Saturday, July 25, 2009

1 Child Policy Folly Down the Drain, Not a day too soon

It has been an article of faith of the Chinese Communist Party since 1949 that Chinese families should not have more than 1 child. The folly was based on the ignorant quasi-Malthusian theory that unchecked population growth would hamper growth.

I used to argue with my "handler" back in those days when foreigners needed to be chaperoned.

I said: "Hey, imagine every Chinese on the mainland was as productive as, say, a Chinese in Hong Kong or Taiwan [whose respective per capital was then and still is now multiples of China's], wouldn't you agree that you wanted MORE Chinese not less? And the way to up there was not to limit the size of the population but to increase its productivity by a) investing massively in education; and b) not suffocating China's talented citizens with mindless political mantras and thought control?"

I was, for sure, marked down as another ignorant "overseas" Chinese or, worse, a foreign agent attempting to spiritually pollute the minds of right thinking Chinese communists.

Well, guess what. The powers-that-be are realizing two things: quantity plus quality translates into 1 + 1 = 3; and second, the growing imbalance between young and old means that the aging population is putting on an increasing economic burden on the young to support it. China needs more young people. They have to be made not in a factory but by husbands and wives in families.

Hence, the following development. Read here.

Better late than never. Oh, a small footnote. The Communist royalty was never bound by the 1 child policy.

Sunday, July 19, 2009

Robert McNamara - My last word

He died almost 2 weeks ago. Reams of obits have been published and now forgotten. A few bullet points stood out:

- A brilliant man. A "whiz" kid.
- Youngest Ford Motor Company President ever. Gave up $$ for public service summoned by JFK, head of the Camelot roundtable.
- Total confidence in quantitative method.
- Wanted to win in Vietnam.
- Lost faith in that policy but kept quiet and then years and years later said "I was wrong" and then tried to redeem himself at World Bank "fighting" world poverty.

Nearly all commentators left it at that personal level, implicitly giving him an absolution without exploring further the moral implications of what he had done. Afterall, he did say "sorry", didn't he, at least kind of? He actually never did say that.

Bob Herbert of the New York Times was closest to opening the pandora box in his sobering column. It should be read in full.

Here is one priceless excerpt:

"McNamara, it turns out, had realized early on that Vietnam was a lost cause, but he kept that crucial information close to his chest, like a gambler trying to bluff his way through a bad hand, as America continued to send tens of thousands to their doom. How in God’s name did he ever look at himself in a mirror"?

The word "God" was invoked.

The unexplored questions that jumped out of this paragraph are intuitively obvious: Was that war "just" in the eyes of God explored by Aristotle all the way down to St. Augustine and St. Thomas Aquinas?

If it was not a just war, as nearly everyone now believes it was not -- the war was based on the groundless thesis that if "We don't fight the war in Vietnam we will one day fight a billion Red Chinese in Los Angeles armed with nuclear weapons" in the immortal words of the then Secretary of State Dean Rusk -- then was it only McNamara who may not have been able to look at himself in a mirror?

If it was not a just war, would the precedent set by the US government in hanging WWII Japanese general Tomoyuki Yamashita for crimes committed by his troops in the Philippines apply to US leaders who prosecuted the war from JFK all the way to Richard Nixon?

Robert McNamara may have found peace with his God though many do not believe he ever did for reasons still unclear, how does one look in the eyes of those surviving family members who who lost over 4 million of their sons and daughters (adding up American and Vietnamese military and civilian lives) for mistakes made by a handful of American leaders? I am leaving out the "collateral" damage in Cambodia and Laos.

That's the question obit writers have missed or dismissed by design.

But that's really the only important relevant issue of moral responsibility. Do we need to wait for more years, decades, centuries for the future Aristotle's and Thomas Aquinas's to give it a proper airing before we can close the chapter on that war?

Oh, please don't even get me started on the Iraq war which, too, was based on premises that the war makers knew early on were untrue. Ah, yes, I can hear the same refrain: "If we don't fight them in Iraq, we will have to fight them in New York armed with nuclear weapons".

By the way, I absolutely love the folksy but crystal clear language Dean Rusk used to explain what the Domino Theory was. It put to shame those think tank types who wrote erudite books and learned articles justifying that Theory in obscure jargons.

Saturday, July 18, 2009

Dollar Dominance & RMB

Any cursory reading of the news these days indicate that the Chinese authorities are not letting up on their to-your-face attacks of the dominance of the US$ as the global reserve currency.

The unspoken subtext is the time has come for China's own currency, RMB, to assume a role of a global reserve currency.

All professionals understand that it is premature for the RMB to take on such a role. Several well-known pre-conditions need to be met before the RMB could become a serious contender as a reserve currency.

They include high quality of governance of the banking system, transparency of monetary and economic policy making, rule of law not -- only in commercial but also in just about all other areas including criminal laws. The recent sudden arrests of 4 top Rio Tinto executives is one example of how commercial disputes could quickly morphed overnight into a state-to-state crisis. This is more the stuff of George Orwell than that of globalization.

And then the currency must be a totally convertible one before it can go global.

There is little doubt sometime in the future China would be able to meet those requirements.

The issue is not whether, but when. It is also clear "when" is not quite here yet. Not even close.

Yet there is another level on which the Chinese attack is entirely apropos.

The ability of the US to print any amount of money it wants -- as it has been doing since Vietnam where both guns and butter were considered ok -- without creating a classical "third world" currency crisis is because the US$ is the only reserve currency every country uses it as the basic unit of accounting and exchange.

If the US had had to watch out for current account deficits, like any "normal" country, it would not have been able to borrow its way out of financing unbounded consumer appetite for goods and for its leaders to finance overseas ventures mindlessly. The flooding of the US$ in the world economy has been the major source of financial instability the latest of which is still being played out.

China's attack on the US$ has a geopolitical dimension that has not been sufficiently aired in the public domain.

Friday, July 17, 2009

Goldman Sachs - 2

Paul Krugman's latest column is devastating. Read here. However, Washington DC is not listening. Or if it was, the message is predictably falling on deaf ears for reasons by now well argued publicly by a large number of commentators from MIT's Simon Johnson to Columbia's Joseph Stiglitz.

Thursday, July 16, 2009

Goldman Sachs (GS) has become a 2 letter word

GS maybe the most powerful financial institution on Wall Street, or what's left of it, but its leaders cannot be very comfortable in their privileged position. Even the Wall Street Journal, the symbol of capitalism, and a very unlikely protagonist, is pissing on them.

Read its July 16 editorial below.

Clearly the editors of the Journal wanted to be sure the world did not miss the message. Alongside its editorial, it printed a scathing and sarcastic op ed by a veteren Wall Street denizen, a former fedge fund manager, Andy Kessler.

Kessler piece is reprinted here following the WSJ editorial.

You may not agree with all the points in them but to see the "Goldman's" of the world criticized by the Journal is worth the time you spend reading. Enjoy

A Tale of Two Bailouts
Goldman's profits, CIT's trouble, and 'too big to fail.'

Yesterday saw one TARP recipient, Goldman Sachs, report $3.44 billion in profits even as another, CIT, teeters on the edge of either bankruptcy or another taxpayer bailout. Which way CIT will tip remained unclear as we went to press, but its very plight shows how the government's approach to systemic risk has created groups of financial "haves" and "have nots."

What the Goldmans of the world have in addition to profits is the widespread belief that they are too big to fail. Both Goldman and CIT converted into bank holding companies at the height of the financial panic last fall, which made them eligible for TARP injections. Goldman also benefited at a crucial moment from the Federal Reserve takeover of AIG, and it received the additional filip of FDIC-guaranteed debt issuance through the Temporary Liquidity Guarantee Program. CIT was excluded from the latter program on grounds that it didn't pose a systemic risk, even as larger competitors like General Electric were allowed in.

CIT's asset quality has since fallen further, and it now faces $2.7 billion in maturing debt this year that investors fear it will not be able to roll over. So it is seeking another taxpayer rescue, and officials at Treasury and Fed are sympathetic.

But if CIT -- a company one-tenth the size of Lehman Brothers -- can be bailed out long after the panic has passed, the word "systemic" has lost all meaning. CIT has long been a lender to subprime corporate borrowers, and this decade it took on even greater risks at precisely the wrong time. It has lost money for eight straight quarters. Its lending supports less than 1% of the total U.S. retail and manufacturing, and plenty of competitors could pick up its market share.

There's also a question of why the FDIC -- which is supposed to protect bank depositors -- should be the rescue agent. CIT's bank is only a small part of the company and is so far walled off from trouble. CIT executives want permission to stuff some of the company's assets into the bank so they can finance them with brokered deposits. But that would put the FDIC's deposit fund at greater risk just when it is stretched from other bank failures. The FDIC should also be winding down its debt guarantee program, not extending it to new and riskier companies. Taxpayers shouldn't be put at risk for further losses via the FDIC merely because Treasury and the Fed don't want to admit losses on their TARP investment.

Of course, if the feds do let CIT fail, this will only confirm that the only certain survivors in the current market are banks big enough that the government figures it must bail them out. Just ask the many small banks that have been rolled up by the FDIC at a rate of two a week since the beginning of the year, with eight so far in July alone. That can only strengthen the likes of Goldman, which apparently needs no help printing money anyway.

Goldman's traders profited in the second quarter from taking advantage of spreads left wide by the disappearance of some competitors (Lehman, Bear Stearns) and the risk aversion of others (Morgan Stanley). Meantime, Goldman's own credit spreads over Treasurys have narrowed as the market has priced in the likelihood that the government stands behind the risks it is taking in its proprietary trading books.

Goldman will surely deny that its risk-taking is subsidized by the taxpayer -- but then so did Fannie Mae and Freddie Mac, right up to the bitter end. An implicit government guarantee is only free until it's not, and when the bill comes due it tends to be huge. So for the moment, Goldman Sachs -- or should we say Goldie Mac? -- enjoys the best of both worlds: outsize profits for its traders and shareholders and a taxpayer backstop should anything go wrong.

We like profits as much as the next capitalist. But when those profits are supported by government guarantees or insured deposits, taxpayers have a special interest in how the companies conduct their business. Ideally we would shed those implicit guarantees altogether, along with the very notion of too big to fail. But that is all but impossible now and for the foreseeable future. Even if the Obama Administration and Fed were to declare with one voice that banks such as Goldman were on their own, no one would believe it.

If there is a lesson in this week's tale of two banks, it's that it won't be enough to give the Federal Reserve a mandate to "monitor" systemic risk. Last fall's bailouts are reverberating through the financial system in a way that is already distorting the competition for capital and financial market share. Banks that want to be successful will also want to be more like Goldman Sachs, creating an incentive for both larger size and more risk-taking on the taxpayer's dime.

One policy response to the incentives created by last fall's bailout is simply to restrict the proprietary trading done by the subsidiaries of bank holding companies that enjoy both FDIC deposit insurance and an implicit government subsidy on their cost of capital. This is what Paul Volcker proposed, only to be overruled by Tim Geithner and Larry Summers. Another answer would be an FDIC-style bailout tax, perhaps tied to leverage ratios, for those in the too-big-to-fail camp. Developing a template to facilitate the seizure and orderly winding down of failing financial giants is also an essential element of whatever reform Congress cooks up.
* * *

No one welcomes the pain and dislocation if CIT files for bankruptcy. But U.S. policy toward financial companies cannot avoid all hardship, or the result will be a de facto cartelization of finance, with a resulting loss of competition and dynamism that have long been an American strength. The divergent fortunes of CIT and Goldman Sachs show how much we changed when we stepped in to save certain banks in the name of saving the system.

Andy Kessler

* JULY 16, 2009

The Bernanke Market
We won't get real growth until Congress and Treasury get policy right.


I remember once buying the stock of a small company and I couldn't believe my luck. Every time my fund bought more shares the stock would go up. So we bought even more and the stock kept climbing. When we finally built our full position and stopped buying the stock started dropping, ending up at a price below where we started buying it. We were the market.

Just about every policy move to right the U.S. economy after the subprime sinking of the banking system has been a bust. We saved Bear Stearns. We let Lehman Brothers go. We forced Merrill Lynch, Wachovia and Washington Mutual into the hands of others. We took control of Fannie and Freddie and AIG and even own a few car companies, pumping them with high-test transfusions. None of this really helped.

We have a zero interest-rate policy. We guaranteed bank debt. We set up the Troubled Asset Relief Program (TARP) to buy toxic mortgage assets off bank balance sheets. But when banks refused to sell at fire sale prices, we just gave them the money instead. Dumb move. So we set up the Public-Private Investment Program to get private investors to buy these same toxic assets with government leverage, and still there are few sellers. Meanwhile, the $1 trillion federal deficit is crowding out private investment and the porky $787 billion stimulus hasn't translated into growth.

At the end of the day, only one thing has worked -- flooding the market with dollars. By buying U.S. Treasuries and mortgages to increase the monetary base by $1 trillion, Fed Chairman Ben Bernanke didn't put money directly into the stock market but he didn't have to. With nowhere else to go, except maybe commodities, inflows into the stock market have been on a tear. Stock and bond funds saw net inflows of close to $150 billion since January. The dollars he cranked out didn't go into the hard economy, but instead into tradable assets. In other words, Ben Bernanke has been the market.

The good news is that Mr. Bernanke got the major banks, except for Citigroup, recapitalized and with public money. June retail sales rose 0.6%. Housing starts jumped 17% month to month in May and will likely be flat for June. Second quarter GDP may be slightly up. And he was successful in spreading a "green shoots" psychology throughout the media. But the real question is, now what? Government interventions are only meant to light a fire under the real economy and unleash what John Maynard Keynes called our "animal spirits." But government dollars can't sustain growth.

Like it or not, the stock market is bigger than the Federal Reserve and the U.S. Treasury. The stock market anticipates only future profits and prosperity, not government-funded starter fluid. You can only fool it for so long. Unless there are real corporate profits from sustainable economic growth, the stock market is not going to play along. It's the ultimate Enforcer.

In mid-May, Mr. Bernanke's outlook seemed to change. Maybe he didn't approve of the sharp housing rebound -- like we need more houses! Maybe he saw inflation in commodity prices -- oil popping to $72 from $35. Or, more likely, he finally realized that he was the market and took his foot off the money accelerator, as evidenced in the contracting monetary base (see nearby chart). Sure enough, things rolled over -- the market dropped 7.5% from its peak, oil prices dropped almost 17%, and even gold has lost some of its luster. But in July, the Fed started buying again and the market rallied.

Can the U.S. economy stand on its own two feet without Mr. Bernanke's magic dollar dust? Eventually, but apparently not yet. Unemployment stubbornly hit 9.5% in June, according to the Bureau of Labor Statistics. Housing prices are still dropping, albeit at a slower pace, and foreclosures are still rampant.

But I think what really bothers the market is that the structural problems that got us into trouble in the first place still exist. We took the easy way out and, with the help of Treasury Secretary Tim Geithner's loose "stress tests," swept banking problems under the carpet. We waved off mark-to-market accounting and juiced bank stock prices to help them recapitalize, but all those toxic mortgage assets on bank balance sheets are still there as anchors on lending. All the pump priming and stock market flows didn't get rid of them.

Hats off to Mr. Bernanke for getting the worst behind us. He'll be pressured politically to keep pumping out dollars, but he should resist the urge. The stock market will ignore his dollars if it doesn't believe they'll turn into real profits. Green jobs and government health-care clerks do not make a productive, sustainable economy. That can only come from innovative companies with access to growth capital. The stock market won't turn bullish until it sees that type of economy.

Again, when it's clear that you are the market you have to stop buying and begin tackling the hard stuff. By not restructuring banks, by not getting bad loans off bank balance sheets, by not standing up to the massive increases in government debt crowding out private capital, the Fed and Treasury are holding back real economic growth.

Mr. Kessler, a former hedge-fund manager, is the author of "How We Got Here" (Collins, 2005).

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Thursday, July 09, 2009

California's IOU - 2

Well, guess what. No one it seems wants to accept Terminator's IOU's!

The Wall Street Journal reported in yesterday's edition that a group of large banks had announced it would not accept IOUs issued by the state of California. The group includes the four horsemen of the financial crisis: Citigroup, Bank of America/Merrill/Countrywide, JPMorgan Chase/Bear Stearns/WaMu, and Wells Fargo/Wachovia.

California, were it a country, would be the 6th largest. Sad. But what happens now not only in California but in other deficit ridden states?

Stay tuned.

Tuesday, July 07, 2009

McNamara is Dead. Really?

"Every generation imagines itself to be more intelligent than the one that went before it, and wiser than the one that comes after it", wrote George Orwell, the noted author of 1984.

Robert Strange McNamara, the most controversial Secretary of Defense of USA before Donald Rumsfeld bungled his way into Baghdad died two days ago.

His arrogance in dismissing critics of the Vietnam War summed up the hubris of a nation so sure of its military, moral and geopolitical footings that it went to kill needlessly tens of thousands of people in countries it hardly knew.

Robert McNamara admitted so in his own writing in his 1995 memoire (“the war was wrong, terribly wrong.”) and in his celebrated interview in the must see 2003 documentary: The Fog of War produced by Errol Morgan.

One time he went to Harvard to give a speech. Students protesting against the Vietnam War surrounded his motorcade. He got on to the top of his limo and shouted at the students: “I am smarter and tougher than you.”

He later greatly regretted. At his farewell lunch at the Pentagon he wept to the horror of those present. He wept not over his leaving but over his mistakes in believing the war was just.

The lessons of McNamara’s over confidence in using “scientific”, quantitative methods in running wars and formulating foreign polices are well-documented.

Yet, events subsequent to the Vietnam war, now again in full display in Iraq and Afghanistan show each generation makes similar mistakes all the time thinking it is smarter than the one before.

Hubris is not an American monopoly. Every major power in history at one time or another acquired it.

Winning the hearts and minds of those one wish to “conquer” remains just a slogan. Each power thinks firepower alone can do it. Yes, perhaps for a while. But as Vietnam, Cuba, Afghanistan invaded by Russia, Eastern Europe under Soviet Union and many in earlier centuries show clearly, power comes from the barrel of the gun, as Mao so cleverly put it, is an illusion in the long run. Just ask the Chinese leaders who are having to deal with unhappiness in Xinjiang and in Tibet. How long can you keep an unhappy people down with guns?

McNamara in many of his post War writings and interviews kept saying: “We must see the world from the eyes of the other side.”

And of course each generation ignores the lessons of history.

Friday, July 03, 2009

California's IOU and Money Supply

I promised to write if something important happens while I am still on vacation. Something has.

California, deep in a fiscal hole, unable to get its State legislature to pass a budget, is issuing IOU's as a money substitute. Go to this link:

Why is this important?

Remember only the Fed can print money. If all the states in United States of America begin to print IOU's to finance their debt, then there is not just one printing press. There will be 50 of them.

Amigos, that's how Argentina got its world class financial crisis 7 years ago because the provinces began to do exactly what California is doing. The country lost its control of quantity of money issued.

Argentina's much ballyhooed 1 to 1 fixed peso to dollar link cracked under massive inflation and the debasement of its currency.

Paul Krugman, the noted Nobel laureate economist, tirelessly reminds readers in his NY Times columns that higher savings rate in the US would mean a firmer US dollar. That maybe so in normal times. Indeed, current higher savings rate is probably sustaining a dollar that should have been a lot lower given the massive amount of credit and money printed or committed by the Fed to pop up a variety of institutions.

However, the precedent set by California could be a game changer if the size of IOU's gets bigger and if other states follow the same practice.

Get ready to take your $ to the nearest bank and buy Euro or Australian dollar. So watch how thie IOU"s business evolves in the weeks and months ahead.