing for a country to be a reserve currency. In the case of the US, they discovered in the past decade that you can print as many dollars as you like and people will still take them, so we end up with the lax fiscal discipline that has got us into this mess.
Meanwhile, we continue to combine printing money to shore up institutions, with calls for wage restraint. Need I draw attention again to the direct link between wage reductions and deflation?
At the Company or entity level, wage restraint makes sense, but at the national aggregate level, wages in turn become the driver of spending or demand. Cut wages 5% (and include the effects of unemployment in that calculation) and spending reduces say 5%, which becomes a self fulfilling prophecy.
In my view, the current policies are actually contributing to a deepening of deflation and the recession, not solving it.

Falling US house prices

As though to emphasize my earlier blog, the latest Case-Shiller home price index has come out, showing continuing price falls. This extract from
http://www.nytimes.com/2009/04/01/business/economy/01econ.html?em
"It may be spring on the calendar but housing prices are locked into perpetual winter.

The Standard & Poor’s Case-Shiller Home Price Index, a widely watched measure of 20 metropolitan areas, fell 19 percent in January from a year earlier. That was a record drop, slightly edging out the previous month.

Prices in the worst-hit metropolitan areas have now fallen nearly by half. None of the cities showed month-to-month improvements. Thirteen showed record annual rates of decline.

“There’s no daylight that I can see in this report,” said David Blitzer, chairman of S.& P.’s index committee.

He cited the numbers for Phoenix as “gruesome.” Prices there fell 5.5 percent in one month, and are now down 48.5 percent from their June 2006 peak."

Indian summer

Many writers are picking up the theme that Australia is living in an "Indian summer", i.e. living as though the recession is not all that bad, while the rest of the world is seriously worried about the outlook.
China, that country that was supposed to keep us afloat, has seen a reversal in growth this month, as reported at
http://www.nytimes.com/2009/04/01/business/global/01iht-asiaecon.html?_r=1&ref=global-home
"As world leaders assemble in London for the Group of 20 summit this week, the latest evidence of the severity of the economic crisis emerged from Asia on Wednesday, with business confidence in Japan plummeting to a record low, South Korean exports falling for a fifth consecutive month and manufacturing conditions deteriorating in China.

The data from three of Asia’s largest economies underscored a picture of slumping exports and production and hammered home the point that despite some recent tentative signs that the situation may at least have stopped worsening in some parts of the world, the global economy remains in the middle of the worst downturn in decades.

South Korea also has had to grapple with falling exports, with data on Wednesday showing overseas shipments in March fell 21.2 percent from a year earlier. Imports slumped 36 percent.

And in China, a purchasing managers index compiled by the brokerage CLSA slipped back in March, snapping a three-month streak of tentative improvement. The index came in at 44.8, down from 45.1 in February. It was the eighth month in a row that it came in below 50, which marks the dividing line between expansion and contraction."

Sub prime US mortgages

The sub prime housing loans in the US, that triggered the current recession, faced problems because the interest rate "reset" from a low honeymoon rate, to a high rate.
These loan resets mostly peaked in 2008 and 2009 is seeing a low number of resets.
This is contributing to housing prices falling less slowly in the US, and perhaps to the current feeling of a potential bottoming of the recession.
However, before we get the party hats out, we are months away from going into a second wave, as the later Alt-A's and Arms are going to produce an equivalent wave of resets in the second half of 2009 through 2011.
By some estimates, this second wave adds up to US$1.5 Trillion of mortgages, and the expected level of defaults will be a downward pressure on the economy until then.