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Wednesday, August 10, 2011

Three--no Four--Perspectives on the Continuing Global Economic Crisis

The title of Tim Iacono's SEEKING ALPHA post ays it all : "Fed Promises Low Rates 'At Least Through Mid-2013': Good for Big Banks, Bad for Savers".

As Iacono sees it :
By promising to keep rates low “at least through mid-2013? in the policy statement released earlier yesterday, the central bank assured the nation’s big banks of continuing to make big profits for the next two years on the interest rate spreads.

Of course, this will continue to punish the nation’s savers who, for the foreseeable future, will be looking at rates of one percent or less for certificates of deposit.

Good luck, risk averse seniors…

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What does this presage, socially and politically ? With calls for 'entitlement reform' -- code for drastic reductions in Medicare and Social Security -- growing more strident even as seniors see the Fed cutting into their meager income and simultaneously promoting food and fuel inflation, I foresee deepening generational and class chasms developing. That being the case, we should expect the 2012 Presidential Election to be marked by nearly unparalled political savagery, and the post-election period by social and political polarization on a level exceeding that of the 1970's, and possibly as severe as the 1850's.

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So, as equities collapse and rise, only to collapse again, should investors flock to Commodities ? Maybe not. Why ?

According to James A. Kostohryz, China's economy will soon experience a slowdown, bringing about a collapse in commodity prices. The basics of his argument are as follows :

Exports comprise roughly 30% of China’s GDP – an extremely high share by any measure.

China’s export economy has driven massive investment in infrastructure. From an infrastructure point of view, it does not matter what percentage of the goods being processed are foreign or domestic. It still requires the same amount of port facilities, highways, roads, warehouses, railroads, trucks, and etc. The construction of this infrastructure does not enter into the GDP accounts as exports. However, the economic activity surrounding this build-out of outward looking infrastructure has been a key driver of Chinese GDP.

Similarly, foreign trade has indirectly been the primary impulse driving urbanization, which in turn, has been the main driver of putatively “domestic” GDP growth. Peasants from the countryside have flowed massively into the cities in search of factory jobs – or for jobs in formal or informal industries that supply and service factories and their workers.

In the last two years since the financial crisis of 2008, the slowdown in the growth of exports has meant that in order to maintain overall GDP growth rates at around 10%, the Chinese government has had to promote the stimulation of economic activity that previously was driven by the export sector.

From 2008, through 2010, in order to head off an economic collapse, China substituted debt-led domestic demand growth in lieu of the economic activity that had previously been driven directly and indirectly by foreign trade. This drastic transitional policy has created unsustainable imbalances in the medium term.

As the global economy slows, and China’s export sector once again comes under pressure to contract as it did in 2008, Chinese policy makers will find it much more difficult to compensate for the loss in foreign trade-related output.

In 2011, and 2012, it will be much more difficult for the Chinese government to compensate for external shocks to its foreign trade sector (including the massive amounts of domestic economic activity that is essentially subsidiary to the foreign trade sector). The massive increases of private indebtedness, and the concomitant imbalances created in the domestic economy, have severely limited the marginal effectiveness of potential Chinese counter cyclical monetary and fiscal policy.

A slowdown of economic growth in Europe and the US will to some degree be countered by counter cyclical policies instituted by the Chinese government. However, this time around, it is unlikely that the Chinese government will be able to prevent a substantial slowdown of the domestic Chinese economy.

Chinese officials may be able to prevent outright contraction; but not a substantial slowdown. As participants in global financial markets contemplate this prospect, commodities will get hit very severely. Under such a scenario, it would be very surprising if oil did not fall below $70 and copper did not fall below $3.00. Indeed, the entire commodity complex will probably get smashed. This includes the precious metals. [Emphasis mine]
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What's the next EuroLand domino to fall ? Apparently France, according to MARKETWATCH's Matthew Lynn. Why should we in the U.S. be worried ? Read on...

Add it all up, and if the U.S. is getting downgraded there is no reason for the ratings agencies not to turn their fire on France next. That matters hugely for the financial system. While countries such as Greece and Portugal are largely irrelevant to the global system, France is very important. The country has a lot of paper out there — the government has total outstanding debts of $1.7 trillion, making it the fourth largest debtor in the world after the U.S., Japan and Italy. And that debt is far more widely held — 38% of French debt is held internationally, which is a lot more than Italy (24%), the U.S. (21%) or Japan (2%) [emphasis mine], according to calculations made by the research house TheCityUK.
The cost of insuring against a French default is starting to rise. The markets have started to notice the country’s dire position. It can’t be that long before the rating agencies catch up. If France does get downgraded, then it is going to be a very serious blow to the markets. Just about every bank and every bond portfolio in the world is going to take a hit [emphasis mine].
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So what are we to do, other than huddle in our living rooms, numb ourselves into oblivion with reality shows on cable and drown our sorrows with Lite beer and Cheezits ?

Wait a second. Better scratch 'cable'. Too expensive for lots of folks, these days. In fact, according to BLOOMBERG's Alex Sherman, "Pay-TV Providers Face ‘Toxic Mix’ as Subscribers Cancel in Record Numbers" :

The six largest publicly traded U.S. cable and satellite-TV providers combined to lose about 580,000 customers in the second quarter, the biggest such decline in history, according to company and Bloomberg data.

The economy is forcing the industry to face the reality of cord-cutting -- pay-TV customers canceling their subscriptions in favor of online options such as Netflix Inc. (NFLX) and Hulu LLC. While cable executives dismiss the idea that subscribers are switching to “over the top” Internet competitors, the reason isn’t as important as the decision to stop paying for TV, said Craig Moffett, an analyst at Sanford C. Bernstein in New York.

The catalysts, according to cable and satellite executives, include increased competition from telephone companies AT&T Inc. (T) and Verizon Communications Inc. (VZ), which added a combined 386,000 video customers, and a sluggish economy that forced lower-income customers to cancel service.

As new home sales slumped in May and again in June, installations suffered, and there weren’t enough new subscribers to make up the difference, Cablevision Systems Corp. (CVC) Chief Operating Officer Tom Rutledge said yesterday on a conference call.

“The economic impact on our customers in lower-income neighborhoods is more pronounced,” Rutledge said. “We see less gross adds in low-income areas, and that’s the result of economics and vacancies.”

Of the six largest publicly traded U.S. cable and satellite providers, only DirecTV added customers in the second quarter. Comcast Corp. (CMCSA), Time Warner Cable Inc. (TWC), Charter Communications Inc. (CHTR) and Cablevision lost a total of 471,000 video customers in the quarter. Dish Network Corp. (DISH) lost 135,000 after adding 58,000 in the previous period.

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