Wednesday, November 29, 2006

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?

Tuesday, November 28, 2006

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.

Monday, November 27, 2006

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.

Wednesday, November 22, 2006

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

Monday, November 20, 2006

Back on Wednesday

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

I'll be back Wednesday.

Friday, November 17, 2006

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

Thursday, November 16, 2006

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.

Wednesday, November 15, 2006

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'ĂȘtre 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.

Tuesday, November 14, 2006

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.

Monday, November 13, 2006

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.

Sunday, November 12, 2006

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.

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

Friday, November 10, 2006

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.

Thursday, November 09, 2006

Agreeing with Donald Rumsfeld

The great respect that I have for your leadership, Mr. President, in this little understood, unfamiliar war, the first war of the 21st century -- it is not well-known, it was not well-understood, it is complex for people to comprehend. Donald Rumsfeld's parting words

As the first sacrificial lamb headed for slaughter it opened its mouth and out came irony.

Yes, Donald, (I use the familiar as he is no longer an official) this war is both unfamiliar and little understood. Of course, obscurantist speech has that effect, does it not? As with many lessons in life, the virtues of plain speech are only recognized when the opposite choice has born fruit.

It's the deception, stupid.

The War in Iraq and the broader War on Terror, that is, the War on those who don't take US imperialism lying down is not well understood. The causes of the War
, to name a few, can be found in the US' choice, in the early 80s to not continue to reduce dependence on foreign oil imports, in the rapid success of Gulf War I, which inflated views of the efficacy of force, and in the fall of the Soviet Union, which led many, like Francis Fukuyama, to see Neo-liberalism as the final stage of political-economic development.

The glamour of utopia is always and everywhere seductive.

I also agree with Mr. Rumsfeld's earlier assertions that the War in Iraq is not at all like that in Vietnam. Fighting to maintain and/or gain colonies was still in (albeit waning) vogue in the 60s. Western dominance was a given. Notions of national sovereignty have strengthened in the intervening decades. The world, as Thomas Friedman put it, has flattened.

Vietnam was also not a significant trader on the world stage, as it did not possess or produce hard to find commodities.

Iraq, by contrast, sits on a sea of black gold, which can, as President Bush recently warned, be held from the market to mold opinion in importing countries, or be sold at substantial profit to build up military might. From this perspective, walking away from Vietnam was easy (although in the event it looked anything but) while walking away from Iraq will have major consequences- not insurmountable consequence, but painful nonetheless.

Before I create too much confusion, I'm not arguing that the decision to go to War was wise, or that the US should continue this adventure in colonialism. My argument is that the focus on finding a bureaucratic reason, to quote Wolfowitz, to sell the war to the people was detrimental to a real inquiry into the pros and cons of such a risky endeavor. The very fat (and getting fatter by the minute) tail in the study of possible future scenarios
of what if we lose was, as virtually every book on the topic argues, never discussed.

Cheney's one percent doctrine comes to mind, if there was but a one percent chance the US might lose the War in Iraq, given the cataclysmic effects of such an event, it should not have been pursued.

But it was pursued. And an ugly, non-spinnable reality unfolded, and unfolds still.

The US is caught in Iraq. To stay is to pour more lives and treasure into an unwinnable, or so I believe, exercise of a colonial world view which had already been disproven. It wasn't the end of history, but the lack of study thereof.

To leave Iraq lock, stock and permanent military base, is to admit that the American Empire is dead, and to begin to rationalize the US economy on apples to apples terms. For when the American Empire dies, the US$ will need to find its own level and the terms of trade will change, most likely not in our favor.

I, for one, will be happy to see the Empire go, for then I might find the country I read about, remember and still see about me in small pockets again. To use a sports analogy, it was the awareness of a probable loss that made the 1980 US Olympic Hockey Gold Medal so sweet. Being the underdog suits us, or so I believe.

I still have faith in the tenets of this nation and the people who believe in them.

But it will be a tough sell. Just as the end of wars leads to distress among the makers of munitions, the end of empire will lead to distress among its proponents, and they are many, on both sides of the political aisle.

I've been party to a few growing companies and that was always a fun experience-hiring new people, finding new office space and handing out bigger checks. What's not to like?

I was also working at Chase during the late 80s down sizing and that was not fun. Management at the time was a revolving door because few can survive for long as the bearer of bad tidings.

If Jimmy Carter found it a tough sell to get the US to conserve oil back when we only imported a third of what we used, back when the trade and fiscal deficits were orders or magnitude less, who will be able to sell conservation and sacrifice now? The meme of dominance will be hard to shake. So the final cuts will likely be ostensibly inflected from outside, perhaps China's recent comment about diversifying away from US$ reserves is the first of these.

Yes, Donald, the War in Iraq was little understood, by yourself. It did not need to be our Waterloo, Stalingrad or Suez, but barring some miracle looks likely to be so.

And we, or at least some of us, might find that it's OK. People are still happy in France, Germany and the UK.

Life goes on.

Wednesday, November 08, 2006

Swapping caviar for butter..but keeping the war

Way back in the dark ages, when your author was a mere child and the Vietnam War was a Democratic initiative, President Johnson's team dusted off a well worn phrase, "guns and butter" to describe his economic policy of coincidentally funding both the wars on Communism and Poverty. In 1968, Richard Nixon won the Presidency from Democrats by promising a victorious end to the Vietnam War with honor. However, neither a victorious end nor honor (nor Nixon for that matter) were seen when the US finally left Vietnam in 1975.

Even sweeping electoral changes which would seem to argue for a change in foreign policy often take years to manifest. While dissatisfaction with the War in Iraq likely (according to exit polls) fueled the termination of Republican control of the House of Representatives, the Democrats are only talking of "phased redeployment" not complete withdrawal with the redeployment conditioned on the Iraqis' ability to stabilize the country. I assume "stability" will be assumed to occur with the permanent US bases in Iraq intact.

In other words, the War in Iraq is a long way from over. As in 1968, the new boss will prove to be quite similar to the old boss in certain respects.

However, in other respects, the focus will shift. George Bush's economic choices of guns and caviar, or so I consider the choice to fund both the war and tax breaks for the rich will shift back to guns and butter, at least until the hard choices of funding entitlement programs is faced. I won't hold my breath for that one.

The Democrats New Direction for America consists of six items, or as they call it, six for '06.

  • Real Security - at home and overseas: reclaim American leadership with a tough, smart plan to transform failed Bush administration policies in Iraq, the Middle East and around the world.
  • Prosperity - better American jobs and better pay: raise the minimum wage and end tax credits for corporate job outsourcing
  • Opportunity - College access for all: make college tuition tax deduction permanent, cut student loan interest rates, expand Pell grants
  • Energy Independence - lower gas prices: free America from dependence on foreign oil
  • Affordable health care - life saving science:
  • Retirement security and dignity: Keep social security public, enact real pension reform to protect pensions from corporate looting

As you can see there are no calls for a rollback of empire, but rather a call to find a way to win. Without the financial benefits of empire, or so policy makers see them, funding the other needs will be that much more difficult. The empire experiment will continue for at least a few more years.

The Democratic plan, it seems to me, is merely to better appease the "unwashed masses", swapping caviar for butter. I expect this shift in focus will finally unleash the inflationary forces partially held in check by the rich man's penchant for investing in paper markets. As labor's share of national income rises under the Democrats wage push inflation will come back into play. Wall Street's share of the flow of funds will decrease.

Given the raised hopes of the populace following a successful, in the sense that the vote totals matched the polls, election, faith in the painless solution will initially grow. Democratic plans to maintain the empire and, for instance, end our dependence on imported oil will require massive investment and writedowns of obsolete infrastructure. Ending the empire dreams, which I believe inevitable, will also require massive writedowns. Faith in the free lunch is alive and well.

While the election of '06 was a referendum on the Bush doctrine, now seen as a failure, it wasn't a call for a shift to a more humble foreign policy. The US has yet to experience its Eden moment (in reference to Britain's Prime Minister from 1955-1957). On his death, the Times of London wrote that Eden was the last prime minister to believe Britain was a great power and the first to confront a crisis [Suez] which proved she was not.

The real financial reckoning will not arrive until America refuses to see itself as the driving nation of the world but rather one of many. In the meantime, the slow death of the US$ will continue, albeit, I believe, at a quicker pace.

All of which is not to argue that, as an opponent to the notion that the US should be an empire, I didn't find the election results heartening. I was surprised to see the benefits of incumbency (non-euphemistically: the ability to cheat, which has always been a feature of American representative government) so easily vanquished.

I'm merely arguing that, to borrow a phrase from the film, The Matrix, residual self image as an Empire tends to linger long after it is gone in fact. I can imagine skating from end to end during one of my hockey games, scoring when needed, but I can't do it anymore.

Monday, November 06, 2006

The spoiled brat trade

Many people can recall at least one spoiled brat event in their childhood. Having been on both sides of the issue, I can recall being both a doer and receiver of spoiled brat-ness, if you will.

As the specter of losing, for instance, a game of Monopoly or perhaps Risk might be a more appropriate choice, becomes too imposing to ignore, the spoiled brat flips the board over, thus destroying the game for everyone. The lesson is driven home-the spoiled brat is only willing to play if he is going to win. Losing, as many in the current administration have averred, is not an option.

For many of us, being a spoiled brat was a phase. We eventually learned (in my case, the hard way, by having my cousins throw me into a creek behind their house) that being a spoiled brat meant that nobody would play with us.

Fortunately, in my case, I was not born with a silver spoon in my mouth, and never had the goods such that people would overlook my bratty behavior. Others are not so lucky.

The administration of George Bush the younger seems filled with spoiled brats. This shouldn't be surprising as political dominance tends to bring out the spoiled brat in all of us. Thus Lord Acton's dictum about power corrupting.

So I wonder what the current bunch of brats might do in the event the Democrats win control of one or more Houses of Congress. A die hard brat might choose the real world version of flipping over the Risk board, by launching an all out nuclear war. I hope that won't happen. But there are other options.

Might the Republicans, in an attempt to show those uppity voters their error, demonstrate how the financial world might look without their support? What a wonderful lesson to teach the naive voters- here's what a vote for a Democrat really means: a cheaper US$, a swooning stock market and rocketing oil prices.

A big win for the Democrats might provide excellent cover for a much needed, in my view, repricing of American assets, which is to argue that I don't agree with the catalyst, but I do agree with the result. To the extent the current matrix of prices (a.k.a. the termf of trade) is more a function of intervention than equilibrium seeking, one would need such cover to effect any change. This too would not be new. A change in commercial corporate governance is often used by major shareholders as cover for a "cleansing" of known bad positions that can be blamed on the old regime.

Such cover might also be looked on as something of a gift from our external financiers. While China, for instance, rightly fears the wrath of its population in the event they need to take a hit on their reserves, if they can blame the problems on the silly American notion of changing governmental control, they might just go along.

We will see what happens tomorrow at the polls. More importantly, for my financially minded readers, we will see how the markets react to the news. I can almost see the Risk pieces flying through the air.

Friday, November 03, 2006

Right view, wrong vehicle for the $ bears

As my friend Stephen Plant and I learned while working for a NY hedge fund, there are two aspects to a good trade, divining the macro trend correctly AND implementing that view using the right vehicle. There are few things more vexing, as Warren Buffett and Robert Rubin have recently discovered, than divining the macro trend correctly, but implementing the trade using the wrong vehicle.

For instance, if you want to go long petroleum, buy the strongest component. Going into winter, other things equal, heating oil tends to be a better bet than crude or unleaded gas, while going into spring, again other things equal, unleaded gas will likely outperform crude or heating out.

In the arena of currency trading, the prevailing wisdom seems to be that only currencies issued by Central Banks count as currency. Specie, or what used to be known as hard money, apparently does not make the grade.

Thus Rubin, Buffett and many others have implemented their US$ bearish trades by selling the US$ index, or by selling $s against other currencies, like the Euro or Yen. Thus we have what Brad Setser calls the Club of Puzzled Dollar Bears.

One reason behind this restricted choice is the lack of liquidity in the Gold or Silver market compared to the currency markets. Speculators can sell a few billion $s without moving the relevant exchange rate much, while a purchase of $1Bil of Gold (50 short tons) would certainly move the $ Gold exchange rate. Ironically, the significant difference in liquidity between the paper money and specie markets seems to me a very good reason to buy specie.

Who knew the authors of the Gospels had insight into currency trading: Enter through the narrow gate. For wide is the gate and broad is the road that leads to destruction, and many enter through it.

Another factor arguing against the paper currency denomination of the short $ trade is the unwillingness to let the US adopt a "begger thy neighbor" policy a la the Plaza Accord when the rest of the world allowed the US$ to fall. The Chinese, to single out one nation, seem unwilling to take the same hit the Japanese took during the late 80s.

As a practical matter, this theoretical view has supporting empirical evidence. While the US$ has retained surprising strength vs. other currencies since Rubin and Buffett went short, it has fallen significantly vs. specie. According to Warren Buffett's wonderful annual letter to shareholders, Berkshire Hathaway began shorting the US$ in 2002.

Gold was trading at less than $350/oz during the whole of 2002, while Silver was changing hands at less than $5/oz. Meanwhile the USDX was falling from 120 to 103, the Yen (IMM) was rising from .75 to .875 and the Euro was rising from .86 to 1.04. Even if one assumes that Mr. Buffett picked the best entry points over the course of 2002 in the FX markets (120 in the USDX, .75 in the Yen and .86 in the Euro) the returns for the specie denominated short $ trade at current prices (Gold up 79%, Silver up 151%) far exceed even the best executed paper money denominated $ short trade (USDX down 28%, Yen up 13% and Euro up 48%). If the same trades were put on in 2004, the differences in returns are even larger (Gold up 49%, Silver up 78%) relative to the paper money markets (USDX down 4%, Yen down 7.6%, and Euro up 5% assuming an early year entry).

All of which is to argue, if you want to short the US$, buy specie or you risk joining the club of puzzled $ bears.

Thursday, November 02, 2006

Missing the (oil) beam for the (oil) mote

Give me a second here, Rush, because I want to share something with you. I am deeply concerned about a country, the United States, leaving the Middle East. I am worried that rival forms of extremists will battle for power, obviously creating incredible damage if they do so; that they will topple modern governments, that they will be in a position to use oil as a tool to blackmail the West. People say, "What do you mean by that?" I say, "If they control oil resources, then they pull oil off the market in order to run the price up, and they will do so unless we abandon Israel, for example, or unless we abandon allies. President Bush

And why beholdest thou the mote that is in thy brother's eye, but considerest not the beam that is in thine own eye? Matthew 7:3

In psychology, according to Wikipedia, psychological projection (or projection bias) is a defense mechanism in which one attributes ("projects") to others, one’s own unacceptable or unwanted thoughts or/and emotions. Projection reduces anxiety by allowing the expression of the unwanted subconscious impulses/desires without letting the ego recognize them.

I agree with the President, although I'd change some of the verb tenses and rearrange pro and an-tagonists. To wit:
I am worried that rival forms of extremists are battling for power, obviously creating incredible damage as they do so; that they have toppled modern governments, that they wish to be in a position to use oil as a tool to blackmail the World.

Oh well, at least a few guys will learn that one does not create and mold history to one's liking, the flow of the story of man envelops all men- it is a medium in which we all live, whether we are aware of it or not. I believe at best one can ride the waves of history, if you will, by getting ahead of the story. Attempts to create one's own waves often obscures the onrushing, "big one."