The death of Socialism

Martin Armstrong writes…Socialism is dying because governments have made promises they cannot keep. Now when people expect that they will be there, they suddenly find the promises have been constantly revised. They always point to the rich and how they will make them pay. Everything who thinks they cannot possibly be the rich cheer, but at the end of the day, their taxes never decline and the promised-land seems further and further away. While economically, all parties on the left, always offer crumbs to the poor, they are busy stealing from the public treasury and handing out favors to lobbyists who donate to their campaigns. Then they pretend there is also a considerable religious divide with the greedy rich and the warm and caring politicians who feels your pain. No matter what they say, somehow raising the taxes on the rich miraculously always somehow ends up raising everyone else’s taxes as well.

Socialism is dying and in the process this will only inspire violence. People believed in this system. They really believed those in power had their best interests at heart. Unfortunately, we are moving into this darkness where more and more people are beginning to realize that government is the number one problem – not Global Warming.

Owe negative

Almost daily Grant’s write….The Chinese economy continues to muddle along, as a series of eight indicators compiled by Bloomberg encompassing market sentiment, key commodity prices and overall business conditions showed solid levels of activity in April.  That follows a 6.4% reported year-over-year GDP growth rate in the first quarter, above the expected 6.3% but below last year’s 6.6% figure, itself the slowest recorded growth rate since 1990.

But even that middling (by Chinese standards) growth has come through significant exertion, as total new credit footed to 9% of last year’s GDP in the first quarter, a figure which almost matches 2009’s (on an annualized basis) credit injection of 40% of GDP.  Bloomberg China economist Qian Wan writes that “policy support is still necessary – that means the government needs to keep spending and driving investment to keep domestic demand stable.” 

Loose monetary policy likewise hasn’t been able to forestall increasingly frequent signs of corporate distress.  Bloomberg notes today that each of China’s four biggest banks have seen their non-performing loan ratios rise to multi-year highs in the most recent quarter, with bad loans at the Bank of China Ltd. reaching the highest since at least 2006. Data from Bloomberg likewise shows that bonds from 44 Chinese companies totaling $42.9 billion are currently “facing repayment pressure,” up 23% from the end of March. Indeed, a trio of prominent names are in the headlines for all the wrong reasons. 

Today, Fitch Ratings cut its appraisal of commodity trader Tewoo Group Co.’s dollar-pay bonds by six notches, to single-B-minus from triple-B-minus following a failed debt-for-equity swap late last year. Tewoo, ranked 132nd on the Fortune Global 500 list, saw its senior unsecured 4 5/8 notes due in April 2020 plunge to 71 cents on the dollar from 95 earlier this month.

Tewoo Group 4 5/8s of 2020. Source: The Bloomberg  

Over the weekend, conglomerate CITIC Guoan Group Co., Ltd. failed to make an RMB 3 billion ($450 million) bond payment. Guoan, which reported RMB 178.3 billion in total liabilities as of Sept. 30, saw local courts seize RMB 7.9 billion worth of assets in March. China Lianhe Credit Rating Agency cut its assessment of Guoan to single-A from double-A-minus on April 17. One day later, courts froze the company’s 36.4% stake in Shenzhen-listed CITIC Guoan Information Industry Co., Ltd., which boasts a current market cap of RMB 17.6 billion.    Then there’s HNA Group Co., Ltd., the once-massive roll-up now listing under the weight of its gargantuan $80 billion debt load, $25 billion of which matures in less than one year. Since reversing its acquisitive business model last year, HNA sold roughly $45 billion worth of assets in 2018 according to Caijing magazine, but it hasn’t been enough. On April 17, creditors seized golf courses and other pledged assets after the conglomerate was unable to make debt payments.     Brock Silvers, managing director at Kaiyuan Capital, told Bloomberg that we can expect more of the same: “While the company seeks further liquidity, it may become increasingly selective in honoring obligations. It’s possible that HNA might not survive 2019’s planned debt obligations in its current form.” Silvers sums it up: “The situation is dire.”   China’s efforts to control its bloated credit system carry potentially wide-ranging implications. Chinese banking assets footed to $39 trillion as of Dec. 31, equivalent to 44% of total world GDP in 2018.  By comparison, the U.S. and Japan, the world’s largest and third-largest economies (China is second), hold a combined $27 trillion in bank assets. 

How does the average American spend their paycheck?

Motley fool writes….The average American household’s pretax income is nearly $75,000, but not surprisingly, most of this amount gets spent. In fact, when you add up the money that’s paid for goods and services or taxes, the average household spends more than 90% of their income.

With that in mind, here’s a breakdown of where the average American’s income goes and how much is left to save, invest and pay down debt. How do your spending habits compare?

The average American household income

The average American household brings in a yearly income of $74,664 before taxes, according to the Bureau of Labor Statistics’ (BLS) 2016 Consumer Expenditure Survey, the latest full year for which finalized data is available. This includes wages and salaries, as well as income from self-employment, Social Security and other retirement sources, interest, dividends, rental income and more.

The average American’s expenditures

According to the latest BLS data, this is the breakdown of how the average household’s salary is spent. Some categories, such as “tobacco products and services,” are self-explanatory, but others are broader and include several different subcategories and expense types you may be surprised about, so I’ve added some comments where necessary:

  • Food: $7,203, which can be further broken down into $4,049 of food at home and $3,154 on food away from home.
  • Alcoholic beverages: $484.
  • Housing: $18,886, which includes mortgage payments or rent, property taxes, maintenance, utilities, household services and products, furnishings and appliances. On a monthly basis, this implies that the average household spends $1,573 on all of these expenses combined.
  • Apparel and services: $1,803.
  • Transportation: $9,049. In addition to the cost of vehicles, this includes gasoline, finance charges, maintenance, insurance and public transportation expenses.
  • Health care: $4,612, which includes the cost of health insurance, medical services, prescription drugs as well as other medical supplies.
  • Entertainment: $2,913. This includes in-home entertainment costs, as well as outside-the-home entertainment ventures. Certain other expenses, such as your pets, are included here.
  • Personal care products and services: $707.
  • Reading: $118.
  • Education: $1,329.
  • Tobacco products and supplies: $337.
  • Miscellaneous: $959.
  • Cash contributions (charity, for example): $2,081.
  • Personal insurance and pensions: $6,831. The largest expense in this category is Social Security payroll tax, but life insurance premiums and pension contributions are also included.
  • Personal taxes: $10,489, which includes the average household’s $8,367 federal income tax bill, as well as state and local income taxes.

What’s left?

If we subtract all of these expenditures from the average household’s $74,664 annual pretax income, we find that there’s $6,863 left over. However, keep in mind that this doesn’t include interest on consumer debts such as credit cards or gifts, so this isn’t necessarily the amount of money that the average household saves.

Charts That Matter- 29th Apr

The United States:  US financial conditions have been easing this year, but the rise in the dollar over the past few days has derailed that trend.

Equities: Despite the earnings beats (above), companies have turned much more cautious on growth.

China: This chart shows household leverage and the contribution of consumer spending to China’s GDP growth.

Global Developments: This table ranks populist governments by policy priority. India ranks high in Populism

Decline in Human Empathy Creates Global Risks in the ‘Age of Anger’

Our interconnected world has never had more lonely, angry people. Is technology responsible for a decline in human empathy?As today’s economy grows more interconnected, a new global phenomenon has emerged: the growing number of people who feel disconnected and isolated.

Technology is revolutionizing the workplace, and creating unprecedented opportunities for business and society as the physical, digital and biological worlds increasingly merge. While technological change always causes stress, the Fourth Industrial Revolution is marked by a blurring of the line between the human and the technological, according to the Global Risks Report 2019, published by the World Economic Forum in partnership with Zurich Insurance Group.

The result of this blurring has been an increase in loneliness, rising polarization and a corresponding decline in empathy. And unlike previous waves of globalization, today’s feelings of discontent aren’t just confined to displaced workers. For business leaders, the challenge is to create a corporate culture of openness and diversity that is responsive to the concerns of employees and customers.

“We are going to need new ways of managing technology and globalization that respond to the insecurity that many people experience,” says John Scott, Head of Sustainability Risk at Zurich Insurance Group.

“We are going to need new ways of managing technology and globalization that respond to the era of insecurity that many people experience.” –John Scott Head of Sustainability Risk

The Effects of Technology on Society

Technology is a complex factor in rising levels of anger and loneliness. The Global Risk Report notes that in a recent study, technology was cited as a major cause of loneliness and social isolation by 58 percent of survey respondents in the United States and 50 percent in the United Kingdom. But the same survey found that social media makes it easier for people to “connect with others in a meaningful way” and that lonely people were no more likely to use social media.

Pervasive digital technology has also blurred the boundary between the workplace and home. Work-related emails often start before office hours and continue long after close of business. A 2016 study by Pew Research Center found that nearly one-third of American adults never turn off their smartphones.

Even as professional pressures increasingly encroach upon private life, people often don’t have traditional support networks at home. The percentage of single-person households in the U.K. has almost doubled over the last 50 years, with similar increases in the U.S., Germany and Japan. In urban capitals, the number of “solitaries” is even higher: 50 percent in Paris, 60 percent in Stockholm. In Midtown Manhattan, 94 percent of households are single-person.

Urbanization weakens social bonds not just in cities, but also in the communities and households that migrant workers leave behind, and growing social isolation is a trend in established and emerging economies alike. The proportion of people feeling lonely in the U.K. climbed to 22 percent in 2017 from an average of 17 percent in 2014-2016, with a sharp drop in the number of people who reported never feeling lonely, according to a survey published by the Cabinet Office.

These results mirror those of a study in American Sociological Review that looked at the number of close friends that people have. In 1985, the average number of close friends was 2.9; by 2004 it was 2.1. The percentage of people who responded that they had no close friends at all tripled over the same period.

“In 1985 people had an average 2.9 close friends; by 2004 it was 2.1.” –American Sociological Review

“Emotionally, people are quite lonely. We’re seeing in many societies a kind of breakdown of family, or connection with family,” Scott says. “I think it’s also a demographic thing; younger people are more tuned into using technology and social media, and to live in a world talking to machines through chatbots. That can create all sorts of emotions of fear and frustration, and in some cases that frustration can get expressed as anger.”

Individual psychological and emotional problems can become collective concerns when loneliness and frustration meet populist and identity politics—an emerging reality in what is becoming known as the “age of anger.” According to the Global Risks Report, these trends may pose a significant threat to geopolitical stability.

“Levels of empathy fell by 48% between 1979 and 2009.” –Personality and Social Psychology Review

“Individual harms matter in themselves, but they can also feed into wider systemic risks—for example, potential political, societal, technological and environmental disruptions,” Scott says.

The decline in empathy is not just anecdotal. One study of American students published in Personality and Social Psychology Review revealed that levels of empathy in this demographic fell by 48 percent between 1979 and 2009. Possible causes of the growing empathy gap include increasing materialism, changing parenting methods and the digital echo chamber, in which people anchor themselves in close-knit groups of like-minded people. Such echo-chamber effects aren’t always as obvious as those seen on social media. For example, researchers have found that the matching processes used on dating platforms can also weaken social bonds.

The Global Risks Report highlights that while online connections can be empathetic, research suggests that the degree of empathy is six times weaker than for real-world interactions. However, technology’s impact on empathy may not be wholly negative; some observers believe that virtual reality will be an “engine for empathy,” and that emotionally responsive robots could tackle loneliness, particularly in care-related settings.

But at what point does increasing isolation and the decline in empathy morph into a social risk?

“Complex transformations in three areas—societal, technological and work-related are creating an increasingly anxious, unhappy and lonely world, where anger is increasing and empathy appears to be in decline,” Scott says. “A world of increasingly divided and angry people would be likely to generate volatile electoral results and to decrease the chance of solving complex multi-stakeholder global risks. If empathy were to continue to decline, the risks might be even starker.”

How Business Leaders Can Help

No business can be fully insulated from the increasing populism and decreasing empathy evident in society, but Scott believes that this risk can be managed with a corporate ethos that is alert, diverse and responsive.

The business world can take a number of steps to help mitigate the consequences of the human consequences of technology.

  1. Improve mental health and well-being in the workplace
    In the 19th century, physical health and safety rules and practices reshaped work in many industrializing economies. In the 21st century, mental health and safety rules and practices could play an analogous role by ensuring that workplace conditions are appropriate for an increasingly knowledge-based economy. “A number of steps can be taken to protect organizations from systemic risks, including thinking small, looking for early warning signs and encouraging skepticism through diversity, with a culture of open communication and mitigating our cognitive biases,” he says.
  2. Engage with society in a more meaningful way
    For decades the mantras of shareholder value and the view that the “business of business is business” has pervaded Western developed economies. Increasingly in a more global, technology-dominated world, with less certainty, especially for younger people, there is a consumer and employee-led desire for something more meaningful in their lives. Businesses that can create and convey a sense of purpose and meaning have a greater chance of connecting with employees and customers. Scott advocates forging a new concept of private-public partnership, in which workplace practices and policies help shrink individual echo chambers and strengthen the bonds of the broader community, and an inclusive business environment nurtures social affinity and engagement.

“Empathy underwrites all political systems that aspire to the liberal condition,” states the Global Risks Report, “and no amount of law or regulation will overcome a lack of empathy.”Download the Global Risks Report 2019 Executive Summary

Cash transfer promises: Recipe for a fiscal disaster

Not only is the country’s tax base small, it is also difficult to raise tax rates too much without reducing compliance

Ila Patnaik writes…

Rate cuts by the Reserve Bank of India (RBI) may not find transmission into lower interest rates in the Indian economy if election promises of large cash transfer programmes are kept. Fears of large government spending without any clear plans to raise tax revenue or cut other expenditure can increase economic fragility as well as create expectations that India will move away from the path of fiscal consolidation. This would mean government can only borrow at higher interest rates. Higher cost of capital would mean lesser private investment.

Election promises of both leading political parties involve larger government spending. Both the Bharatiya Janata Party (BJP) and the Congress have made promises regarding cash transfers in their election manifestos. India’s fiscal deficit currently stands at 3.4% of gross domestic product (GDP). Even this is an underestimate as not all expenditure was shown in this year and not all borrowing was shown to be explicit borrowing of the Central government in the last budget. Both parties remain quiet on how they plan to fund the additional expenditure; the two paths to not borrowing more are either to tax more or to cut expenditure.

The government has already launched the Pradhan Mantri Kisan Samman Nidhi Yojana for cash transfers to marginal or poor farmers who own land up to two hectares. The manifesto promised to increase the scope of PM-Kisan scheme to all farmers in the country. In addition, the BJP manifesto promises a pension scheme for all small and marginal farmers in the country. Short-term new agriculture loans up to Rs 1 lakh at zero per cent interest rate would be made available. Even beyond the manifesto, there are promises for collateral free loans of Rs 50 lakh to traders and pensions for shopkeepers.

The Congress has promised farm loan waivers, one crore jobs, National Rural Employment Guarantee Act (NREGA) days to increase from 100 to 150, and the Nyuntam Aay Yojana (NYAY) to provide Rs 72,000 a year to the 20% poorest families in the country. Health expenditure would be doubled to 3% of GDP, and so on.

If all these election promises are to be kept, Central government expenditure would increase by around 3% of GDP. One proposal is to tax the rich more. But who is rich in India? The notion of rich is, of course, relative. Households who earn Rs 1 lakh per month in India are rich by Indian standards as only about 0.3% of the population earns more than Rs 12 lakh a year. 99.7% of households in India earn less than Rs 1 lakh per month.

Taxing 0.3% of households to distribute to the remaining looks very hard. So perhaps the top 5% should be taxed? But 95% of households earn less than Rs 50,000 per month (or ~6 lakh a year). Eighty per cent of households earn less than Rs 3 lakh a year or Rs 25,000 per month. This is hardly the section that is “rich” and should be taxed to pay for the poor.

At best, raising taxes for redistributing income from rich to poor households would involve taxing about 5% households who earn more than Rs 50,000 per month and transferring money to the poor. This has limited possibilities. Not only is it difficult to tax the middle class politically, even the amount of revenue that can be raised without pushing rates too high and taxing away even 50% of their income, or almost Rs 25,000 per month away from them, will not raise revenues adequately.

Not only is the tax base small, it is also difficult to raise tax rates too much without reducing compliance. Wealth tax, or taxing the super-rich in developing countries, has usually ended up in capital flight without raising revenues.

The other alternative is to cut expenditure. Considering that interest payments, salaries and subsidies are difficult to cut, there are no clear plans outlined by either party on what will be cut. Usually this means, as it has in the past, that capital spending will be reduced.

In all probability, large cash transfer programmes mean large fiscal deficits, upward pressure on interest rates and moving away from fiscal targets. If all that is promised materialises, India will, unfortunately, almost certainly, head towards a fiscal crisis.

Ila Patnaik is an economist and a professor at the National Institute of Public Finance and Policy

Published in The Hindustan Times

Creating record in Short Volatility

Volatility is at risk of picking up. Not since 2012 has the open interest been this short in VIX. Let’s see for how long hedge funds will continue to pick Pennies in front of a road roller.

Hedge funds are shorting the VIX at rates not seen in at least 15 years – Large speculators = Dumb money = record COT VX futures net shorts.. – Commercials = Smart Money = Patiently waiting for the extremes = Volmageddon = Works like a charm != Different this time????

Only time will tell whether Is it different this time.

Canadian Dollar (CAD) is the weakest link in G-7 and the US Dollar SMILE is not helping

Nordea writes…

CAD: BoC lags Fed and house prices are still struggling

Bank of Canada lags the Fed. This still seems to be the case, as Poloz followed in the footsteps of Powell and announced an “indefinite” pause in Canadian rate hikes. If the Fed should enact in precautionary cuts (as discussed in the section above), then BoC is still well too aggressively priced. On top of that USD/CAD has never dropped with house price trends as weak as current in Canada.

USD/CAD has NEVER dropped with as weak Canadian housing trends as currently (note the reversed left-hand axis)

The dollar smile framework

Moving left in the dollar smile?

The dollar smile is a framework through which to understand the direction of the dollar. In the leftmost part of the smile, the US outperforms the rest of the world. The Fed is relatively hawkish, which reduces global USD liquidity. This is bad news for risk appetite but good news for the USD. In the rightmost part of the smile, global growth is slowing. Risk appetite weakens, USD liquidity becomes increasingly scarce. This is good news for safe-havens (USD, JPY, CHF). In the lowest part, global growth is more evenly distributed and robust, risk appetite is solid and global USD liquidity is rising because of improving global trade. This is bad news for the dollar but good news for riskier currencies.

The dollar smile – moving left, not down

Nordea has lately been in the top-right part of the smile, but had hoped we would move towards a lower quadrant due to green shoots in China and eventually also a pick-up in the Euro-area. Alas, there are yet no clear signs that a weaker EUR is paving the way for improving Euro-area growth. We do still remain hopeful that we will see such signs in coming months, however.

Strong USD ought to weigh on ISM right about now

Andreas conclude “In the near term, the USD break-out could spell trouble for risky assets. If DXY is now resurgent, it could severely dent the revenue outlook for the S&P500, some 50% of its revenues does stem from abroad, after all. A stronger USD also potentially spells trouble for emerging market currencies, should the nascent rally have more legs.”

Central Banks Are Heading Toward a Stagnant Global Zombie Economy

Daniel Lacalle writes…..Japan’s low unemployment has nothing to do with monetary and fiscal policy and everything to do with demographics and lack of immigration. Japan’s low cost of debt is not a blessing. It is the result of using the savings of citizens to perpetuate an almost-Ponzi scheme that does not prevent the country from spending more than 20% of its budget on interest expenses. The idea that it is irrelevant because the Treasury buys more bonds tells us how insane we are defending such policies. It is a massive kick-the-can policy transferring the risk to the next generations. It is no wonder that Japanese citizens don´t spend or invest as much as their central planners would want them too. They are not stupid. They know that the government is going to confiscate wealth via monetary and fiscal means at some point. This endless debt machine makes the economy less dynamic, and stagnation is guaranteed.  But the strength of the Yen and the low cost of Japanese debt are only supported by the high level of international reserves and strong financial flows of the country. Japan keeps its imbalances because it is one of the few that has undertaken this concerted policy of zombification. This cannot be transferred to the rest of the world, because the result would not be Japanese-style stagnation but Argentina-style crisis chain.

read more

https://mises.org/wire/central-banks-are-heading-toward-stagnant-global-zombie-economy

Weekly Commentary: Officially on “Periphery” Contagion Watch

Doug Noland writes

This week saw all-time highs in the S&P500, the Nasdaq Composite, the Nasdaq100, and the Philadelphia Semiconductor Index. Microsoft’s market capitalization reached $1 TN for the first time. First quarter GDP was reported at a stronger-than-expected 3.2% pace.

So why would the market this week increase the probability of a rate cut by the December 11th FOMC meeting to 66.6% from last week’s 44.6%? What’s behind the 10 bps drop in two-year yields to 2.28%? And the eight bps decline in five-year Treasury yields to a one-month low 2.29% (10-yr yields down 6bps to 2.50%)? In Europe, German bund yields declined five bps back into negative territory (-0.02%). Spain’s 10-year yields declined five bps to 1.02% (low since 2016), and Portugal’s yields fell four bps to an all-time low 1.13%. French yields were down to 0.35%. Why would markets be pricing in another round of ECB QE?

In the currencies, king dollar gained 0.6%, trading above 98 for the first time in almost two-years. The Japanese yen outperformed even the dollar, adding 0.3%.

April 22 – Financial Times (Hudson Lockett and Yizhen Jia): “Chinese stocks fell on Monday amid concerns that Beijing may renew a campaign against shadow banking that contributed to a heavy sell-off across the market last year. Analysts pinned much of the blame… on a statement issued late on Friday following a politburo meeting chaired by President Xi Jinping in Beijing. They were particularly alarmed by a term that surfaced in state media reports of the meeting of top Communist party leaders: ‘deleveraging’. That word set off alarm bells among investors still hurting from Beijing’s campaign against leverage in the country’s financial system last year. Those reforms focused largely on so-called shadow banking, which before the clampdown saw lenders channel huge sums of money to fund managers who then invested it in stocks.”

And Tuesday from Bloomberg Intelligence (Qian Wan and Chang Shu): “The Central Financial and Economics Affairs Commission (CFEAC) – the Communist Party’s top policy body headed by President XI Jinping – is focused on ongoing structural reform and deleveraging, citing proactive fiscal policy and prudent monetary policy as key tools. Officials set a pragmatic growth target of 6.0%-6.5% for 2019. The government plan also indicated credit growth in line with that of nominal GDP in 2019, echoing the People’s Bank of China’s statement of ‘maintaining macro leverage.’”

The Shanghai Composite was hammered 5.6% this week. After last year’s scare, markets have good reason to fret the prospect of a return of Chinese “deleveraging” along with the PBOC restricting the “floodgates.” I would add that if Beijing actually plans to manage Credit growth to be in line with nominal GDP, the entire world has a big problem. Over the past year, China’s nominal GDP increased about 7.5%. Meanwhile, Chinese Aggregate Financing expanded at a double-digit annualized rate during Q1. This would imply a meaningful deceleration of Credit growth through the remainder of the year. Don’t expect that to go smoothly.

April 23 – Bloomberg: “The debt pain engulfing some of China’s big conglomerates has intensified in recent days with more bond defaults, asset freezes and payment uncertainties. China Minsheng Investment Group Corp. said last week cross defaults had been triggered on dollar bonds worth $800 million. Lenders to HNA Group Co.’s CWT International Ltd. seized control of assets in Singapore, China and the U.S. after the unit failed to repay a loan… Citic Guoan Group Co., backed by a state-owned company, isn’t certain whether it can pay a bond coupon due on April 27. The increased repayment stress sweeping some of China’s biggest corporations is a sign that the liquidity crunch — induced by a two-year long deleveraging campaign — is far from over despite an improving economy. Bonds from at least 44 Chinese companies totaling $43.7 billion faced repayment pressure as of last week, a 25% jump from the tally at the end of March… ‘The debt crisis at conglomerates can have more of a contagion impact on the corporate bond market compared with an average corporate default because those issuers typically have more creditors and large amount of outstanding debt,’ said Li Kai, a multi-strategy investment director at Genial Flow Asset Management Co.”

Chinese officials surely appreciate the risks associated with rampant debt growth. They have carefully studied the Japanese experience and have surely studied the history of financial crises. Beijing has had ample time to research Bubbles, yet they still have limited actual experience with Credit booms and busts. China has no experience with mortgage finance and housing Bubbles. They have never before managed an economy with a massively leveraged corporate sector – with much of the borrowings via marketable debt issuance. They have no experience with a multi-trillion (US$) money-market complex – and minimal with derivatives. Beijing has zero experience with a banking system that has inflated to about $40 TN – financing a wildly imbalanced and structurally impaired economy (not to mention fraud and malfeasance of epic proportions).

I’m not confident Beijing comprehends how deranged Credit can become late in the cycle. A system dominated by asset Bubbles and malinvestment over time evolves into a crazed Credit glutton. Keeping the historic Chinese apartment Bubble levitated will require enormous ongoing cheap Credit. Keeping the incredibly bloated Chinese corporate sector afloat will require only more ongoing cheap Credit. Ditto for the frighteningly levered local government sector. And the acute and unrelenting pressure on the banking system to support myriad Bubbles with generous lending terms will require massive unending banking balance sheet expansion. Worse yet, at this late “terminal phase” of the cycle it becomes impossible to control the flow of finance. It will instinctively flood into speculation and non-productive purposes. Has China studied the late-twenties U.S. experience?

If Beijing is serious about managing risk, they have no option other than to move to rein in Credit growth. Last year’s market instability, economic weakness and difficult trade negotiations forced officials to back off restraint and instead push forward with stimulus measures. This had characteristics of a short-term gambit.

Chinese officials will not be slamming on the brakes. But if they’re serious about trying to manage Credit and myriad risks, it would be reasonable to expect the imposition of restraint upon the completion of U.S. trade negotiations. Indeed, there are indications this transition has already commenced.

If this analysis has merit, the global market backdrop is near an important inflection point – potentially one of momentous consequence. Chinese Credit growth is about to slow, with negative ramifications for global market liquidity and economic expansion. I would further argue that the synchronized global “Everything Rally” has ensured latent fragilities even beyond those that erupted last year. The conventional view that China is now full speed ahead, with stimulus resolving myriad issues, could prove one of financial history’s great episodes of wishful thinking.

It’s worth recalling the 2018 market backdrop. After beginning the year with a moonshot (emerging markets trading to record highs in late-January), EM turned abruptly lower and trended down throughout much of the year. The Shanghai Composite traded to a high of 3,587 on January 29th, only to reverse sharply for a two-week 14% drop. By July, the Shanghai Composite had dropped 25% from January highs – and was down 31% at October lows (2,449).

And for much of the year, de-risking/deleveraging at the “Periphery” supported speculative flows to “Core” U.S. securities markets. U.S. equities bounced back from February’s “short vol” blowup and went on a speculative run throughout the summer (in the face of mounting global instability). After trading below 90 for much of April, the Dollar Index had risen to 95 by late-May and 97 in mid-August.

While the Fed raised rates 25 bps in June and again in September, financial conditions remained exceptionally loose. Ten-year Treasury yields traded down to 2.80% (little changed from early-February), held down by global fragilities and the surging dollar. High-yield debt posted positive returns through September. Ignoring rapidly escalating risks, the S&P500 traded right at all-time highs to begin the fourth quarter (10/3). The dam soon broke, with crisis Dynamics coming to fully envelop the “Core.”

After a several month respite, I’m back on “Crisis Dynamics” watch, carefully monitoring for indications of nascent risk aversion and waning liquidity at the “Periphery.” Last year’s market and economic developments provided important confirmation of the Global Bubble Thesis – including the fundamental proposition that major Bubbles function quite poorly in reverse. Years of zero rates and QE had inflated myriad Bubbles and a highly unbalanced global economy surreptitiously addicted to aggressive monetary stimulus. As tepid as it was, policy “normalization” had engendered latent fragilities – though this predicament remained hidden so long as “risk on” held sway over the markets.

A speculative marketplace gleaned its own 2018-experience thesis confirmation: central bankers won’t tolerate bursting Bubbles. The dovish U-turn sparked a major short squeeze, unwind of bearish hedges and, more generally, a highly speculative market rally. And in global markets dominated by a pool of Trillions of trend-following and performance-chasing finance, rallies tend to take on lives of their own. With 2019’s surging markets and speculative leverage creating self-reinforcing liquidity, last year’s waning liquidity – and December’s illiquidity scare – are long forgotten.

But I’ll offer a warning: Liquidity Risk Lies in Wait. When risk embracement runs its course and risk aversion begins to reappear, it won’t be long before anxious sellers outnumber buyers. When “risk off” De-Risking/Deleveraging Dynamics again attain momentum, there will be a scarcity of players ready to accommodate the unwind of speculator leverage. And when a meaningful portion of the marketplace decides to hedge market risk, there will be a paucity of traders willing to take the other side of such trades.

And there’s an additional important facet to the analysis: Come the next serious “risk off” market dislocation, a further dovish U-turn will not suffice. That trump card was played – surely earlier than central bankers had envisaged. Spoon-fed markets will demand rate cuts. And when rate cuts prove insufficient, markets will impatiently clamor for more QE. In January, Powell’s abrupt inter-meeting termination of policy “normalization” carried quite a punch. Markets were caught off guard – with huge amounts of market hedges in place. These days, with markets already anticipating a rate cut this year, one wouldn’t expect the actual Fed announcement (in the midst of market instability) to elicit a big market reaction.

The Fed is clearly preparing for the next episode where it will be called upon to backstop faltering markets. Our central bankers will undoubtedly point to disinflation risk and consumer prices drifting below the Fed’s 2% target. I’ll expect markets to play along. But without the shock effect of spurring a big market reversal – with attendant risk embracement and speculative leveraging – it’s likely that a 25 bps rate cut will have only ephemeral impact on marketplace liquidity. Markets will quickly demand more QE – and Chairman Powell is right back in the hot seat.

I’m getting ahead of myself here. But the reemployment of Fed QE should be expected to have unintended consequences depending on relative U.S. versus global growth dynamics and market performance. If, as was the case last year, king dollar and speculative flows to the “Core” temporarily boost U.S. output, it would be an “interesting” backdrop for restarting QE.

But let’s get back to the present. Happenings at the “Periphery of the Periphery” seem to support the Global Liquidity Inflection Point Hypothesis. The Turkish lira fell 2.1% this week, with 12-month losses up to 31.5%. Turkey’s 10-year lira bond yields surged 30 bps to 17.75%, the high since October. Turkey sovereign CDS jumped 24 bps this week to 461 bps, the high going back to September 13th. Turkey’s 10-year dollar bond yields surged a notable 51 bps this week to 8.08% – the high also since mid-September instability. Turkey is sliding into serious crisis.

April 26 – Financial Times (Adam Samson and Caroline Grady): “Turkey’s central bank has confirmed it began engaging in billions of dollars in short-term borrowing last month, bulking out its reserves during a time when the lira was wobbling amid contentious local elections and concerns were growing over its financial defences. The central bank said… its borrowing from swaps with a maturity of up to one month was $9.6bn at the end of March. Friday’s report precisely matches figures first revealed last week by the Financial Times, which intensified concerns among investors about what they say is a highly unusual practice for a country’s reserve position. Turkey’s use of these transactions, in which it borrows dollars from local banks, ramped up dramatically following a sharp fall in the country’s foreign currency reserve position during the week of March 22.”

Also this week at the “Periphery of the Periphery,” Argentina’s peso sank 8.8% to an all-time low versus the dollar (y-t-d losses 17.9%). Argentine 10-year dollar bond yields jumped 26 bps Friday and 73 bps for the week to a multi-year high 11.53%. As the market increasingly fears default, short-term Argentine dollar bond yields jumped to 20%. Argentina’s sovereign CDS spiked a notable 263 bps this week to 1,234, a three-year high. A whiff of contagion was seen in the 10 bps rise in El Salvador and Costa Rica CDS. The MSCI Emerging Markets Equities Index declined 1.3% this week.

For the week, the Colombian peso dropped 2.4%, the South African rand 2.3%, the South Korean won 2.1%, the Chilean peso 1.8%, the Hungarian forint 1.5%, the Iceland krona 1.3%, and the Polish zloty 1.2%. The Russian ruble, Indonesian rupiah and Czech koruna all declined about 1% against the dollar. Problem child Lebanon saw 10-year domestic yields surge 31 bps to 9.84%.

Hong Kong’s Hang Seng Financial Index dropped 2.4% this week. China’s CSI 300 Financials Index sank 5.0%. China Construction Bank dropped 4.7%, and Industrial and Commercial Bank of China fell 4.5%. Japan’s TOPIX Bank index declined 1.3%. European bank stocks (STOXX 600) dropped 2.3%, led by a 3.2% fall in Italian banks. Deutsche Bank sank 6.7% on the breakdown of merger talks with Commerzbank. Deutsche Bank CDS jumped 12 bps this week to near two-month highs.

Reminiscent of about this time last year, U.S. bank stocks were content this week to ignore weak financial stocks elsewhere. US banks (BKX) jumped 1.6% this week, trading near the high since early December. Powered by fund inflows of a notable $5.8bn, investment-grade corporate bonds (LQD) closed the week at highs going back to February 2018. High-yield bonds similarly added to recent gains, also ending Friday at 14-month highs.

With animal spirits running high and financial conditions remaining loose, the “Core” has remained comfortably numb. But we’re now Officially on “Periphery” Contagion Watch. No reason at this point to expect much risk aversion in exuberant “Core” U.S. securities markets. Indeed, the drop in Treasury yields has been feeding through into corporate Credit, in the process loosening financial conditions. But I would expect risk aversion to begin gathering some momentum globally, with De-Risking/Deleveraging Dynamics ensuring waning liquidity and contagion for the more vulnerable currencies and markets.

April 26 – Bloomberg (Sarah Ponczek): “As equities surge to all-time highs, volatility has all but vanished. Hedge funds are betting the calm will last, shorting the Cboe Volatility Index, or VIX, at rates not seen in at least 15 years. Large speculators, mostly hedge funds, were net short about 178,000 VIX futures contracts on April 23, the largest such position on record, weekly CFTC data that dates back to 2004 show. Commonly known as the stock market fear gauge, aggressive bets against the VIX are, depending on your worldview, evidence of either confidence or complacency.”

When “risk off” does make its return to the “Core,” don’t be surprised by market fireworks. “Short Vol” Blowup 2.0 – compliments of the dovish U-turn? It’s always fascinating to observe how speculative cycles work. Writing/selling put options has been free “money” since Powell’s January 4th about face. Crowded Trade/“tinder” And if we’re now at an inflection point for global market liquidity, those gleefully “selling flood insurance during the drought” should be mindful of a decided shift in global weather patterns.

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