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Now that virtually every nation is entering the bust phase, all are being tested.

Booms powered by credit, new markets and speculation are followed by busts as night follows day. This creates a very difficult test for every nation-state facing the inevitable bust: how does the leadership deal with the end of the boom?

As the world is about to learn once again, the “fix” may make the next bust even more destructive.

the “fix” may make the next bust even more destructive.

let’s start by reviewing what conditions generate booms.

1. An undeveloped nation gains access to new credit, markets and resources and go through a “boost phase” much like a rocket lifting off when suddenly abundant finance capital ignites the country’s latent growth potential. When a country with little to no public or private debt suddenly gains access to essentially unlimited capital, growth explodes.

One variant of this is the discovery of vast new resources that quickly attract capital (for example, oil) or that generate new wealth (for example, gold).

The modern example of a developing nation gaining access to new credit, markets and resources is of course China, but this model also describes America in the 1790s and early 1800s, and many other nations in various phases of their development.

2. A new sector opens up in a developed nation’s economy. A recent example is the Internet, which exploded in a boost phase from 1995 to 2000. In these cases, the new sector simply didn’t exist, and the boost phase is as spectacular as the ones in newly developing economies.

Example from American history include the railroad-fueled boom of the 1870s and 1880s and the advent of electric light and later, radio.

…click on the above link to read the rest of the article…

The Death Of Hopium

October 14, 2015

The Death Of Hopium

Tech Bubble 3.0 is in the process of bursting

As many readers know, I spent 13 years living and working in Silicon Valley before partnering up with Chris to start Peak Prosperity.

I got my MBA at Stanford in 1999 when the dot-com bubble was at its zenith, and worked for both a VC-funded start-up as well as one of the biggest Internet juggernauts (Yahoo!). I lived in Palo Alto, the central core of the tech scene.

As a result, I have a pretty good read on how Silicon Valley works. Many of the folks I worked and went to school with are now in leadership positions at the big operating companies, VC firms and hedge funds in that ecosystem — so I have personal knowledge of who’s making the decisions.

And it’s no secret that I think things have degenerated into a steaming pile of hucksterism.

The “engine of our economy”, the “cradle of innovation”, the “land of tomorrow” — whatever breathless hyperbole the fawning media is using this week — is a sham. Silicon Valley has become a factory of hype, funneling gobs of early-stage capital into whatever half-credible concepts it can think of, and then pimping the artificially-inflated initial results of those tarted-up ventures to whichever “greater fool” is willing to acquire it or buy its IPO. Let that idiot figure out if it will ever turn a profit…

Like the too-cozy relationship between DC and Wall Street, I see a similar one between Wall Street and the Tech sector. They collude to pump out as many opportunities as they can — private placements, acquisitions, IPOs, secondary offerings — to cash out the insiders and foist the long-term financial risk onto the “dumb money” (pension funds, foreign capital, retail investors, corporations desperate to enter the “digital age”).

…click on the above link to read the rest of the article…

Global Financial Meltdown Coming? Clear Signs That The Great Derivatives Crisis Has Now Begun

October 8, 2015

Global Financial Meltdown Coming? Clear Signs That The Great Derivatives Crisis Has Now Begun

Warren Buffett once referred to derivatives as “financial weapons of mass destruction“, and it was inevitable that they would begin to wreak havoc on our financial system at some point. While things may seem somewhat calm on Wall Street at the moment, the truth is that a great deal of trouble is bubbling just under the surface. As you will see below, something happened in mid-September that required an unprecedented 405 billion dollar surge of Treasury collateral into the repo market. I know – that sounds very complicated, so I will try to break it down more simply for you. It appears that some very large institutions have started to get into a significant amount of trouble because of all the reckless betting that they have been doing. This is something that I have warned would happen over and over again. In fact, I have written about it so much that my regular readers are probably sick of hearing about it. But this is what is going to cause the meltdown of our financial system.

Many out there get upset when I compare derivatives trading to gambling, and perhaps it would be more accurate to describe most derivatives as a form of insurance. The big financial institutions assure us that they have passed off most of the risk on these contracts to others and so there is no reason to worry according to them.

Well, personally I don’t buy their explanations, and a lot of others don’t either. On a very basic, primitive level, derivatives trading is gambling. This is a point that Jeff Nielson made very eloquently in a piece that he recently published…

…click on the above link to read the rest of the article…

The Peak in Government? A Low in Interest Rates?

September 30, 2015

The Peak in Government? A Low in Interest Rates?

We have warned that capital is in a flight to quality, therefore creating the bubble in government paper. We also warned that the bond market on the long-term peaked in April/May and that we should expect a further rally in the short-end. This significant move has unfolded right before our eyes. The fact that the bonds have peaked in advance, yet we have the short-end rising into this period, reflects the stark reality that capital does not trust government long-term.

The Fed has been warning that they must raise rates to reestablish “normalcy” to the yield curve. No one in their right mind should be buying long-term paper at these rates. The capital has been heading into an even shorter investment cycle, and this presents a highly dangerous potential on the horizon.

FEDFOR-M 9-28-2015

What is the concern? With capital consolidating into short maturities, this means that any change in rates will have a far more immediate impact upon the sovereign debts of all nations. The typical dollar bears say, “Oh, well China sold a huge amount of bonds!” and they twist this into somehow being bearish for the dollar. China is following the trend: sell long-term and move short-term.

We can see that volatility beginning to rise from October moving forward. We are looking at a panic cycle that appears in the U.S. Fed funds by February, followed by another next August.

This is confirming the change in trend that we see with 2015.75. It is not a monumental crash in stocks, nor is it the end of the world with the blood moon. This is the peak in government. As time begins to move forward, you will look back at this turning point as rather significant. It may be more than an announcement that there is water on Mars. We have had so many things happen this week, right down to a meeting between Obama and Putin at the United Nations.

So grab a drink. You might need one as we start to move forward away from the change in trend — 2015.75.

Why Capital Is Fleeing China: The Crushing Costs of Systemic Corruption

September 4, 2015

Why Capital Is Fleeing China: The Crushing Costs of Systemic Corruption

What China will be left with a poisoned land stripped of talent and capital.

Corruption isn’t just bribes and influence-peddling: it’s protecting the privileges of the few at the expense of the many. Rampant pollution is corruption writ large: the profits of the polluters are being protected at the expense of the millions being poisoned.

This is why capital and talent are fleeing China: systemic corruption has poisoned the nation and raised the cost of doing business. External costs such as environmental damage must be paid eventually, one way or the other.

Either the cost is paid in rising chronic illnesses, shorter lifespans and declining productivity, or profits and tax revenues must be siphoned off to clean up the damage and the sources of environmental degradation.

In large-scale industrial economies such as China and the U.S., that cost is measured not in billions of dollars but in hundreds of billions of dollars over a long period of time.

I have often noted that one key reason why the U.S. economy stagnated in the 1970s was the enormous external costs of runaway industrialization were finally paid in reduced profits and higher taxes.

China’s manufacturing base simply isn’t profitable enough to pay for the remedial clean-up and pollution controls needed to make China livable. That means labor and all the other sectors will have to pay the costs via higher taxes.

Pollution and environmental damage is driving away human capital, i.e. talent.This loss of talent is difficult to quantify, but it’s not just foreigners who have worked in China for years who are pulling up stakes to escape pollution and repression–talented young Chinese are finding jobs elsewhere for the same reasons.

The game-changer is automation, i.e. robots and software eating the world. To understand the impact on China, let’s start with unit labor costs, i.e. the cost of labor needed to produce each unit of output.

…click on the above link to read the rest of the article…

Here’s Why The Markets Have Suddenly Become So Turbulent

August 29, 2015

Here’s Why The Markets Have Suddenly Become So Turbulent

A perfect storm of failing trends

When stock markets are free-falling 10+% in a matter of days, it’s natural to seek some answers to the question “why now?”

Some are saying it was all the result of high-frequency trading (HFT), while others point to China’s modest devaluation of its currency the renminbi (a.k.a. yuan) as the trigger.

Trying to finger the proximate cause of the mini-crash is an interesting parlor game, but does it really help us identify the trends that will shape markets going forward?

We might do better to look for trends that will eventually drag markets up or down, regardless of HFT, currency revaluations, etc.

Five Interconnected Trends

At the risk of stating the obvious, let’s list the major trends that are already visible.

The China Story is Over

And I don’t mean the high growth forever fantasy tale, I mean the entire China narrative is over:

That export-dependent China can seamlessly transition to a self-supporting consumer economy.
That China can become a value story now that the growth story is done.
That central planning will ably guide the Chinese economy through every rough patch.
That corruption is being excised from the system.
That the asset bubbles inflated by a quadrupling of debt from $7 trillion in 2007 to $28 trillion can all be deflated without harming the wealth effect or future debt expansion.
That development-dependent local governments will effortlessly find new funding sources when land development slows.
That workers displaced by declining exports and automation will quickly find high-paying employment elsewhere in the economy.

I could go on, but you get the point: the entire Story is over. (I explained why in a previous essay, Is China’s “Black Box” Economy About to Come Apart? )

…click on the above link to read the rest of the article…

The Economy is in Liquidation Mode

August 12, 2015

The Economy is in Liquidation Mode

Capital Consumption

If you’re an American over a certain age, you remember roller skating rinks (I have no idea if it caught on in other countries). This industry boomed in the 1970’s disco era. However, by the mid 1980’s, the fad was fading. Imagine running a rink company at the end of the craze. You know it is not going to survive for long. How do you operate your business?

The birthplace of roller disco turned out to be edible, sort of
Photo via realskatestories.com

You milk it. You spend nothing on capital improvements, slash maintenance, and reduce operating expenses. There’s no return on investment, so you cut to the bone and wring out as much cash as possible. When a business has no future, you operate in liquidation mode.

Your rink generates cash flow, but this is no profit. It’s simply the conversion of accumulated capital into present income. You are consuming capital, almost literally eating the business.

roto A fad that went away… roller skating rink in the 70s
Photo credit: Picnicface

I have used a family farm as an example to paint a clear picture of capital consumption. Imagine using your farm, not to grow food, but to swap for it. You tear down the barn to sell the oak beams for flooring, auction off the back 40 (acres), put the tractor on Craigslist, then finally sell the farm and house. All to buy the produce you can no longer harvest.

Let this sink in. The farm’s falling crop yield can’t feed you any longer, but you still need to eat. You’re liquidating the farm merely to buy groceries.

The conventional view encourages you to be grateful that the purchasing power of the farm is high, that it trades for a big stash of food. While it may be true that you can eat for years on the proceeds, it’s small consolation for the loss of what had been an evergreen income.

…click on the above link to read the rest of the article…

Cincinnati’s experiment with an economy that works for everyone

August 10, 2015

With the 2016 presidential campaigns underway, economic populism has taken center stage. Bernie Sanders, calling for a $1 trillion investment in a sustainable infrastructure jobs program along with publically funded health care and college education, has forced Hillary Clinton to offer vague support for similar measures, while even some Republican candidates, like Marco Rubio, have asserted the need to stop the “fall of the [American] worker.” Not content to wait for national politicians to follow through on non-binding proposals, 1worker1vote — a joint venture launched in 2009 by the United Steelworkers, or USW, and Mondragon USA — has been pursing a grassroots agenda to move populist discontent beyond protest and toward the building of new institutions.

The 1worker1vote network has developed and is beginning to implement a “union co-op” model, which calls for a business structure that combines worker, and sometimes community, ownership with union representation. With the model, 1worker1vote hopes to demonstrate the viability of a democratic economy, both in terms of ownership and management, capable of eventually replacing the corporate-managed economy that generates astounding wealth for those at the top while leaving nearly a quarter of the country living in poverty and half the population stuck in a debt trap with zero net assets.

“Profit should be for people, not for profit’s sake, and capital, while important, is subordinate to labor,” explained Ellen Vera, a founding member of both 1worker1vote and one of its member coops, the Cincinnati Union Cooperative Initiative, or CUCI.

The claim conjures images of the clashes between labor and capital of a bygone era, and, more recently, growing grassroots protest for a democratic global economy that began in 1994 with the Zapatistas in Chiapas, Mexico and have continued during the first years of the new millennium with the global justice and Occupy movements.

Once Burned, Twice Shy? Utica Shale Touted to Investors As Shale Drillers Continue Posting Losses

August 3, 2015

Once Burned, Twice Shy? Utica Shale Touted to Investors As Shale Drillers Continue Posting Losses

For the past several weeks, the drilling industry — hammered by bad financial results — has begun promoting its next big thing: the Utica shale, generating the sort of headlines you might have seen five years ago, when the shale drilling rush was gaining speed. “Utica Shale Holds 20 Times More Gas Than Previous Estimates”, read one headline. “Utica Bigger Than Marcellus”, proclaimed another.

The reason for the excitement was a study, published by West Virginia University, that concluded the Utica contains more shale gas than many estimates for the Marcellus shale, a staggering 782 trillion cubic feet.

“This is a landmark study that demonstrates the vast potential of the Utica as a resource to complement – and go beyond – what the Marcellus has already proven to be,” Brian Anderson, director of West Virginia University’s Energy Institute, told the Associated Press.

But those considering investments based on the Utica’s potential may want to pause and consider the shale industry’s long history of circulating impressive predictions, later quietly downgraded, while spending far more than they earn.

“The industry has not been generating enough money to cover its capital spending and dividends,” Fidelity Investments energy fund manager John Dowd told Barrons.

Indeed, while it is clear that the shale drilling rush has produced large amounts of oil and gas, (alongside wastewater and other environmental impacts), the financial prosperity promised by its backers has not seemed to materialize.

Burning Through Cash

Companies like Chesapeake Energy, the nation’s second largest producer of natural gas and one of the most aggressive advocates of the shale rush nationwide, have been hammered hard by low oil prices and high costs in 2015.

…click on the above link to read the rest of the article…

New currencies and their relationship with fiat currency

August 2, 2015

New currencies and their relationship with fiat currency

Complementary Currencies aim to work alongside the pound or the dollar. Classically they seek to broker exchanges of underused resources with unfulfilled need, and facilitate activity in niches neglected by the mainstream economy. They do much good work and are worthy of support.

Intentional Currency designs on the other hand will generally be grounded in a critical assessment of the way fiat currencies operate, and recognise and seek to remedy or mitigate their dysfunction. In this way they are competitive with fiat. Consequently if fiat currency plays a role in the start-up or continued operation of a new currency, it is appropriate to manage these interactions carefully and to understand the impact that fiat-dependence can have on the currency’s development.

This article outlines management issues associated with some of the potential interactions with fiat. It has been produced as a Working Paper as part of the Feasta Currency Group’s development of a Charter for Intentional Currencies.

Creating and maintaining a currency without any interaction with fiat is clearly a challenge. It’s like asking fish to reinvent water while they are swimming around in it. But if we consider the main forms of interaction with fiat, some clues as to the management of the difficulties may emerge.

Three important fiat-interactions are:

i) access to fiat capital for a start-up phase or for a step-change in the development of the currency
ii) the issuance of currency units in exchange for fiat (fiat-backing)
iii) general exchangeability with fiat

Capital Investment

Most projects need start-up capital, but fiat-friendly projects have the option of repaying investors or contributors in fiat once they are successful. A fiat-cautious project might think twice about this. To some extent this challenge has been successfully navigated by a number of ‘Open’ projects, at least to the extent that contributors defer any claim on project success until revenue streams flow or until ‘satellite’ fiat-earning activities are identified.

…click on the above link to read the rest of the article…

In A World Of Artificial Liquidity – Cash Is King

July 4, 2015

In A World Of Artificial Liquidity – Cash Is King

And you’d better have some stashed out of the system

Global central banks are afraid. Before Greece tried to stand up to the Troika, they were merely worried. Now it’s clear that no matter what they tell themselves and the world about the necessity or even righteousness of their monetary policies, liquidity can still disappear in an instant. Or at least, that’s what they should be thinking.

The Federal Reserve and US government led policy of injecting liquidity into the US and then into the worldwide financial system has resulted in the issuance of trillions of dollars of debt, recycling it through the largest private banks, and driving rates to 0% — or below. The combined book of debt that the Fed and European Central Bank (ECB) hold is $7 trillion. None of that has gone remotely into fixing the real global economy. Nor have the banks that have ben aided by this cheap money increased lending to the real economy. Instead, they have hoarded their bounty of cash. It’s not so much whether this game can continue for the near future on an international scale. It can. It is. The bigger problem is that central banks have no plan B in the event of a massive liquidity event.

Some central bank entity leaders have admitted this. IMF chief, Christine Lagarde for instance, warned Federal Reserve Chair, Janet Yellen that potential US rate hikes implemented too soon, would incite greater systemic calamity. She’s not wrong. That’s what we’ve come to: a financial system reliant on external stimulus to survive.

These “emergency” measures were supposed to have healed the problems that caused the financial crisis of 2008 — the excessive leverage, the toxic assets wrapped in complex derivatives, the resultant credit and liquidity crunch that occurred when banks lost faith in each other. Meanwhile, the infusion of cheap money and liquidity into banks gave a select few of them more power over a greater pool of capital than ever.

…click on the above link to read the rest of the article…

Is the slowdown in productivity growth a result of energy costs?

May 25, 2015

Is the slowdown in productivity growth a result of energy costs?

Slowing productivity growth in the United States has been in the news in recent months. It has become a concern to policymakers because they believe it is one of the primary contributors to a middle-class economic squeeze according to the annual report of the White House Council of Economic Advisors.

Simply put, productivity growth refers to the growth in economic output per worker or more precisely, per hour of work. When this growth slows, the potential for real wage increases diminishes since the growth in wages typically reflects the ability of workers to create more output per unit of time.

To the obstensibly naive observer the following idea may seem a plausible explanation: Higher-cost energy inputs into the production of goods and services reduce productivity growth because the economic output per dollar of energy consumed declines. And, though energy inputs aren’t the only thing to consider, they are important. The high energy prices of the last decade or so may be, in part, responsible for low productivity growth. (Conversely, low energy costs would imply more output per dollar of energy consumed.)

But strangely, almost all economic models for productivity consider only so-called “tangible” factors, that is, labor and capital. In the bizarro world of modern economics, energy and materials are not considered “tangible.”

Now, the way in which that productivity growth which is attributable to “technological advances” is typically calculated is to add up contributions to productivity growth from labor and capital (machines, buildings, vehicles, tools of any kind) and then subtract this sum from the known amount of total productivity growth. What is left is the so-called “residual” which is presumed to result from “technological advances” caused by increases in human knowledge. These advances and the increases in capital per worker are assumed to be the drivers of productivity growth.

…click on the above link to read the rest of the article…

US Economic Output – “Ugly, but Fleeting”?

May 2, 2015

US Economic Output – “Ugly, but Fleeting”?

On the Uselessness of Aggregate Economic Statistics

We actually hate talking about GDP. It mainly measures consumption and leaves out the bulk of the economy’s production structure – which has led to the completely erroneous, but often repeated notion that “the consumer represents 70% of economic activity”. In reality, consumption represents somewhere between 35% and 40% of all economic activity. The manufacturing sector is actually not the “smallest sector of the economy”. It is stillthe by far largest sector in terms of total output.

Moreover, “GDP growth” is really not informative with respect to whether or not the activity measured is profitable and therefore indicating that wealth is created. Given that government consumption is a major component of GDP, there is obviously a lot of wasteful spending that is counted as “growth”.

Furthermore, in a bubble era, when credit expansion ex nihilo is running wild, a lot of investment in fixed assets will eventually be discovered to have been malinvestment. Such spending is also added to “growth” while it occurs, but in reality, it is just a waste of scarce capital. Simply put, there isn’t much worth measuring, because the truly important things cannot really be measured anyway. Even so, it makes a lot more sense to occasionally look at the gross output tables per industry rather than GDP.

Now let us think for a moment about Wednesday’s quarterly GDP report. What does it even mean that the economy has allegedly grown by “0.2%”? This strikes us as a completely absurd number. Given that it actually represents quarterly growth annualized, it means that “real growth” last quarter was 0.05%. Really? Someone has measured the economic output of the entire country and found out it grew by 5 basis points? This sounds like a tiny fraction of the margin for error rather than a meaningful number.

…click on the above link to read the rest of the article…

The School of Globalism

April 7, 2015

The School of Globalism

“…we may be headed into a world where capital is abundant, deflationary pressures are substantial and demand could be in short supply for quite some time.”

—Lawrence Summers, former Secretary of the Treasury

Professor Summers must be reading Ben Bernanke’s new blog. Or maybe he’s writing it for walking-around money. At $250,000 a pop for making a speech, Mr. Bernanke can certainly afford to pay high-toned hacks to polish his spin-o-nomics. Raillery aside, Mr. Summers’ utterance provokes some pretty fundamental questions: what exactly is this world we’re heading into, and what exactly does that capital consist of?

It is, first, a world of unraveling globalism. So many people who should know better — members of the supposed thinking class who have suspended their thinking — swallowed Tom Friedman’s dictum that globalism was here to stay, a permanent new feature of the human condition. File that idea in the dead letter office, along with Francis Fukuyama’s The End of History. With the help of competitive central bank racketeering, desperate nations have propelled themselves from financial disorder to geopolitical turmoil and history marches on — lately to the ululations of gleeful beheaders. Friedman’s flat world was predicated on a dominant and sound American polity, and we’ll have neither in that world Mr. Summers says we’re moving into.

…click on the above link to read the rest of the article…

It’s Just a Question of Whose Capital Will Be Destroyed

March 30, 2015

It’s Just a Question of Whose Capital Will Be Destroyed

The amount of money investors have plowed into startups has reached record highs. In 2014, investors of all kinds, from angels and VCs to big asset managers, invested $48.35 billion in startups, “only” the third highest year on record, but the highest since the crazy bubble years 1999 and 2000 when investors blew $55 billion and $105 billion respectively, even as the dot-com bubble was already imploding. Investors at the time were just a little slow in giving up hope.

But the “valuations” are getting crazy. The price at which new investors buy into a startup during a round of funding determines the “valuation.” As investors have become more eager with other people’s money, and as hedge funds and big asset managers have jumped into the fray in late-stage rounds, they have sent valuations on vertigo-inducing trajectories.

Slack, one of the innumerable startups that over the years have claimed to have found the successor to corporate email, just inked a new deal with investors for $160 million in funding that jacks up its valuation to $2.76 billion. The round is expected to close over the next few weeks. “People familiar with the matter” purposefully leaked this to the Wall Street Journal as part of the mega-hype that the startup scene needs in order to attract ever more money.

Slack launched its app only about a year ago. At the time, it wasn’t even in the Billion Dollar Startup Club, that ever growing group of startups with valuations over $1 billion. But in October, it raised some money at a valuation of $1.12 billion. And five months later, its valuation jumped 146%.

…click on the above link to read the rest of the article…

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