Secretary Rice takes the bait

Rice raises concerns over GCC Nuclear Plans: Washington: US Secretary of State Condoleezza Rice said yesterday she wanted to know more about Gulf states' plans to study nuclear power and questioned why Saudi Arabia, the world's largest oil producer, might need atomic energy.

Was it just a few days ago that I opined: The worst outcome for those in the west who wish for continued domination of the Middle East is a unified whole. If the GCC takes Iran's view on nukes, and begins to actively question Israel's nuclear arsenal, the game gets a whole lot more complicated.

Well the GCC has taken Iran's view- they too wish to harness the power of nuclear energy, which Iranian President Ahmadinejad is only to eager to share, and Secretary Rice has, sadly, taken the bait- a choice which recalls the words of Mark Twain: it is better to remain silent and have people suspect you are a fool, than open your mouth and remove all doubt.

If this GCC desire for nuclear technology flows from earlier Iranian overtures it was a political masterstroke. So long as Iran was the outlier in the region the US had room to maneuver. But if the whole region is tarred with the same brush, the room to maneuver shrinks.

Why, the GCC states might be wondering, should India or Israel have access to nuclear technology but not us? Now, if a military attack is launched against Iran's nuclear installations, will the GCC states not wonder if they are next. I think we will regret not talking to Iran when we had the chance prior to the invasion of Iraq, when they were willing to negotiate a grand bargain.

Perhaps this is why a critique of this policy choice- this road not taken, is, according to this article, considered a matter of national security.

This hard headed, bull in a china shop approach to diplomacy is just not making us many friends these days.

Russia extends her tentacles

Two articles from today's press caught my attention:

Cuba renews old ties with Russia: In his first major policy initiative since assuming power, Gen. Raúl Castro signed a far-reaching military-aid agreement with Russia. In September, Russian Prime Minister Mikhail Fradkov, visited Cuba and signed an economic-aid pact providing Castro with $350 million in credits to upgrade Cuba's armed forces, including the acquisition of Russian transportation equipment, air-navigation systems, industrial goods for the energy sector and financing of future Russian investments in Cuba, among other projects. Fradkov met with Raúl Castro in a climate described as ''cordial and friendly'' by the Cuban press.

This accord with the Russians rounds out Cuba's international alliances with key strategic countries. They include Venezuela, China and Iran. Whether the Russian deal was in the making prior to Fidel Castro's surgery or developed as a more recent initiative, it reaffirms Raúl's long-standing admiration and support for Soviet policies in the past and for Russian policies in the present.

Russia creates political dialogue mechanism with Mercosur: Russia and member states of the South American Common Market (Mercosur) signed on Friday a memorandum of understanding to create a political and cooperation dialogue mechanism.

This mechanism is aimed at increasing political, economic, technical and cultural consultations between Russia and the South American block.

Russian Foreign Affairs Minister Sergei Lavrov and his counterparts from the Mercosur member states -- Brazil, Paraguay, Uruguay and Venezuela -- and its associates, Bolivia and Chile, signed the document in Brasilia, capital of Brazil.

If I was using a comic strip as a medium for expressing my view I might have a picture of Putin looking at a map of the Americas saying, "Monroe who?"

While the current administration has been trying to extend US influence in the Middle East, and by most accounts, doing the opposite, Russia and China have been outflanking their efforts in Africa and the Americas. It is as if the more we try to extend our dominion the more we lose what we have, which tends to be the way of power over men- it accrues fastest and most durably when you don't try to gain it- when the choice is freely made.

I've been getting a few emails (please use the comments section) about my "championing" of Russia's cause so I'd like to set the record straight.

To use an ice hockey metaphor, it is not "championing" the opposing team to notice that they have scored more goals than your team has in the first two periods of play. Often such recognition acts as a motivating force. Acting as if you are winning when you are not fosters complacency.

I wish corporate heads hadn't accepted the notion that the End of History was at hand when the Soviet Union imploded, for we are now reaping the harvest sown by the imposition of unfair PSAs. Recognizing the effects of unwise choices is, at least as I view the world, how one learns. If the US wishes to regain its status it needs to avoid such errors and remember that capitalism works best when win-win deals are structured.

I experience no joy watching Russia and China rise to fill the vacuum of honest broker created by our imperial misadventure in Iraq. But it would be silly to not recognize their rise, the context and choices that allowed it to happen, and the eventual effects on the lives of those around me.

If China and Russia agree to sanctions, are they on our side?

There is no instance of a country having benefited from prolonged warfare. Sun-Tzu The Art of War

In the martial arts, Judo (Gentle Way) and Jujutsu (Gentle Art) the main principle is to use your opponent's strength against him. Let him charge at you while you give way and then trip him up or flip him over.

Russian President, Vladimir Putin, is an avid student of Judo, and has been since 14 years of age. His administration, as evidenced most recently by the turnabout on Royal Shell over Sakhalin-2 seems quite judo-esque in its behavior.

They wait, allowing the enemy to charge in and get off balance and then, flip him; in that specific case, using environmental concerns sure to make life tough for Shell, arguing in the contrary, back in the US.

I wonder if the recent ground giving on Iranian sanctions in the UN might be more of the same.

Had the US been able to move into Iran quickly following the rapid dismantling of Saddam's regime, they would have done so with rested troops and reasonable strong domestic support. Whether this would have mattered in the long run, I don't know, but conditions were best for US success in such a venture in 2004.

At this point, however, the troops are tired and domestic support for further military adventures is waning. As the opening quote reminds, prolonged warfare saps a country's strength, something Russia's leaders learned in Afghanistan. For a student of Judo, now is the time to get your opponent to rush in- he's tired, he's flailing and he needs a quick victory.

Interestingly, the Iranian President is doing his best to rile people up with the Holocaust Conference. It is as if he is daring the US and/or Israel to attack. Whether this is just coincidence or more, I don't know. Sometimes even stupidity can work out.

I, for one, hope the temptation is resisted. I'm not a fan of War but if you are going to do it, stick with the wisdom of the Powell Doctrine; make sure you can act with overwhelming force and have the people back home on your side. If you don't have that, it is best to wait until you do. Better to not fight at all than to fight and lose.

The problem, of course, is hubris- a hubris, mind you, that, according to this article, leads people to "cook the books" on military games, a hubris that won't allow one to even contemplate whether the enemy might be goading you on.

The Chinese military and political establishments are well versed in the wisdom of Sun-Tzu and the Russian President is a Judo expert. Why, under those conditions, are we acting like a bull at a bull fight, happy every time our opponents give us a red flag to charge at, unaware that it might hide swords. John Bolton might be happy China and Russia get on our side with sanctions that can act as a cover for an attack, but who is really zooming whom.

In Laying PLans in The Art of War, Sun Tzu writes: If your opponent is of choleric temper, seek to irritate him. Pretend to be weak, that he may grow arrogant.

I'm, of course, just speculating here, the end result of an active imagination and lots of time spent reading history from a non-triumphal standpoint.

I just can't shake, having read quite a few Greek Tragedies, how the end result of hubris is almost always a self-inflicted blow, an easily avoidable mistake.

A slippery double standard hampers Globalization

The financial media in the west is all atwitter at Russia's recent "seizure", to quote The Guardian, of the Sakhalin-2 LNG (Liquefied Natural Gas) project, reportedly the largest in the world. Spokesmen for Royal Dutch Shell, the company apparently getting frozen out by the Russian government, via state controlled corporation, Gazprom, warned Russia, the world was watching.

The world is watching. That sounds a bit like what I tell my 5 year old son from time to time when he's about to do something he shouldn't- I'm watching you.

The Russian government, assuming I've interpreted the comment correctly, is not supposed to concern itself with energy security, or try to use its power to craft deals the way it wishes.

That's a good one.

I wonder where Royal Dutch Shell was when Yeltsin was dissolving Parliament and, against the will of some, writing a new Constitution which facilitated much more extensive privatization of formerly state-run industries? Waiting in line to get a piece of the pie, of course,

The Sakhalin-22 PSA, which has been called a Production non-Sharing Agreement, was signed in 1994, when Yeltsin's economic liberalization program was in full swing and the Oligarchs were making money hand over fist. The terms of the agreement include the following quite unique features for an investment contract of this type.

Specifically:

1) At first, ALL proceeds from oil and gas sales (apart from a small royalty) are treated as ‘cost oil’, until both the capital investment AND an IRR (internal rate of return) of 17.5% (a comfortable profit) for SEIC have been received.
2) Once costs and the 17.5% return have been received by SEIC, the Russian Party receives 10% of the hydrocarbons for the following two years.
3) After those two years, the Russian Party receives 50% of the hydrocarbons until SEIC has received a 24% IRR (a large rate of profits).
4) Only after that 24% IRR has been obtained does the mechanism shift to its final sharing of 70% of hydrocarbons to the Russian party.

Given that the Russian government was only going to get paid after all project costs were recouped, one can imagine why they were a bit miffed to learn that MMMMS, the Royal Dutch Shell-led consortium, was raising the expected cost of the project from the original US$12B to US$22B. That's US$10B more worth of LNG that needs to be sold before the Russian government gets a ruble.

The world may be watching Russia now, but Russia was watching Royal Dutch Shell the whole time. And they are not pleased. Thus the new found fear of environmental damage.

Do I think Russia is "playing fair" in this game? No, but then I also don't think MMMMS was playing fair with Russia in the early 90s. As the Russian state has reformed and strengthened under Putin, turnabout, it seems, is fair play.

The aspect of the press coverage of this issue that is least useful, in my view, aside from the lack of history which makes it possible, is the sense of amazement at the Russian government's response.

Consider the following excerpt from a letter to President Bush on the proposed, but terminated deal for Chinese controlled CNOOC to buy Unocal, from US Representative Joe Barton, then Chairman of the House Committee on Energy and Commerce:

U.S. national energy security depends on sufficient energy supplies to support U.S. and global economic growth. But those supplies are threatened by China's aggressive tactics to lock up energy supplies around the world that are largely dedicated for their own use. China has used its state-owned oil companies to advance this strategy, by buying up energy assets around the world without regard to human rights and environmental protection, in countries such as Sudan and Iran. And unlike other companies, these resources are not available to the global market.

CNOOC's bid to acquire Unocal is simply the latest, and most significant, step in this strategy. If approved, the transaction would put vital oil assets in the Gulf of Mexico and Alaska directly into the hands of a company controlled by the government of China. This would be directly contrary to the goal of enhanced energy independence embodied in H.R. 6 as passed by the House.

One of the premises behind globalization is that the national origins of any corporation should not matter. What is supposed to matter is efficiency at delivering product to consumers and profit to share holders. Pure corporate competition.

Yet, as the Unocal and Dubai Ports deal demonstrate this isn't the case for the biggest promoter of Globalization, the US. The US is, rightly in my view, concerned about losing control of strategic resources.

And we are not alone in that concern. National governments around the world are reacting, once again, to fears of loss of control- to fears that the strong will bleed the weak. Intra-nationally in the US in particular, the middle class is becoming as disenchanted with unchecked corporatism as many national governments are.

As ex-US Treasury Secretary Summers recently opined in the FT:

In the past, real wages and corporate profitability have moved together – increasing during economic expansions and when the US became more competitive, declining in recessions and when it encountered significant competitive threats. The unique feature of the current expansion is the divergence between the fortunes of capital and the fortunes of labour. While workers normally receive about three-quarters of corporate income, with the remainder going to profits and interest, the Economic Policy Institute has calculated that, since 2001, labour has received only about one-quarter of the increase in corporate income, as real wages have failed to keep pace with productivity growth.

The same corporations that want to off-load invesment risk onto the Russian government are the same corporations that have increased the income gap in the US.

Mr. Summers continues:

These economic and political trends are and should be of great concern to the business community as well as to policymakers. They have led to populist policy proposals that cut against the grain of the market system by, for example, limiting free trade agreements, restricting outsourcing or limiting the ability of successful companies to expand.

After calling for a return to a more progressive tax system, noting some of the effects of corporate tax shelters and transfer pricing (the shifting of profits to low tax states and costs to high tax states) on smaller businesses and the common man, Mr. Summers suggests:

Much more can done in a range of areas, from disclosure of executive compensation, to ensuring that the government leverages the volume of its purchases, to making financing of education at every level more equitable, to making sure that businesses continue to take responsibility for their workers’ healthcare costs.

I, for one, am not sanguine about the prospects of a voluntary quick shift in commercial corporate mind-set. Mr. Summers calls for fairness will likely go as unheeded as President Hoover's calls for Volunteerism when the last experiment in Globalization run aground.

If history is a guide, that means, after a period of economic decline and growing popular resentment of corporations, that we can expect a shift back to more state controls on corporations and towards greater national self-sufficiency.

And that might not be such a bad thing.

Divide and conquer hits a snag in the Gulf

BBC: Officials from Bahrain, Kuwait, Oman, Qatar, Saudi Arabia and the UAE also urged a peaceful settlement to the crisis over Iran's nuclear programme.

The six Arab states said they were exploring the possibility of creating a shared nuclear programme.

The worst outcome for those in the west who wish for continued domination of the Middle East is a unified whole. If the GCC takes Iran's view on nukes, and begins to actively question Israel's nuclear arsenal, the game gets a whole lot more complicated.

Even Saudi King Abdullah can feel the heat: Our Arab region is besieged by a number of dangers, as if it was a powder keg waiting for a spark to explode.

A new Middle East indeed.

The irony of War

While reading what seemed to me a heart felt cry of anguish from a man trapped in hell, A Soldier's Story, I came across the passage reproduced below. I wonder if the author intended the irony? For is he not also a victim of deception? Are there not greedy and immoral men who kill for money while pretending to be religious, skillfully manipulating people's anger at each other, on both sides of this war?

Last night the Iraqi Army captured Ibrahim's cell leader and brought the two together in the same small room. For Ibrahim, this was a very traumatic moment, for he saw that the pious Muslim man, whom he followed but had not met, was in fact a 27-year-old tattooed common criminal. Ibrahim began to weep when he realized he had been deceived. A greedy and immoral man who killed for money while pretending to be religious had skillfully manipulated Ibrahim's anger at Americans. Before Ibrahim was turned over to the Iraqi authorities, I saw him teaching soldiers to use their new office computer. He was helping them to type up his own written confession. But Ibrahim's transformation is an anomaly. Such a confluence of peaceful events does not often turn an insurgent away from the insurgency. Most insurgents continue to fight the hated American soldier whom they have never met. Their hope is that the American soldier will just go away.

In Greek mythology, one of the followers of Ares, the God of War, is Oblivion (along with Pain, Panic, and Famine). Many who discover they have been used to commit atrocities will seek it.

From high above the ground: Stephen Roach on Globalization

Picture a bright blue ball just spinning, spinning free
Dizzy with eternity.
Paint it with a skin of sky, brush in some clouds and sea
Call it home for you and me.
A peaceful place or so it looks from space
A closer look reveals the human race.
Full of hope, full of grace, is the human face.
But afraid, we may lay our home to waste.
There's a fear down here we can't forget
Hasn't got a name just yet
Always awake, always around
Singing ashes, ashes all fall down.
John Perry Barlow

I can remember the first time I took a round-the-world business trip: business class seats, corporate charge card, first class accommodations, great meals, drinks in the evening and lots of meetings, passing of business cards and smiling.

It's a great way to do business.

But it's a horrible way to develop views on "the economy."

Ideas like globalization seem great while reading at 30,000ft with a nice cocktail, just served by an attentive stewardess, on the arm of your business class seat. I too was as enthralled with the idea as Stephen Roach seems to be when I was jet setting around.

Consider this passage from his latest report, Global Lessons: Notwithstanding the jet-lag and sleep deprivation, there’s nothing like the sheer exhilaration of peering into the inner sanctum of globalization. The more I travel the world, the less convinced I am that our “win-win” theories do this mega-trend justice. Nor do I believe that we should measure progress on the road to globalization by fixating on the quantitative metrics of surging cross-border flows of trade, capital, and information. In the end, globalization is more about the assimilation of shared values of a still very diverse world.

Wow- nothing like the sheer exhilaration of peering into the inner sanctum of globalization. And he's right. For people in his business, he is at the top, like a major league baseball player who just had his name called as a starter in the World Series.

Unlike baseball, however, which seeks only to entertain, these businessmen are, in theory at least, supposed to make the world a better place for the many. Sadly, it seems to me, from reading this and other panegyrics of his on globalization, that the beneficial end result of this incomplete experiment is assumed, which is usually a poor tactic when one is doing something new, and poorer still when it has been tried and failed.

Despite the facts of the last attempt, of which he is aware, Mr. Roach seems somewhat surprised at, in his words: the persistence of “localization” -- nations that remain more caught up in self-interest rather than in the collective benefits of an integrated global economy and world financial markets.

How foolish of national leaders to worry about the people in their nation at the expense of my jet-setting, er, um....I mean, the collective benefits of an integrated global economy.

In my view, these arguments of global utopia seemed more reasonable a century ago, before it had been tried and failed, disastrously. Perhaps he is right, but the only data we have suggests otherwise.

Einstein famously defined insanity as doing the same things and expecting different results. As trade tensions rise, military conflicts emerge and imbalances mount, the current experiment seems to me to be following a familiar path.

Perhaps this is tough to see from high above the ground.

The heretical oil weapon...then Autarky

One of the firmaments of neo-liberalism is the primacy of markets. The First Commandment of that faith might go something like: Markets are the ultimate arbiters of supply and demand truth and they shall not be toyed with. All shall accept the market price, for it is good.

Those who have seen the curious ways in which currency crises unfold or have read books like Perkins' Confessions of an Economic Hit Man are likely apostates to the faith. Markets and prices (and supply and demand) can be and are manipulated by the powerful.

I'm (hopefully) not writing anything new here.

One reason I bring up neo-liberalism is that it stands as the guiding philosophy behind globalization- the vision of an infallible market that will guide producers and consumers around the world in a wonderful global economic harmony.

Or at least it would if the powers that be could manage to stay in the shadows with their interventions and reasons therefore. But such is not the case.

President Bush recently shared his fear of "extremists and radicals" gaining control of oil and using that as a weapon.

Nawaf Obaid (a recently fired) advisor to the Saudi government suggested that one way to control the rise of Iran was to drive the price of oil down and thus drastically reduce Iran's (and Russia's and Venezuela's to boot) supply of currency. Steve Clemons of TheWashingtonNote has also heard similar rumblings so I guess Mr. Obaid isn't alone is his view, firing or no.

Going back a bit further, some have accused Russia of using natural gas as a weapon against the Ukraine.

These are heretical statements against the guiding philosophy of globalization. If nations are going to use markets and prices against other nations, i.e. engage in overt economic warfare, the whole experiment in once again trying to make the world safe for supra-national corporations will end much like the last one.

The thing about globalization as opposed to more self-sufficient (autarkic) models of political economy is that it leaves nations much more vulnerable to economic warfare in much the same way that a family with a garden, some trees to burn and one income is less vulnerable than a family with 2 computer programmers earning money.

Specialization is only great when your specialty is in demand.

As one who thinks a shift towards greater national, and even regional self-sufficiency (note that I wrote, shift towards, not copy North Korea) might be a good thing, I'm watching these heretical to neo-liberalism statements with some interest. The more talk there is about overt economic warfare, the more obvious a shift back towards some degree of self-sufficiency will become.

ps One other point about overt economic warfare, it doesn't begin and end with oil. Who knows, maybe somebody will get the bright idea to start buying up all the loose Gold in the world, and then see what happens to the US$, the IMF and the major US banks.

Olmert just says no...to ISG

Israel brushes off Iraq report, no to Syria talks
TEL AVIV (Reuters) - Israel's prime minister on Thursday said it was wrong to link the Arab-Israeli conflict with woes in the Middle East and ruled out any immediate talks with Syria despite a U.S. report urging negotiations.

ISG Report: a step in the right direction...but what about the oil?

Our country deserves a debate that prizes substance over rhetoric, and a policy that is adequately funded and sustainable. The President and Congress must work together. Our leaders must be candid and forthright with the American people in order to win their support. Iraq Study Group: Letter from the Co-Chairs

"What a novel idea," I thought to myself while reading the above excerpt, "using honesty to win support." And there is quite a bit of forthright discussion about the military situation in Iraq contained in the report, and some of the consequences of failure.

Credit where credit is due, this report seems to me to be a big step in the right direction. Of course, considering the starting point, it didn't take much to move forward.

The "major news" sound bite from Robert Gates' confirmation hearing as Secretary of Defense- We're not winning in Iraq- pretty much sums up the pre-ISG sentiment.

Whoa...we're not winning?

If that sound bite was a surprise to you, you might find the military assessment in the report fairly chilling.

The situation in Iraq is grave and deteriorating
Attacks against U.S., Coalition, and Iraqi security forces are persistent and growing. October 2006 was the deadliest month for U.S. forces since January 2005, with 102 Americans killed. Total attacks in October 2006 averaged 180 per day, up from 70 per day in January 2006. Daily attacks against Iraqi security forces in October were more than double the level in January. Attacks against civilians in October were four times higher than in January. Some 3,000 Iraqi civilians are killed every month.

And the assessment of the oil sector is not much brighter.

Iraq produces around 2.2 million barrels per day, and exports about 1.5 million barrels per day. This is below both prewar production levels and the Iraqi government’s target of 2.5 million barrels per day, and far short of the vast potential of the Iraqi oil sector.

Pleasantly surprised at this turn towards honesty, I took a look at the recommendations and almost fell off my chair.

To put it simply, all key issues in the Middle East—the Arab- Israeli conflict, Iraq, Iran, the need for political and economic reforms, and extremism and terrorism—are inextricably linked.

This view, if adopted, would be a huge shift in US policy. Previous attempts by Middle Eastern governments to link resolution of the several facets of Arab-Israeli discord to other negotiating items have been flatly refused.

Here's the first President Bush on linkage:

On the other question, I simply want to see us avoid what is known as linkage. And I think the American people more clearly see now what I mean by linkage because they watched the `Aziz press conference where the whole question was shifting -- trying to shift the onus away from the aggression and brutality against Kuwait and move it over and try to put the blame on Israel or try to shift the onus to the Palestinian question.

Again, it remains to be seen whether this view will be adopted, but it would be a significant carrot to offer at the negotiating table.

Of course, the Israelis would have to go along, and I wouldn't put my money on that development.

The willingness to discuss linkage and the rather candid assessment of the military situation were the positive aspects of the report, in my view.

On the less than candid, and thus, in my view, negative side, lies the discussion of oil.

The executive summary barely mentions oil, except to note that recommendations have been made. One has to go beyond the summary to discover them.

So I did.

The United States can begin to shape a positive climate for its diplomatic efforts, internationally and within Iraq, through public statements by President Bush that reject the notion that the United States seeks to control Iraq’s oil, or seeks permanent military bases within Iraq. However, the United States could consider a request from Iraq for temporary bases.

Hmmm, this sounds reasonable. The US doesn't want to control Iraq's oil or want permanent military bases.

But wait, earlier in the report I find this statement: Along with this military presence, the United States is building its largest embassy in Baghdad. USAToday described this "massive" embassy: The 104-acre complex — the size of about 80 football fields — will include two office buildings, one of them designed for future use as a school, six apartment buildings, a gym, a pool, a food court and its own power generation and water-treatment plants.

Seems like a permanent base to me. And I'm sure the Iraqi government will be persuaded to ask for a few more temporary bases.

Turning to oil, maybe the US doesn't want to "control" Iraq's oil.

What the US wants is to profit handsomely from oil exports, while a centralized Iraqi Oil company does the work.

The fear expressed in the report is: The politics of oil has the potential to further damage the country’s already fragile efforts to create a unified central government. The Iraqi Constitution leaves the door open for regions to take the lead in developing new oil resources. Article 108 states that “oil and gas are the ownership of all the peoples of Iraq in all the regions and governorates,” while Article 109 tasks the federal government with “the management of oil and gas extracted from current fields.” This language has led to contention over what constitutes a “new” or an “existing” resource, a question that has profound ramifications for the ultimate control of future oil revenue.

Apparently the use of euphemism and misleading language is not under US monopoly.

Senior members of Iraq’s oil industry argue that a national oil company could reduce political tensions by centralizing revenues and reducing regional or local claims to a percentage of the revenue derived from production. However, regional leaders are suspicious and resist this proposal, affirming the rights of local communities to have direct access to the inflow of oil revenue. Kurdish leaders have been particularly aggressive in asserting independent control of their oil assets, signing and implementing investment deals with foreign oil companies in northern Iraq. Shia politicians are also reported to be negotiating oil investment contracts with foreign companies.

Whoa, the natives are going to sign their own oil deals, sidestepping the central government, and by virtue thereof, us. This aggression, to quote the elder President Bush, cannot stand.

Thus Recommendations 28 and 63:

RECOMMENDATION 28: Oil revenue sharing. Oil revenues should accrue to the central government and be shared on the basis of population. No formula that gives control over revenues from future fields to the regions or gives control of oil fields to the regions is compatible with national reconciliation.

RECOMMENDATION 63:
• The United States should encourage investment in Iraq’s oil sector by the international community and by international energy companies.
• The United States should assist Iraqi leaders to reorganize the national oil industry as a commercial enterprise, in order to enhance efficiency, transparency, and accountability.
• To combat corruption, the U.S. government should urge the Iraqi government to post all oil contracts, volumes, and prices on the Web so that Iraqis and outside observers can track exports and export revenues.
• The United States should support the World Bank’s efforts to ensure that best practices are used in contracting. This support involves providing Iraqi officials with contracting templates and training them in contracting, auditing, and reviewing audits.
• The United States should provide technical assistance to the Ministry of Oil for enhancing maintenance, improving the payments process, managing cash flows, contracting and auditing, and updating professional training programs for management and technical personnel.

Here's a conundrum. If regional leaders in Iraq are already signing deals to develop oil fields, why does the US have to encourage investment in Iraq's oil sector?

I'm also wondering about the meaning of "control" because recommendation 63 seems to me an awful lot like what I would consider to be "control." If providing technical assistance to the Ministry of Oil for enhancing maintenance, improving the payments process, managing cash flows, contracting and auditing, and updating professional training programs for management and technical personnel isn't control, what is?

A few revealing omissions from the ISG report are:discussion of Production Sharing Agreements or the details of the Paris Club and IMF agreements with Iraq. The need to reach the euphemistic "milestones" was mentioned quite a bit but just what they were was not.

And this is the heart of the matter.

While there were other considerations, the US went into Iraq to gain some degree of control and profit from Iraq's Oil sector. And thus far, this aspect of the adventure has been a failure.

The only group who wanted central control of Iraqi oil were the Sunni, who were overthrown. If the Shia and/or the Kurds start signing contracts and exporting "new discovery" oil while the US imposed Central Government in Iraq is stuck doling out revenues from "existing" oil fields, this war will indeed, be, as Ret. General Odom has opined, the greatest strategic disaster in US history.

Some might wonder what I think the market impact of this will be.

I don't know, is my best guess.

But if pressed I think any relief over steps in the right direction will be short lived.

Having thrown out the issue of linkage, the Israelis will have to get on board or the plan will look as stillborn as Sec. of State Rice's New Middle East.

Moreover, it looks to me that the US is negotiating from a position of weakness, and that is a tough position in the great game. Additionally, the lack of forthrightness on the oil issue suggests to me that the prize is still desired.

The only way I can see the United States emerging from this fiasco without its tail between its legs is to give up on squeezing profits from the oil sector. If we can reproduce the sensabilities that led to the formation of Saudi Aramco, we just might be able to stay and play. If we try to impose and steal I think we are doomed in the region for a few generations.

All of which reminds me of the wisdom of the Powell Doctrine, which, paraphrased, means, don't start a fight unless you KNOW you can win and win big.

Archimedes and the carry trade

I'm in the midst of reading the works of Peter Dale Scott- a most enjoyable experience as the depth of the research is matched by the quality of the prose. Thus I'll take the easy way out today and present an internet exchange on carry trades and leverage some might find interesting.
_________________

Give me a lever long enough and a fulcrum on which to place it, and I shall move the world. Archimedes

A friend of mine recently expressed his concern over the prevalence of carry trades, and their reputed effects, in the FX and interest rate markets.

I responded that the problem, in my view, wasn't the carry trades themselves but the leverage used therein.

After a bit of to-ing and fro-ing, my friend asked: When the BOJ sets rates at 0% and the FOMC sets them at, say, 5%, doesn't this ultimately cause a net creation of credit into the system (albeit temporarily) which sets up an arbitrage system guaranteed (engineered) for those with access to that rate differential?

To which I responded: Yen and the US$ are two different currencies. They represent two very different sets of assets and liabilities. Selling Yen and buying US$s carries substantial risks: 1) inflation in the US is far higher (another way of saying that real rates are not so far apart as the nominal difference suggests) 2) the c/a position is reversed. If the currency market began to fear, say, capital controls, the Yen would rise very quickly vs. the US$.

This sense of "free money" via the carry trade, was, in my view, what tore the GBP out of the ERM in 1992. (It was also a prominent feature of the Asian crisis, when people sold YEN or even US$s to earn much higher Thai or Indonesian rates) Just as today, when investors are sure that the BoJ won't allow the Yen to strengthen too much, allow the US$ to fall too much, or that in such an event THEY COULD HEDGE (the flaw in the Black Scholes option pricing formula) investors in the early 90s were sure that the BoE and BBK would keep the GBP/DEM cross rate within the ERM band. Thus one sold DEM and bought GBP to earn the carry, assured that THE EXCHANGE RATE WOULD NOT MOVE ADVERSELY AGAINST THE POSITION.

In the event this view proved false. GBP were not DEM.

Today's currency carry trade investors will discover the same truth. YEN are not US$.

These trades, by the way, are not creators of credit. Credit can be created when banks that fund, say, hedge funds, allow them to trade with leverage, which was my original point.

Do you keep all your cash as cash? or do you look to place it in vehicles that provide more income? Thus you might sell cash, and buy a CD, or a bond, or even a foreign currency CD or Bond, hoping to earn the greater carry but not suffer the risk of investing in a different instrument. Thus you might have "carry trades" in your portfolio. But you do it without leverage, which allows you to keep a much cooler head.

Imagine trying to trade Gold with leverage of say 20 to 1. As we both know, it isn't fun to watch Gold lose 20%-30%, but at 20-1, 5% is death. Thus the craziness when rallies start to fade and roll over.

The problem arises when an LTCM has US$2B under management and US$100B in positions, lent them by banks, most of which seeks to arbitrage what they perceive to be "free money". Thus a 5% move in the underlying position, like the YEN/US$ exchange rate, wipes them out. A 20% move starts to make the banks who allowed the leverage, nervous, which is, in part, where the "contagion effect" comes from.

In most currency crises I've witnessed the problem was leverage; within the banking system itself, and/or the wider financial sector. Leverage always starts out by damping volatility only to increase it dramatically when unwound, as it must, so long as man confuses himself.

My guess is that you are imputing to the phrase "carry trade" a far wider range of events than the true meaning of the phrase denotes. A great many writers in the financial press do the same thing, which may be where your sense of the phrase arose.

But your "radar" for bad smelling things seems quite intact. Just as the equity mania smelled bad, (and was made far worse because of leverage) and the housing mania smelled bad (and was made far worse because of leverage-10% down is 10-1) so too do some of the cross currency carry trades smell bad. These trades are bad news, because there are no free lunches, at high leverage, they often cause crises.

On the plus side, such crises are when we get our pay day for owning hard currency.

I wonder if Archimedes ever imagined the world that would eventually be moved was the financial world.

Another nail in the "$ as reserve currency" coffin

One leading indicator which signaled the British Pound's removal as global reserve currency was Britain's loss of maritime dominance. When British ships could no longer make the world's seas safe for commerce, it just didn't make as much sense to pay them the "vig".

Today the United States earns the "vig" by keeping the world safe for commerce, although lately things haven't been so safe.

North Korea just tested a Nuclear Bomb, the Taliban are enjoying a resurgence in Afghanistan, oil exporting nations like Russia, Venezuela, and Iran are increasingly sidestepping the US to make direct non-market deals, mainly with China (which also happens to be side stepping the US left, right and center around the world making all kinds of bilateral deals), and Iraq edges ever closer to the taboo, "c"-word (no, not that c-word, "civil war").

If oil is the life blood of the modern global economy, it would seem that keeping that blood flowing would be as vital as it was for Britain to keep the seas safe for shipping.

So, as one who enjoys the perks of living in a nation collecting the "vig", I read Managing Director of the Saudi National Security Assessment Project, Nawaf Obaid's opinion piece in the Washington Post with some concern.

if a phased troop withdrawal [of US troops from Iraq] does begin, the violence will escalate dramatically.

In this case, remaining on the sidelines would be unacceptable to Saudi Arabia. To turn a blind eye to the massacre of Iraqi Sunnis would be to abandon the principles upon which the kingdom was founded. It would undermine Saudi Arabia's credibility in the Sunni world and would be a capitulation to Iran's militarist actions in the region.

To be sure, Saudi engagement in Iraq carries great risks -- it could spark a regional war. So be it: The consequences of inaction are far worse.

It seems to me that he is telling the US, if you can't fix the problem in Iraq, we will.

This would be a dramatic shift in Middle East politics, but consistent with the views of CFR Head Richard Haass, that the American era in the Middle East is ending.

In that event it won't be too much longer before national leaders begin to wonder if they are paying the "vig" to the wrong guys.

When deficits matter

If we let this debt linger, it will cripple our efforts to recruit great candidates for the next election and begin our drive to win the one additional seat we need to regain the Senate majority. Sen. Elizabeth Dole NC

Apparently not all debts are considered equal.

While the national debt is, at least according to VP Richard (Reagan proved deficits don’t matter) Cheney, not a cause for concern, the debt of the Republican National Committe is apparently a serious concern.

Won't a lingering national debt cripple our efforts to make this country a better place for our children? I guess not if the children in question have parents that are Senators.

Wouldn't it be funny to see the Republicans erase their debt and win back control of Congress just in time to discover that deficits do matter.

The more I watch this game the more I see political office as a game of Russian Roulette. Who would want to be in charge when the sh!t really hits the fan?

Off to the Doctors

An ice hockey injury forces me to visit an orthopod today, so I will leave you with a few words to ponder from Paulo Freire's Pedagogy of Freedom

To teach is not to transfer knowledge but to create the possibilities for the production or construction of knowledge.

Intellectuals who memorize everything, reading for hours on end, slaves to the text, fearful of taking a risk, speaking as if they were reciting from memory, fail to make any concrete connections between what they have read and what is happening in the world, the country, or the local community. They repeat what has been read with precision but rarely teach anything of personal value. They speak correctly about dialectical thought but think mechanistically. Such teachers inhabit an idealized world, a world of mere data, disconnected from the one most people inhabit.

The teacher who really teaches, that is, who really works with contents within the context of methodological exactitude, will deny as false the hypocritical formula, ‘do as I say, not as I do.’ Whoever is engaged in ‘right thinking’ knows only too well that words not given body (made flesh) have little or no value. Right thinking is right doing.

In the name of the respect I should have toward my students, I do not see why I should omit or hide my political stance by proclaiming a neutral position that does not exist. On the contrary, my role as a teacher is to assent the students’ right to compare, to choose, to rupture, to decide.

People who live in glass houses....

Ah, state sanctioned assassinations. Most nations do it, but surprisingly only foreigners are ever (well almost) accused.

Take the case of British WMD inspector/analyst, David Kelly, who died right before the Iraq War began, and who had some knowledge about Iraqi WMDs. His death was ruled a suicide (no foul play at all, move along) and to think otherwise was considered treasonous.

Then consider the case of Alexander Litvinenko. He gets ill after eating sushi, and Russian state sanctioned poisoning is all over the headlines. Three weeks later, he dies, and suddenly Polonium-210, a very radioactive substance, is discovered. How this got missed the first few weeks of tests, I'll never know.

I don't have any first hand knowledge of either man's death. Mr. Litvinenko may well have been poisoned as the papers describe and Mr. Kelly may well have slit his own wrists, as the Hutton Report averred.

But, the degree to which innocence is assumed on the one hand and denied on the other may soon begin to create some backlash. Anglo dominance of the globe is waning, while Sino-Russian dominance is waxing. I wouldn't be surprised to see Russia's Putin respond to yet another question about Mr. Litvinenko with a question about Mr. Kelly.

Moreover, something smells fishy about both these deaths, and it ain't just the sushi. Games within games as Frank Herbert used to write in his Dune books.

People who live in glass houses, shouldn't throw stones. You just might dash the illusions of benevolence that had been so hard to impose.

Is "The Hammer" about to have his Lamont moment?

I'm in the midst of excavating a water drainage trench around my new home site so I don't have much time to write, but as I promised, here's a few thoughts.

1) Is Henry, "The Hammer" Paulson about to have his Norman Lamont moment? Norman Lamont was Britain's Chancellor of the Exchequer when the GBP fell out of the ERM.

Watching Gold trade these days I get the feeling (and it is nothing more) that the US$ is about to suffer a substantial fall, (which implies many commodities would jump in price) in the face of intervention that gets swamped. $630 seems to be a line in the sand on Gold.

2) Google: Market Cap is currently north of $150B. Theoretically one could trade Google for 238 million oz. of Gold, or more than 6,600 tonnes (long). If "The Hammer" has his Norman Lamont moment at least we could trade Google for all the IMF Gold (or any other single central bank holding).

3) Google: a monetary unit of measurement - The military just asked Congress for about 1 Google to fight the wars in Iraq and Afghanistan. Thus far the US has spent a bit more than 3 Googles on the war.

I feel better already.

Have a Happy Thanksgiving

Back on Wednesday

I have other duties that will keep me away from the screen for a few days.

I'll be back Wednesday.

When Central Banks become Hedge Funds

Bank Negara's Paper Losses

Forays into Forex: Bank Negara's RM9.3B loss

I wonder who the next victim will be?

p.s. More Saturday...the golf course beckons...65 in mid-November in upstate NY

Prevention, preparation or cure: from medicine to money

God grant me the serenity
to accept the things I cannot change;
courage to change the things I can;
and wisdom to know the difference.
Reinhold Niebuhr

Patient: Doctor, it hurts when I raise my arm over my head
Doctor: Well, don't do that

One of the differences between Chinese and Western medicine (although the gap is narrowing quickly) lies in the approach to disease. Western medicine tends to focus on cures while Chinese medicine tends to focus on prevention. This western tendency to assume that cures are possible can be found in other schools of thought, such as climate change and economic policy.

A traditional Chinese doctor is far more likely to go on a house call than his western counterpart, because the Chinese doctor wants to see how you live. He wants to know what you did to get yourself in the state of dis-ease and get you to stop doing it.

A western doctor will spend far less time figuring out how the disease arose and far more time classifying your disease so as to prescribe a cure.

*note: the above are generalizations, there are western doctors who prefer a holistic approach and many new Chinese doctors who have adopted the curative attitude.

The advances of modern medicine, which are admittedly substantial, have, I believe, upset the balance in thought as to what can be changed and what can't. No disease is considered incurable, if such a condition exists today with respect to certain diseases, it is thought to be temporary. This expansion of the possible is not limited to medicine.

But some conditions humans find themselves in cannot be cured. In these circumstances, at best one can either stop doing the things that cause distress and/or prepare to live with the condition.

I often wonder if climate change will prove to be one of those things we cannot change. The debate, in my understanding, seems to center on whether such is occurring and if so, whether to impose a cure in the form of reduced carbon dioxide emissions.

Those who find that "pill" distasteful argue, in a wonderful show of reverse reasoning, that there is no disease. It would be akin to a man telling his doctor, "Because I don't want to go on chemo-therapy I don't have cancer."

On the other side of the issue, those who believe the globe is getting hotter argue that we need to reduce carbon dioxide emissions, assuming that the imputed relationship is causal, not coincident or even dependent. Faith in the efficacy of the pill is strong in these quarters. These people want to fight global warming.

I prefer a preparatory approach to the issue. If the globe is warming and, inter alia, sea levels are expected to rise, don't buy that beach front property.

Faith in the cure is even stronger in financial circles, particularly in the US. The decline in risk premiums from decades ago is evidence that faith in the monetary and fiscal authorities to cure economic distress runs strong. Discontinuities are thought to be things of the past.

This faith seems very unfounded to me, particularly in light of debates which arose during a recent ECB (European Central Bank) conference on the role of money in monetary policy. According to Fed Chairman, Ben Bernanke, even though Volcker's "monetarist experiment" to control inflation was successful and ushered in the low-inflation regime that the United States has enjoyed since, due to difficulties in measurement, brought about by deregulation, financial innovation, and other factors, that approach has been largely set aside.

In its place...well you got me there. Expectations management would be my guess, and apparently the guess of some at the conference. Mr. Bernanke was asked about the role of inflation expectations in Fed policy. He responded; "We do look at expectations. We think it's informative in a number of ways. But we certainly don't substitute expectations data for more fundamental analysis of inflation."

This seems a reasonable response until you recall his speech which stated that the Fed doesn't really look at money, presumably a more fundamental analysis of the issue. According to ECB President Jean-Claude Trichet, a model of monetary policy that includes no role for money is incomplete. In a recent opinion piece for the FT Mr. Trichet quoted Friedrich Hayek: It is self-contradictory to discuss a process [inflation] which could not take place without money and at the same time to assume that money is absent or has no effect. I'll second that.

I wonder if the Fed will begin serving freedom fries?

In financial circles, the US economy is thought by many to be bullet-proof, at least judging by market prices. Yet, in European economic policy circles, the US approach is considered unwise, much as Europeans policy makers thought US foreign policy was unwise. I guess the Europeans are more into prevention and less enamored of cures than we are.

Returning to the notion of expectations management, and in closing, Mr. Bernanke ended his speech on what seemed to me an ominous note: Although a heavy reliance on monetary aggregates as a guide to policy would seem to be unwise in the U.S. context, money growth may still contain important information about future economic developments.

Hmmm...a heavy reliance on monetary aggregates as a guide to policy would seem to be unwise in the U.S. context. Why would it be unwise? Perhaps because it would be increasingly difficult to manage expectations if the link between money and inflation was more central in Fed policy making, in the US context where money (and money substitutes) supply growth has been very rapid.

Better then to talk tough about fighting inflation, as part of an inflation expectation management strategy. Did you see the latest PPI and CPI figures?

Just in time for Christmas (oil)

US plans last big push in Iraq - Just in time to ensure that the right oil law is signed.

Dispensing with a Neo-Con canard

One of the Neo-Con complaints about Donald Rumsfeld, which only found a public airing after the fact, is that the he should have sent more troops, quite a few more, to subdue the insurgency. In hindsight, this argument seems to have merit, but the world isn't lived in hindsight.

With the benefit of hindsight, assuming one still agrees with the colonial adventure, the need for more troops is clear. Installing a number of permanent US bases in Iraq to ensure enforcement of the new oil PSAs was always going to require a significant troop presence.

But I don't remember this war ever being about control of oil resource or the creation of a new American colony in the Middle East while it was being sold to the American people.

Samuel Clemens wrote that fiction is obliged to stick to possibilities, the truth isn't. Thus the lack of troops in Iraq. As Paul Wolfowitz famously opined, For bureaucratic reasons, we settled on one issue, weapons of mass destruction, because it was the one reason everyone could agree on.

Removing WMDs and deposing Saddam were the raison d'être of the War during the sales pitch phase. The exercise was supposed to be a cakewalk because the people of Iraq would welcome US troops with open arms and gratefully accept our help in liberating them from Saddam.

And so many of them did, at first. Saddam was a tyrant. Troop levels were sufficient to depose the tyrant and search for possible WMDs. But the aims of the current executive branch were much broader than finding WMDs and deposing Saddam, which brings us to today's dilemma.

If, instead of settling on easy to sell bureaucratic reasons, the broader aims of opening Iraq for the oil majors, inter alia, were openly discussed the need for more troops for much longer periods of time would have been obvious.

But, I doubt if the American people would have supported the war so wholeheartedly if the plan sold on that basis. As Pat Buchanan argues often, colonialism isn't part of America's DNA. The idea of the consent of the governed, so firmly entrenched in the founding documents of the nation, particularly the Declaration of Independence is inconsistent with aggressive colonial expansion. This isn't to argue that there haven't been and aren't factions that desire such a political economy, but rather that, thus far at least, thankfully, adventures in colonialism need to be sold on a different basis than grabbing resource.

But let's assume, for sake of argument, that the American people would have, in theory, supported the idea of a Middle Eastern colony. As a practical matter, I doubt they would have been willing to pay the price, another stumbling block for the Neo-Con salesmen.

The War was supposed to pay for itself, as Wolfowitz argued: There’s a lot of money to pay for this that doesn’t have to be U.S. taxpayer money, and it starts with the assets of the Iraqi people…and on a rough recollection, the oil revenues of that country could bring between $50 and $100 billion over the course of the next two or three years…We’re dealing with a country that can really finance its own reconstruction, and relatively soon. Larry Lindsey and Paul O'Neill were dumped from the administration, in part, because they argued the war would cost much more than the public discourse suggested.

Ah, the tangled webs we weave. In order to prosecute any war successfully, as Colin Powell knew well, the aims of the war have to be clearly defined, and troop levels need to be overwhelming in light of that objective. The decision to sell the war on a fraudulent basis, while trying to obscure the eventual cost, all but guaranteed difficulty.

And that is one of the ways the mythos of any culture works on its people. It details behaviors that can be practiced overtly and those which need to be practiced covertly. In many cultures, for instance, one cannot proclaim that one intends to steal or kill if one wishes to avoid recrimination.

As Plato realized, the Homeric Mythos created archetypal heroes. Instead of kids wanting to "be like Mike" (in reference to Michael Jordan), or Tiger Woods, Greek children dreamed of being Heracles, or Achilles, or Odysseus. It was the hope of Christian fathers to replace this mythos with a new one, with new heroic exemplars, notably Christ. Likewise the founding fathers of this nation hoped to create their own mythos of liberty, with a new (perhaps additional would be, in some instances, more accurate) set of heroes.

For the United States to become a militarily imposed Empire, it will need to find a new soul, a new defining mythos. Until that time such adventures will always run into difficulties as the system works against its sense of self.

In that regard I take comfort that the Neo-Cons felt they had to lie. They knew their desires ran counter to the American soul described in our founding documents, and feared to test those waters.

Hubris as zeitgeist for dying empires

I've begun reading the views of Niall Ferguson, the latest incarnation of Oswald Spengler of The Decline of the West fame. Today's thoughts examine his view set out in Sinking Globalization, in particular the lack of focus on hubris as cause for decline.

For Ferguson, the causes that led to WWI, which he cites as the zenith of the last globalization attempt, are as follows:

• Imperial overstretch
• Great Power rivalry
• Unstable alliance system
• Presence of a rogue regime
• Hostility towards capitalism

While I agree with Mr. Ferguson in the sense that the above are contributing factors, I think there is a more basic aspect that is the primary cause, hubris, or the sense that one can achieve what one cannot. The zeitgeist (spirit of the times) of hubris was as evident prior to (and following in some cases) WWI, as it is today.

Ferguson notes: But it is worth bearing in mind that, despite numerous warnings issued in the early twentieth century about the catastrophic consequences of a war among the European great powers, many people—not least investors, a generally well-informed class—were taken completely by surprise by the outbreak of World War I.

I don't think people were taken surprise by the outbreak of WWI, rather I think the surprise was that they didn't win quickly and that the cost of, for some, "victory" was substantial in terms of both lives and property. Prosperity, as Bastiat argued, is not achieved by breaking windows.

Wars of aggression are started, I believe, because people in charge think they can win. Aggressive strategies are based on the assumption that victory is assured. Donald Rumsfeld's view that we can only lose the war in America, that we can’t lose it in Iraq recalls my post on the ex-Nixonites getting a do-over of Vietnam.

Equally the great powers prior to WWI were also sure they could gain something by going to war. Faith in the techne of war among policy makers was as high then as it is today.

In the event this faith proved to be unfounded. I suspect today's faith will prove equally unfounded. As Richard Haass of the CFR argues, the Iraq War may not be winnable. Hubris drives Imperial overstretch.

As noted above, however, the view that the Iraq War is unwinnable challenges the primary assumption of those who argue for war, i.e. that we can win. Thus the Neo-con lament that the war was not prosecuted vigorously enough. For the Neo-cons who argued us into the war, victory was possible.

But how would one define victory. As I argued in yesterday's post, one measure of victory would be the imposition on Iraq of a big-oil friendly PSA (production sharing agreement) which seeks to unwind the progress of Middle Eastern nationalists in gaining control over their resources. It strikes me as extremely ironic that the US, which became a major player in the ME with its decision in 1950 to split oil export profits at a then unheard of 50/50 ratio may end its dominance in the region by doing the opposite, i.e. imposing a we win-you lose agreement.

As John Marlowe argues in The Persian Gulf in the Twentieth Century: This agreement [between Saudi Arabia and Aramco] revolutionized all existing oil agreements in the Gulf. Win-win deals are so much easier to maintain and generate much more pleasant effects than win-lose, as we are likely to discover.

But it is not just the sense among the elite that one's will can be imposed on foreign nations that causes problems, the sense among the elite that one's will can be imposed at home is also a factor. A profound lack of faith in the common man's ability to sense that the narrative of the times is at odds with reality, which usually coexists with the corollary view that the narrative makes the times, rather than the other way around is the driving force here. The top down view dominates the bottom up.

In finance, one foci of Mr. Ferguson's research, this view is particularly pernicious. This view leads some to think the terms of trade are able to be imposed, not discovered by mutual agreement, but in practice this is always temporary, and at great cost. Concentration of power can also become a bubble.

The unwinnable War in Iraq then becomes an object lesson for the unwinnable Wars on domestic labor and to maintain US$ supremacy. Thus my fear that an inability of the US to impose its terms of oil trade on Iraq will lead to a sense that the terms of trade more generally can be adjusted. When you juggle too many balls they often all come crashing down together.

Hubris, as the Greeks tried to warn future generations, is the ultimate cause of both avoidable individual and cultural destruction. Empires are not destroyed from outside, the implode from within, or so I believe. Icarus didn't crash because the sun got hotter, he just flew too high.

All about O.I.L. (Operation Iraqi Liberation)

Steve Kroft (60 Minutes) Q: Mr. Secretary, what do you say to people who think this is about oil??

Rumsfeld: Nonsense. It just isn't. There--there--there are certain things like that, myths that are floating around. I'm glad you asked. I--it has nothing to do with oil, literally nothing to do with oil. Dec 15, 2002

Look back on the Philippines around the turn of the 20th century: they were a coaling station for the navy, and that allowed us to keep a great presence in the Pacific. That's what Iraq is for the next few decades: our coaling station that gives us great presence in the Middle East. US (ret.) General Jay Garner

Last week, I argued that the Democrat victory in the mid-term elections would not lead to a total withdrawal of US troops from Iraq. Today I'm going to explain my reasoning more fully. In brief, contra outgoing Defense Secretary Rumsfeld, it's all about oil, and debt is the means to that prize.

One of the tried and true tactics of western imperialism is the use of debt to gain concessions on resources. The game is simple, extend more credit than a nation can repay and then, when the debt becomes unmanageable, seize resources in lieu of repayment. This is, of course, a two way street. The debt could be refused.

From the British seizure of the Suez Canal in 1875, due to lack of Egyptian debt repayment, to the imposition of PSAs (production sharing agreements) on Russia during the Yeltsin era to the current attempt to seize Iraqi Oil fields, the script is familiar. Unfortunately, the end result is also familiar- unfair agreements eventually (in Iraq's case, the eventual is now) lead to greater nationalization.

Russia's decision to impose impossible to meet environmental regulations on the Yeltsin era PSAs are one means to thwart such attempts. Bolivia and Venezuela offer other examples of the eventual effects of these unfair, at least from the perspective of the oil owning countries, agreements. One main impetus behind the Iraqi insurgency against US occupation and the partitioning of Iraq is control of oil.

In Iraq's case, the $120B in debt owed internationally, which does not include the roughly $30B in unpaid War reparations imposed after Iraq's attempt to seize Kuwait, is the lever the oil majors intend to use. In 2004 the Paris Club of creditors (an agreement negotiated by none other than James Baker now of the Iraq Study Group) agreed to write off 80% of the $38.9B of debt owed its members in three stages.

The first 30% were written off immediately. The second and third stages, 30% and 20% respectively, are tied to completion of an IMF program. The second 30% will be written off when Iraq signs their new oil law, expected in December of this year while the final 20% will be written off when the IMF certifies the "success" of the plan.

The IMF program includes privatization in all but name via the PSAs which some in Latin America have come to call PnSAs (production non-sharing agreements).

Thus you can see that the "new direction" for Iraq spoken of by Democrats will not include a complete withdrawal. In order to stop a repeat of the 1972 nationalization of Iraq's oil, US troops will be needed for many years, and perhaps as long as the PSAs remain in force (up to 40 years).

Next month, then, becomes a critical point for world markets. Will the new Iraqi government agree to the terms on offer and will they be able to maintain centralized control? The Kurds have already drafted an oil law which gives them autonomy over oil in northern Iraq, an outcome that isn't going to make Iraq's central government, the Iranians or the Turks very happy at all, as it increases the risk of loss of part of their territory.

In Shi-ite dominated southern Iraq, according to the Guardian, the General Union of Oil Employees sees one of its key roles safeguarding Iraq's oil from privatization. The Production Sharing Agreements predicted to be the favoured contractual mechanisms for exploiting Iraq's oil for the benefit of big oil companies could cost Iraq between $74-194bn in lost revenue according to Iraqi Oil Policy Analyst Greg Muttitt. The union has condemned PSAs as another form of privatisation. It recently issued a statement to the Iraqi prime minister and oil minister declaring that if any future energy law contained PSAs, the union would ensure its failure, "whatever the cost".

Whatever the cost. Hmmm, them sounds like fightin' words.

Waiting in the wings, flush with an overhang of $ reserves, lie Russia and especially China.

Consider this scenario. China, having already announced its intention of diversifying its reserves, decides to use those reserves to buy Iraqi debt, or minimally to pay the Iraqi government such that they can service the debt, and, in return for the financial assistance, get their own concessions, presumably on less onerous terms, much as the US undercut the British in Saudi Arabia.

We will see what December holds but in the event the Iraqi government does not sign an oil law to Big Oil's liking the recent calls by John McCain and Joe Lieberman to increase troop levels in Iraq might come to pass.

Operation Iraqi Liberation indeed.

A few words on the word

What do the views of Richard Dawkins and Elton John have in common? In my view, they are both confused about the meanings of some common words. In Mr. Dawkins' case, the word is God (pun intended) and in Mr John's case, the word is religion.

Last night after reading to my son and putting him to bed I clicked on the TV and surfed around until I came across Richard Dawkins on C-SPAN polemicizing about God, to be accurate he was polemicizing about his understanding thereof. God, according to Mr. Dawkins' book The God Delusion, almost certainly does not exist.

This morning, via the Drudge Report I see that Elton John thinks that all religions should be banned because they promote hatred of gays.

If I agreed with the currently accepted in the mass media definitions of the words, God and religion, I would agree with the two views, but I do not.

Vaclev Havel, former President of Czechoslovakia, offers some insight into the problem in an essay, A Word about Words:

Words can have histories too.

There was a time, for instance, when, for whole generations of the downtrodden and oppressed, the word "socialism" was a mesmerizing synonym for a just world, a time when, for the ideal expressed in that word, people were capable of sacrificing years and years of their lives, and even those very lives. I don't know about your country, but in mine, that particular word-"socialism"-was transformed long ago into an ordinary truncheon used by certain cynical, monied bureaucrats to bludgeon their liberal-minded fellow citizens from morning until night, labeling them "enemies of socialism" and "antisocialist forces." It's a fact: in my country, for ages now, that word has been no more than an incantation to be avoided if one does not wish to appear suspect.

Indeed, words have histories and the two words I'm opining on today have long histories. One can easily substitute the word "God" or "religion", or in my country, "conservativism" into the paragraph above in place of "socialism" and see how the understood meaning of a word can change over time, although as Plato might remind, the true meaning remains, waiting to be discovered by those willing to leave the cave of consensus.

Mr. Dawkins is not a theologist. His education was in the field of evolutionary biology. Had Hitler managed to conquer the world, I suspect the effects of his eugenics program would likely have imbued the word "evolution" with fairly nasty connotations. Yet this, in my view, would not change the meaning of Darwin's work, the shift would have been in the general understanding of "evolution".

To cite a less charged example, consider the word, glamorous. Most modern western women would love to be called glamorous. Yet the meaning of the word, as listed in a dictionary is: An air of compelling charm, romance, and excitement, especially when delusively alluring; Archaic A magic spell; enchantment.

In other words, a glamorous woman is a woman who looks nice with makeup but looks much worse without. This recalls jokes from my frat boy days of taking a woman to bed and then waking up with an entirely different woman. How did it happen? She wore a glamour or spell which faded.

If one explained the above meaning to a woman and then called her glamorous she would likely not respond nearly as well as she would have if she was only aware of the conventional meaning and connotation.

It is at the conventional meaning of the words, "God" and "religion" that Mr. Dawkins and Mr. John rail. But instead of arguing that the conventional wisdom is wrong, they try to attack the words themselves, which creates some delicious irony.

In the beginning God created the heaven and the earth.

And the earth was without form, and void; and darkness was upon the face of the deep. And the Spirit of God moved upon the face of the waters.

And God said, Let there be light: and there was light.

And God saw the light, that it was good: and God divided the light from the darkness.

And God called the light Day, and the darkness he called Night. And the evening and the morning were the first day.
Genesis1:1-5

In the beginning was the Word, and the Word was with God, and the Word was God.
John 1:1

Both Bible passages quoted above speak to the notion of God as the word, in its abstract sense.

Words like "light" and "dark" allow awakened humans minds to mentally separate the two conditions, and to speak of them with other similarly awakened minds. Words like "earth" and "sea" allow those minds to further distinguish the phenomena of experience.

Words are the basis of all human conception, without them it seems to me that human reason would be of relatively little avail. It is through the word that man can access the collective wisdom (and folly) of the experience of billions over millennia.

Yet, in order to work properly, man needs to hold words in high regard. He must, for instance believe that the pen truly is mightier than the sword. Taking words for granted, abusing them, confusing them and distorting their meanings can have cataclysmic effects. The difference between modern man and savages is world view- a world view based on words. Dark Ages are one of the most significant prices man pays for a fall out with the word.

Considered that way, Mr. Dawkins written polemic on God seems quite ironic. Here is a man using words, in most cases, quite skillfully, in my view, to argue, admittedly unknowingly, against the very principle that gives them meaning. If Mr. Dawkins doesn't believe in God, he should stop talking and writing. Get it?

But he does believe in God. There he stood at a podium hoping to use words to persuade people to his view. Is he not giving a sermon? Does he not assume when he puts symbols on a page or makes sounds with his mouth that those symbols or sounds will evoke complex ideas in the minds of readers and listeners? That is faith in the word- in God. I think he could retitle his book The God Confusion.

Elton John, following in the footsteps of, inter alios, Ayn Rand, thinks religion is bad. Yet, what is religion but an organized set of beliefs, values and practices. How, I wonder, would one go about banning religions, without imposing a set of beliefs, values and practices? Prohibitions, whether persuasively or coercively enforced, flow from beliefs and values. Thus Elton John, like Ayn Rand, didn't want to ban religion per se, they simply wanted one more to their liking.

In Ms. Rand's case, she succeeded with Objectivism. No doubt she would have protested if one referred to Objectivism as a religion, but that is because that word had come to acquire a pejorative sense in her mind. Yet, Objectivism was a way to think about about and act within the universe, i.e. a religion. In the event, the organized belief structure of Objectivism suffered through the same problems other organized faiths have evidenced.

Man will always be man, doomed to be like a child wandering into the middle of a movie desperately trying to figure out what is going on. The key which unlocks those secrets is the word working in the minds of men.

p.s. A littel further into the Book Of Genesis, there is a famous little story about the dangers of eating the fruit from the Tree of Knowledge of Good and Evil. Here's an interpretation (note I did not write THE interpretation).

Once one starts reacting to the positive or negative connotations of words instead of their true meaning, one dies spiritually, i.e. you stop thinking.

Food for thought

Dsicontinuity as the wrath of the Market God

The chart above depicts the price, in terms of cents on the dollar, participants in this market were willing to pay in order to win one dollar in the event the Republican won the Senate. As you can see, election bettors were willing to pay 70 cents to win a dollar if the GOP won the Senate right up until it was obvious they wouldn't, at which point the price collapsed. This is a great example of the limitations of markets, which, admittedly, have their uses, but are not nearly what they are advertised, and by virtue of the huge bets placed, need to be.

There is an old adage among traders that the market is never wrong. If one interprets that to mean that the price is always the price, I agree.

However, if one extends that interpretation to mean that markets don't exhibit, sometimes radical discontinuities, as Black and Scholes did in their option modeling or as the efficient market theory argues, then I don't agree.

Yesterday, the PBoC spooked the markets a bit by speaking of FX reserve diversification. While there are a range of options, from the extremes of continuing to add to their reserves at the current pace to dumping their reserves altogether, open to the Chinese Central Bank, the potential discontinuity is apparent. Even a small change in reserve management will have significant effects, and given the over hang of US$ reserves around the world, a tipping point could be found following even a modest policy change.

My point being that there is a huge discontinuity lurking in our financial future. At some point, the world will face the fact that there is no way that dollar holders will ever be able to convert them into goods and services at anywhere near current prices. I don't consider this so much a failing of the markets as a human misunderstanding of their limits.

Human understanding, which is the basis of all markets, sometimes moves in great strides. Today Iraq is a sovereign nation ruled by Saddam's Baath party, and the next month it isn't; today the British Pound is part of the ERM, tomorrow it isn't; today the World Trade Center stands at the foot of Manhattan, tomorrow it doesn't; these are discontinuities.

At some point, the US$ will cease to be the preferred reserve currency. At that point we will learn that Warren Buffett was right, the WMDs were not in Iraq, but in our financial system.

To borrow from George Soros, the premise that is false is that market discontinuities don't exist. They do. The way to bet against it is by buying Gold.

ps On the topic of discontinuities, remember the President's assurances that Donald Rumsfeld would remain as Defense Secretary until Bush's term ended.....oops. That decision apparently even caught some of his own party members by surprise.

If you think there will be fair warning of a shift on the US$, you might want to think twice. If I recall, the Brits were adamant that the GBP would stay in the ERM, right until they pulled it out.