Rogoff, Reinhart, and minding your "D'oh"s and "Duh"s

"D'oh!" according to the Oxford English Dictionary (really!) is self--and-past-referential (think "eureka" with a self-deprecating slant) while "duh" refers, insultingly, to others without any sense of time.  In the words of Matt Groening, "so, you might say 'D'oh!' when you've been stupid, and 'Duh!' when you think someone else is being stupid, but then duh!, everyone knows that, right?"

Timing, as the saying goes, is everything.  In Carmen Reinhart's and Kenneth Rogoff's experience timing is the difference between enjoying bestselling author status and wearing a (metaphoric) dunce cap.  Examining centuries of history and most major trading nations of earth, This Time Is Different, their impressively researched, financial perspective on financial crises won them great fame, credibility and, I assume, money.    Based on the same data and premise- too much debt is bad- their paper,  "Growth in a Time of Debt", merely narrowed its focus to the public sector.   Their timing, and tone, with the benefit of hindsight, couldn't have been worse. 

Why?    

It's as simple as the difference between "D'oh" and "duh" and an interesting mental habit known as confirmation bias.

As evidenced by the wild who, how and why speculations following the Boston Marathon bombing, people's search for meaning in the face of disaster often leads inside rather than out.  Upset when the unthinkable becomes real, the threatened mind redoubles its efforts confirming other assumed aspects of "reality."  Those fearful of radical Islam before the bombing weren't surprised when first a Saudi National, and then Chechen immigrants were labelled suspects.  Their bias confirmed, no further questions needed to be asked.

This mental habit has its virtues. Imagine feeling the need to thoroughly examine a table's stability before putting a coffee mug down?  or a road's stability before driving?  A quick biased glance usually suffices for most.  Expertise in a field depends, in part, on informed bias.  An experienced auto mechanic (at least back when human diagnostics were the norm) usually narrowed down problems after a few questions, glances and a listen (whether they used this information to save you money is another matter entirely).

Sometimes, however, even well-informed bias misses warning signs hindsight, informed by consequence, can't ignore.  Homer Simpson's famous "D'oh!" got laughs because we've all been there.

For Reinhart and Rogoff, however, the crisis of 2008 wasn't a "D'oh" but a "duh" event.  Their bias wasn't a revelation occasioned by the crisis, its roots, as I'll soon explain, are much older than that.  The revelation was that others, influential others, didn't share their bias and maybe they could change that.

Years before This Time is Different was conceived Mr. Rogoff revealed his bias in a letter to Joseph Stiglitz just dripping with "duh": You seem to believe that if a distressed government issues more currency, its citizens will suddenly think it more valuable. You seem to believe that when investors are no longer willing to hold a government's debt, all that needs to be done is to increase the supply and it will sell like hot cakes. We at the IMF—no, make that we on the Planet Earth—have considerable experience suggesting otherwise. We earthlings have found that when a country in fiscal distress tries to escape by printing more money, inflation rises, often uncontrollably. Uncontrolled inflation strangles growth, hurting the entire populace but, especially the indigent. The laws of economics may be different in your part of the gamma quadrant, but around here we find that when an almost bankrupt government fails to credibly constrain the time profile of its fiscal deficits, things generally get worse instead of better.
 
Ouch!

In book form, their bias won them fame and fortune by eliciting "Doh"s.  Unlike the letter excerpt above with its reference to different laws in your part of the gamma quadrant, their book modestly hoped to give future policy makers and investors a bit more pause. 

That same bias, in the follow-up paper more closely resembled the letter in tone than the book.  In Congressional testimony, Carmen Reinhart wasn't sharing their bias to give pause, but to form policy.  Stripped of some nuance, and thus more actionable (politicians dream of such one-handed economists) correlation became dissent quashing causation. 

A unilateral causal pattern from growth to debt, however, does not accord with the evidence. Public debt surges are associated with a higher incidence of debt crises. In the current context, even a cursory reading of the recent turmoil in Greece and other European countries can be importantly traced to the adverse impacts of high levels of government debt (or potentially guaranteed debt) on county risk and economic outcomes.

There is scant evidence to suggest that high debt has little impact on growth.

Duh (ok, she didn't say that)

Another thing she didn't say was: In most instances, with enough pain and suffering, a determined debtor country can usually repay foreign creditors. The question most leaders face is where to draw the line. The decision is not always a completely rational one. Romanian dictator Nikolai Ceauşescu single-mindedly insisted on repaying, in the span of a few years, the debt of $ 9 billion owed by his poor nation to foreign banks during the 1980s debt crisis. Romanians were forced to live through cold winters with little or no heat, and factories were forced to cut back because of limited electricity.  
Reinhart, Carmen M.; Rogoff, Kenneth (2009-09-11). This Time Is Different


I copied the above from their book and am not surprised Reinhart didn't share it with Congress.  The story didn't fit what she was trying to sell.  In the event, Ceausecu's policy of austerity led not only to revolution, but his own execution.  That tale would have made for bad "optics" as they say in Washington.

 
Switching tone from "D'oh" to "duh" has its perils as explained here:  Duh is more derisive than doh. Perhaps because the word is associated with Homer Simpson, doh has a humorous quality about it. Duh is sometimes deployed with humorous intent, but more often for the purpose of mocking oneself or another. Put another way, saying duh in the wrong place at the wrong time could ignite a bar brawl. To my knowledge, no physical violence has ever been sparked by the word doh.

Dissenting economists, who'd previously been civil, dropped the gloves. Preferring to brawl in words and numbers rather than fists, the growing number of dissenters increased their scrutiny of the data.  Hell, it seems, hath no fury like an economist duh-ed.  Like Joe Wilson  fighting "stove-piped" data and the 16 words the dissenters' charges of cherry picked data, un-reproducible results, and excel coding errors started flying.  The damage, however, had been done.  Austerity in policy circles became a "duh".  I hope the bias doesn't lead to self-fulfillment.

In the event the US might have muddled through but for this, don't assume I'm laying the blame entirely on their, no doubt, well meaning shoulders.  To me, their bias was a catalyst which ignited another more commonly held bias.

Money not only matters, it matters a lot.

Hoping to give pause to austerity cheerleaders I'll offer a dissenting opinion (most likely to a chorus of "duhs" from the dissenting economists noted above).  It's not so much the size of the debt, it's what you do with it that matters.  Duration, source and relation of debt to current growth shouldn't be ignored but, in my view, the use of debt generated funds and the context of time and place are at least as important considerations.  While nothing is guaranteed in such matters, debt incurred to build hoped to be productive capital shouldn't incite as much worry as debt incurred to buy sports cars and vacation homes (or debt incurred to pay banks to hide the true level of debt).

What we in the US have been doing with debt sourced funds is a study for another time.  What we will do with it in the future is still unwritten.

Goldenfreude? how about Bankenfreude

Cheer if you will Goldbug bashers, but I suspect if Gold starts another swan dive, it won't be alone.  There may even come a time when you wish Gold would rise.

"Triumphalism," Paul Krugman opined in a 1997 New Republic article, "presents its own problems." Under the, dare I suggest, ironic headline, Superiority Complex, Mr. Krugman completed his thought: " though the "American model" has scored some important successes, it continues to fail in other respects, above all in generating an ever-increasing level of inequality. And we won't begin to address those failures if the national mood remains dominated by self-congratulation." He closed the article with sage advice for his readers: "The truth is that nothing in the experience of the last few years contradicts the idea that we could have a kinder, gentler economy that preserves the main virtue of the American system--high employment. All it would take is compassion. And a little less gloating."

Compassion, and a little less gloating might also help Mr. Krugman understand, rather than mock, Goldbugs- a label which, contra Krugman's caricature thereof, denotes a group exhibiting a very wide range of economic/investment views- while they are nursing their recently suffered monetary wounds. I imagine for every gold hoardin', gun totin', doomsday preppin' angry white male proclaiming the end of the world (they annoy me too),there's at least one confused, upset and perhaps unemployed person who's fed up with Wall Street's "head's I win, tails you lose" investment strategy, (or one, like myself, who believes structural reform-blocking rigidities in the developed world won't be overcome easily leaving only 2 eventual paths for excess liquidity, inflation or default). Those confused and unsettled Goldbugs, having witnessed a succession of bursting investment bubbles at home and more recently read about bank runs abroad might, not without justification, have decided to save in Gold, rather than a bank, or his mattress.

Mr. Krugman, alas, is not gloating alone over Goldbug's recent misfortunes. One clever soul coined the term Goldenfreude to describe his state of mind. Joe Weisenthal proclaims, EVERYONE Should Be Thrilled By The Gold Crash- a view echoed by Felix Salmon. Barry Ritholtz leavened his disdain for Goldbuggery with a sliver of compassion, I do not want to engage in Goldenfreude — the delight in gold bugs’ collective pain — but I am compelled to point out how basic flaws in their belief system has led them to this place where they are today. Gold, he avers, has no fundamentals and those who buy are engaging in the ultimate greater fool trade.

While living in SE Asia during their late 90s crisis I witnessed first hand one of Gold's great virtues- when a nation's banking system, and almost always coincidentally, currency, comes under pressure Gold holds its value. The haircut recently forced on Cypriot savers was far less than that inflicted on Gold by the market. In other words, despite recent declines I'd rather be holding Gold in Cyprus than waiting in an ATM line to withdraw my daily allotment of currency.

America, the gloaters might retort, is not Cyprus. No, it isn't, and I (casting off one aspect of Krugman's Goldbug caricature) sincerely hope we don't find ourselves in their financial straits. My bet is that such can only be avoided by further monetization AND, in the absence of rapid real sector productivity gains which don't exacerbate income inequality induced domestic tensions (unlikely given right wing intransigence on welfare state expansion or a domestic Modest Proposal a la Swift), wage and price inflation.

"A ha," Krugman, beating his gloating compatriots to the punch, would likely argue, "you Goldbugs are always talking about runaway inflation. Didn't you read my recent article mocking your inflation worries thusly: "But the runaway inflation that was supposed to follow reckless money-printing — inflation that the usual suspects have been declaring imminent for four years and more — keeps not happening."

I agree, and the absence of broad based inflation given the stimulus in an environment of limited structural reform outside the developing world is my concern. I suspect if Mr. Krugman would stop gloating, it might be his too (more on this below).  If the recent decline in Gold signals, as many gleefully hope, a decline in inflation expectations, might the US, and, I suspect, other mature industrial economies (Europe and Japan) be drawing ever nearer to a stall in growth followed by a liquidity crunch?

Consider this potential catalyst for the Gold crash. "Macroeconomic stimulus," said a US Treasury FX Report chiding Japan for the recent, now reversed, Yen slide, "...cannot be a substitute for structural reform that raises productivity and trend growth." We'll return to structural reform momentarily after a look at market reaction. The Yen's rapid recovery following this report's release was coincident with the Gold crash- perhaps both price adjustments represent market belief that inflation games (currency debasement either externally or internally) won't be tolerated.  With austerity the rage in European policy circles (we aren't far behind in that regard, thanks to the Republicans), competitive devaluation verboten and Gold signalling, to the cheers of many, declining inflation expectations, I'd be surprised if yet another liquidity crunch isn't around the corner.

Factors Behind the Forecast:  Structural Rigidities and Over-Leveraged Finance

Despite recent record profits, the US financial system, still dependent on a few highly leveraged (how else to achieve such profits in a low interest rate environment) TBTF banks, is far from stable. Many mortgaged home-owners are still looking up at the zero-equity line. Those cheering the absence of inflation simply, it seems to me, because such makes Goldbugs look stupid, might want to consider that in a highly leveraged economy, the cascading defaults of deflation- the "it" Bernanke assured us wouldn't happen here- always loom in the background.

Cheer if you will Goldbug bashers, but I suspect if Gold takes another swan dive, it won't be alone. As we've seen over the past few days, Gold price declines are mirrored to various degrees by oil, other commodities, and equities. Declining prices, if such becomes the trend, will lead to higher unemployment and, amplified by the former, declining house prices and rising foreclosures. In the teeth of such an event, some might be yearning for the days when Gold was rising and inflation was assumed. I'll admit, such a scenario favors the dollars-saved-in-a-mattress strategy rather than Gold ownership but both tactics are anti-investments ridiculed by Goldbug bashers.

The elephant in the room for the Goldenfreuders is the lack of structural reform in the developed world- an omission perhaps due to a focus on high frequency and exclusion of low frequency economic factors. Structural reform, for those unfamiliar, refers to changes in the capital structure (factories, transport systems, education programs, agricultural methods, etc.) that hope to produce more for less. China's rapid economic growth over recent decades is, in large part, an effect of these reforms such as the shift, in 1978, from communal to industrial farming.

Significant structural reforms are often resisted.  Consider the resistance some individuals display when asked to eat less, drink and smoke less, and exercise more.  Note, "when asked."  Change is much easier (but not guaranteed) when it's wanted.  Consider, for example, the rapid adoption of computers and cell phones.  I doubt even severe coercion could have done half as much in twice the time.  Fortunately the benefits of these new technologies were readily apparent and despite some resistance by, e.g., book store owners to Amazon, those individual losses were smaller than the aggregate productivity gain.  Those productivity gains created an environment where jobs were plentiful, further easing stress caused by the destruction economic creation usually entails- agriculturalists rarely coexist harmoniously with hunter gatherers but they produce more food per acre meaning, if the latter adapt to the new system, both groups can survive.

In cases when reform calls for the destruction of wealthy industries with government ties, substantial legal changes, or labor downtime and re-education for a significant portion of the work-force (especially in the absence of a decently funded welfare state), resistance can effectively block what would likely be widespread productivity gains.  Pre WWII rail transport in continental Europe seems a case on point.  International disagreements over railway standards and routes (an example of structural reform-blocking rigidities) kept the continent from reaping the productivity gains a fully connected rail system promised- and delivered, after a devastating war cleared away both dissent and, sadly, large chunks of the old rail system.  Expanding on von Clausewitz for the modern world (which finds the more apt term, political-economy, too archaic) war is not just politics by other means but economics by other means- the worst means, in my view.

Structural reform-blocking rigidities are, in a sense, other words for productivity sapping rent seeking- e.g. from a bottom up perspective, Luddites breaking machinery or US autoworkers striking to avoid being replaced thereby, and from a top down perspective, trade barriers (tariffs) or de jure monopolies (Britain's BBC prior to 1955).  Profits and Investments in rent seeking industries, particularly when higher productivity methods are known and feasible, tend to be misdirected from entrepreneurial activity (why make a better or cheaper widget when it's cheaper to bribe a competition stifling official?).  Bribery doesn't seem to me a very economically productive activity although it obviously benefits some while irking others.

For an example of a structural rigidity overcome consider recent changes in US law which reduced regulations on where and how (think fracking) petroleum products can be extracted.  Fracking has changed N. Dakota from a deficit to a surplus state and driven unemployment to near zero.  Before you send me a nasty-gram, I'm not arguing such is an unalloyed good- insufficient profits are likely flowing to those who have been and certainly will be negatively affected (this is no environmentally neutral practice).  I'm merely pointing out the positive economic benefits thereof.

To digress for a moment, first with an apology to the economically literate for the rudimentary and likely (to some) unsatisfactory treatment of these issues and second with further explanation thereof: the ideological (and physical) battle between communism and capitalism over the past two centuries is the battle between productivity and people.  In my view, productivity is most effectively and durably enhanced at an imaginary "sweet spot" between radical laissez faire (think Ayn Rand) and communal ownership (Marx).  Transfer payments, whether private (charity) or public (government welfare) are, in my view, necessary to ensure social cooperation within the capitalist framework.  Domestic dissent is a sign that transfer payments are, whether as a result of insufficient funds or inefficient distribution, not performing their function.  Labor dissent in many developed economies (Occupy and austerity protests in America and Europe respectively) suggest to me a hopefully solvable but currently intractable transfer payment crisis.  The pendulum has swung too far right which isn't meant to obviate calls therefrom for greater transfer payment efficiency.

Cheers for the Gold crash sound to my ears like cheers for austerity in Europe and further dismantling of the welfare state in the US. If Japan needs inflation now, don't we as well? Perhaps we too should join the Euro? and give up our right to buy time with inflation?

I'll close with a look at another structural reform-blocking rigidity whose removal might justify a moment of schadenfreude. The phrase "Too Big To Fail" speaks to a de jure monopoly of sorts for those protected banks.  Potential competitors were blocked from taking over business which would have looked elsewhere for financial services absent government support.  Competition was stifled and the public debt increased.  I believe, but for delusional faith in the virtues of these institutions (more below), a less costly, competition enhancing solution could have emerged from the crisis of 2008 and resolving that rigidity would have eased tensions between labor and capital. 

Consider: Would current budget negotiations in the US be so contentious in the absence of the recent bail-out and additional debt incurred?

Returning to the delusion, TBTF banks remind me of Alchemists wasting labor and resources trying to turn lead into gold, or, more accurately, trying to squeeze more profit out of trade than trade generates.  Finance, at best, facilitates trade. In practice it records, analyses, calculates and communicates. What Amazon did to the local book merchant a similar company (or 5 or 20) can do even more effectively to finance.  Surely networked computing should decrease the cost of finance for the rest of the economy. 

On the bright side, the presence of rigidities suggests greater future productivity upon their resolution, although it would be tragic if such resolution comes via violence rather than diplomacy.  I believe a new cooperation enhancing agreement between labor and capital is possible.  Given the European example, I believe American energy efficiency can be increased.   As noted above, I believe American financial efficiency can be greatly enhanced through the dissolution of TBTF. 

When that happens I'll suggest a new word- Bankenfreude- and might even indulge in some myself.  I'll swap my Gold for currency and put it back in the game.  Until then, I'll remain a Goldbug.

Full disclosure (if it wasn't obvious) I own gold.

On NFL Referees and Owner Lock-Outs I'd Like to See

From a Capitalist perspective, even CEOs are workers

It's a sign of the times that labor disputes often collapse not into strikes but owner lock-outs.  Capitalists have surely taken the upper hand. 

Or have they?

Regardless of whether workers walk off or owners lock them out, consumers still have a decisive say in these matters.  If, for instance, NFL replacement refs had performed their function without too much fan (i.e. consumer) complaint, locked-out refs would have lost their bargaining power (and perhaps their jobs) while owners would have increased profits.

Alas for the owners, NFL consumers were none too pleased with "scab" refs who seemed at times baffled by the speed of the game and subtleties of the rules.  Score one for the workers, and I'll add, Capitalism itself where the market is supposed to rule.

Sadly, it seems to me, hard-nosed Capitalist battles tend to be fought in these most trivial of pursuits- sports (don't get me wrong, I love sports, still play men's league ice hockey and really want my NHL).  By trivial I refer to the product sold, which doesn't directly add anything to national goods supply (yes there are indirect, likely not insubstantial, effects).  Consider the NHL or early season NBA.  Consumers of these products weren't starving for anything other than entertainment.

I'd love to see these hard-nosed Capitalist battles taking place in less trivial pursuits.  I'd love to see Roger Goodell named as Commissionner of the new National Banking League (NBL).  His take no prisoners and let the market sort it out approach seems to me just the sort of thing a true Capitalist (and these bankers sure love to talk about being epitomes thereof) would appreciate.

C'mon bank owners, hire someone who would really fight for YOU for you are indeed on the endangered species list.

Mr. Goodell would likely find the recent shrinkage of the NBL distressing (remember those two great teams of yore, Bear Stearns and Lehman Brothers) and would be seeking expansion, rather than contraction.  Given the harsh penalties given to New Orleans Saints' management over Bountygate, I'd love to let him sink his teeth into say, the LIBOR scandal.  Further, in the same way that Mr. Goodell has locked out players and refs, he could lock out senior bankers/traders who warn of economic collapse if their bonuses and salaries aren't paid. Heck, we could have a salary cap for bankers!

Let the market sort things out!

Goodell for NBL Commissionner!

Funny thing is, I'm pretty sure the replacement bankers would do a far better job than the replacement refs.  After all, the current bankers have botched things up far worse than the Seattle-Green Bay game, don't you think?

Oh, well, a man can dream.

Kidding aside, US financial problems are not an effect of too much capitalism, but too little- active owners seeking to maximize profits are necessary.

Romney, America's Churchill?

I have not become the King's First Minister in order to preside over the liquidation of the British Empire. Winston Churchill

I can imagine President Romney repeating some version of Churchill's view at his first State of the Union address.  "I did not get elected President to act as liquidator of the American Empire."

In Churchill's case, he likely meant what he said without realizing that liquidation was the most likely outcome following their military losses (which destroyed any sense of British superiority among the colonized) especially given Americans' anti-imperial sentiment at the time. 

A President Romney, if such proves to be the case, might not not mean what I imagine him saying and might even desire just such an outcome.  After all, Bain Capital did evidence some expertise in profiting from liquidations.  This is, of course, a serious allegation- disingenuously seeking the office of President of the United States merely to profit from empire liquidation.

Yet, judging from the now infamous (or laudatory, depending on perspective) video of Mr. Romney's unvarnished views, he seems well aware of America's precarious fiscal situation and even used the term "bankruptcy" in reference thereto as if such was a perhaps preferable certainty. It might also explain Romney's apparent inability to capitalize on the poor economy.  Like John Paulson, Romney might be betting on a crisis. 

Audience member: The debates are gonna be coming, and I hope at the right moment you can turn to President Obama, look at the American people, and say, "If you vote to reelect President Obama, you're voting to bankrupt the United States." I hope you keep that in your quiver because that's what gonna happen. And I think it's going to be very effective. Just wanted to give you that. 

Romney: Yeah, it's interesting…the former head of Goldman Sachs, John Whitehead, was also the former head of the New York Federal Reserve. And I met with him, and he said as soon as the Fed stops buying all the debt that we're issuing—which they've been doing, the Fed's buying like three-quarters of the debt that America issues. He said, once that's over, he said we're going to have a failed Treasury auction, interest rates are going to have to go up. We're living in this borrowed fantasy world, where the government keeps on borrowing money. You know, we borrow this extra trillion a year, we wonder who's loaning us the trillion? The Chinese aren't loaning us anymore. The Russians aren't loaning it to us anymore. So who's giving us the trillion? And the answer is we're just making it up. The Federal Reserve is just taking it and saying, "Here, we're giving it.' It's just made up money, and this does not augur well for our economic future.

You know, some of these things are complex enough it's not easy for people to understand, but your point of saying, bankruptcy usually concentrates the mind. Yeah, George.


Yet such an outcome is not a fait accompli (although we might well be seeing, as Churchill put it, the end of the beginning of that process).

As Alicia Munnell of the Boston Fed noted in reference to the use of the SS "Trust Fund:"

The conventional argument, and the one just alluded to, is that whether or not government saving actually occurs will depend on how the assets in the Social Security trust funds are used. If the reserves are used to finance current consumption - for example, to pay for current outlays in the rest of the budget - no real saving will occur. On the other hand, if the government alters its spending and taxing patterns to produce surpluses at the federal level - not just in the Social Security trust funds - the nation will enjoy higher saving and investment. 

That argument is basically correct. The only difficulty is that it characterizes all government spending as consumption. Clearly, the building of roads, bridges and other types of physical infrastructure is just as much an investment as the construction of any factory in the private sector. Equally important, however, is investment in human beings, because future output will depend upon having a healthy and educated work force. In other words, money spent on nutrition programs for pregnant women, on health care for poor children, and on Head Start programs will contribute just as much as physical investment to ensuring that we produce lots of income in the future.

The implication is that if we were doing a careful and serious job of assessing whether trust fund surpluses were adding to national saving, we would have to do more than look at whether the non-Social Security portion of the budget were in deficit or surplus. If the Social Security trust fund surpluses were used to finance new health or educational programs, they would be adding to future income just as surely as if they had been invested in General Motors stock.


In other words, and applying her views more broadly (including a wider range of investment options), it seems to me Americans need to choose (and soon).  Either we liquidate or we invest in making the nation much more efficient at producing and distributing the goods to whom they have been promised- in effect, making real the money "made up" by the Fed.  Neither choice will be pleasant and the latter may not be feasible given the divisive politics of today, although I have faith, should the political will be found the technology would be possible.  "Kicking the can down the road" makes the former option an eventual certainty.


Whether President Obama is the man for the latter job remains to be seen.

Let's Fold Vegas

If US cities were poker hands, America's invisible hand would have folded Las Vegas long ago for there is nothing capitalist about gambling.  Aside from being an anti-capitalist theme park (about which, more later), Vegas, as it is affectionately known, competes with Southern California, wherein a large portion of US fruits and vegetables are grown, for Lake Mead's water.  Me, I'd take food over black jack any day.

If I were a talk radio host I might authoritatively assert, "we should just shut Vegas down, move the people elsewhere in the country and be done with it- simple, really."  Fortunately (for both you and me) I'm not a talk radio host and thus, on occasion, take a moment to reflect on the practical difficulties of policy proposals. 

Can you imagine the hue and cry from the media (jealous, no doubt, at the attention I'd be receiving), the various governments (rightly fearing a loss of tax revenue), the banks (who'd have to increase the pace of debt write-offs with no hope of return) and, last but not least, the people forced to relocate.  Yep, it's an absurd idea.

Except it isn't. 

Vegas was a bad bet.  Yet not only have we (i.e. us Americans, to greater or lesser degrees) continued to play it, we've bet heavily on what is a sure loser.  Consider.  It is a city which produces nothing economic, yet requires not only a large volume of water (precious stuff in the desert), but electricity as well.  Imagine the boon to other users of Colorado River hydro-power and water if Vegas was allowed to return to the desert it was.  Imagine the economic benefits accruing from reallocation of Vegas labor into more economic pursuits than income redistribution.

What's that, you say, gambling isn't economic?  Nope.  Gambling is as un-economic as theft.  Income changes hands but nothing comes from the exchange.  In a sense, Vegas is like Wall St.- a place where economics eats its own arm.

Nonsense, you say, Wall St. is about investing, not gambling.

Not so much these days, I counter.

Consider a few definitions before hyper-ventilating.

Gambling: a zero-sum game in which money changes hands leaving the world in exactly the same state

Investment: a non-zero-sum game in which money is exchanged for capital which is put to use in the pursuit of profit, thereby changing the world (admittedly sometimes not for the better) in the process

How much of Wall St. engages in the former instead of the latter?

But I digress.

As a practical matter folding Vegas would be difficult for us.  The US has proven its skills breaking virgin territory, and its impotence in reforming already existing territories (see also nation building).  China, by contrast, would have little difficulty evacuating Vegas, just ask the millions of former residents of the Three Gorges Dam area. 

On the topic of evacuations, Michael Bloomberg is probably scratching his head wondering why it was so easy to evacuate much of lower Manhattan in August and now so difficult to evacuate Zuccotti Park but a few months hence.  Note to Mike, it wasn't the police, but the shared sense of dire consequence if they didn't evacuate in August, and, I suspect, if they do evacuate now- the fear of being swamped by Irene or Wall St. respectively.

In a sense, Occupy Wall St. wants to fold Vegas too- the Vegas that is Wall St.

I can't say I blame 'em.  Let's fold Vegas, stop gambling and start investing (which, as an added benefit, might give some of the protesters something better, i.e. working, to do- just saying).  Why are we taking lessons (or, as seems more the case, not taking the lessons) on Capitalism from China?

ps As a closing note, I sometimes chuckle to recall the vigor with which men like Morgan and Rockefeller fought to avoid exchanging their businesses for money- they much preferred the latter than the former.  These days many can hardly wait to sell out.  There might be a lesson in that.

pps As I recently received notice of a (now-deleted) comment on this post which assumed my view was more literal than metaphoric let me set the record straight. I'd much rather get Vegas out of Wall St. than Nevada (although the latter has its merits).

The Price of Bank Immortality?

ZURICH, Sept 6 (Reuters) - Switzerland is set to partially meet a U.S. ultimatum and deliver an estimate of the amount of assets held by U.S. residents in secret accounts at Swiss banks, possibly up to $30 billion, a newspaper reported on Tuesday.

Citing unnamed sources, the TagesAnzeiger reported that Switzerland would hand over on Tuesday details that the FINMA financial markets regulator has gathered from banks in recent months on accounts held by Americans with more than $50,000. Thomson/Reuters

If you happen to be one of the reported tens of thousands of US citizens with a hidden account in Switzerland, now might be a good time to contact a tax attorney and take advantage of the IRS' Offshore Voluntary Disclosure Initiative (OVDI) which expires on 9/9/2011.  If UBS' previous disclosure of a few hundred US account holders back in 2008 didn't faze you, and the above news excerpt doesn't scare you, indulge me a few more minutes of your time.  The days of bank secrecy, at least for big banks which have needed bail-outs, may be ending.  In the not too distant future UBS' acronym might better be translated as Used to Be Secret, and they might not be alone.

Modern Technology, goes the cliche, has transformed the world.  Within the last century armies lost the ability to be formed and moved in secret as satellites peer down on the world.  Untold millions of cameras record our every move in both urban and suburban areas augmented by camera equipped police cars on the roads.  Computers listen in on our phone conversations and eavesdrop on email, searching for key words or phrases begging, and receiving, deeper human scrutiny.

The practice of Finance has also been transformed.  When I worked at Chase Manhattan in the late 80s deal tickets were hand written and confirmed either by phone or Telex.  Auditing bank trading and accounts required hundreds of accountants and many trees worth of paper.  Bank secrets were easier to keep if only because of the manpower required to unearth them.  Now the same technologies which allowed banks to cut thousands of back office employees from payrolls are being used to scrutinize account holders and their transactions.  Automated Database searches can do in a millisecond what used to take millions of man hours.

Clever minds at the IRS (and, I suspect,  the Treasury and Military) were no doubt quite pleased to see banks adopting the new technology.  As satellites made it extremely difficult to hide an army, networked computer bank records will make it extremely difficult to hide a financial transaction.

How long (if such isn't already being implemented covertly) before governments around the world have real time access to all account data?  Imagine a world in which you no longer file your taxes, the IRS simply sends you a bill or return.  Worse, there may be no tax bills or returns as withdrawals are made directly by the IRS, in real time.

Forget about the declining separation of church and state (and aspirations of the union thereof by US right-wing zealots), a more pressing concern might well be the declining separation of money and state.

Of course, as bastions of Capitalism, at least according to their press releases, the Big Banks would, you'd think, surely object to any such union.  Alas, these institutions have, it seems to me, chosen immortality, granted by the state, in return for much greater scrutiny.  UBS (Used to Be Secret) tried to fight a July 2008 John Doe summons of US account holders, but they quickly folded, not long after US government support of AIG gave them a back-door bailout (how causal the coincidence I leave to you to decide).  One wonders how many clever bureaucrats watched banks increase their credit market leverage hoping the inevitable collapse would leave them with real leverage over the banks.

Of course, the battle over this issue is far from over.  Banks will fight to maintain what they can of client secrecy.  Yet, if they keep lining up at the bailout line, they can hardly be expected to bite the hand feeding them.  Lack of solvency will equal lack of secrecy.

It would be ironic if big banks and their clients lost their autonomy, and potentially their wealth and freedom (penalties are most severe) by forgetting one of Capitalism's maxims, there's no such thing as a free lunch (or bailout).

Why is the Invisible Hand in My Pocket While China Grows Unchecked?

Gold Soars.  Stock Markets Tank.  US Debt Downgraded. China Calls for End to Dollar Dominance.  Riots in London. 

Devotees of Rapture Theory are likely wondering why they got left behind during the Tribulation.  More worldly, modern persons, who eschew eschatology might nonetheless be worrying about TEOTWAWKI (which is, ironically enough, the same thing).  Devotees of Cyclical Theories of History (Kondratiev, Strauss and Howe, Hinduism) are likely seeing the end of a K-wave, the Fourth Turning, or the coming of Shiva, respectively.

Was it just a little over a decade ago that the New American Century was dawning?  History itself, according to some, was ending.  With free markets across the globe open 24 hours a day the invisible hand was sure to make our future bright.

Then the invisible hand started picking pockets, crashing the Tech market in which many had invested, and foreclosing on houses in which even more had not only invested but lived.

What happened to the invisible hand?  Was it always just a scam- a means to shift income to an increasingly select few?

Back when Francis Fukuyama was proclaiming the End of History, faith in the free-market inspired invisible hand's virtue was hard to challenge publicly.  A few years ago, echoes of that faith still resonated, as was evident when the presumed bastions of free markets, the banks, were saved from the effects of their own unwise speculations and lending.  Today, the natives seem a bit (in London, a lot) more restless.  It might, given current conditions seem a bit odd to resurrect that rapidly fading totem so let me try to explain.

Recently I've been reviewing the work of Mancur Olson, particularly the role of interest (or ownership, if you wish) in fostering an invisible hand effect, or in the US' case of late, the lack thereof.  In The Economics of Autocracy and Majority Rule: The Invisible Hand and the Use of Force Martin McGuire and Mancur Olson argue persuasively (in my view): that whenever a rational self-interested actor with unquestioned coercive power has an encompassing and stable interest in the domain over which this power is exercised, that actor is led to act in ways that are, to a surprising degree, consistent with the interests of society and of those subject to that power.  In other words, for the socially virtuous invisible hand to manifest some person or group has to think they own now and will in the future, their domain- that they are part of the realm. 

McGuire and Olson's argument begins with a hypothetical discussion of a bandit's transition to a benevolent dictator: Consider the interests of the leader of a group of roving bandits in an anarchic environment. In such an environment, there is little incentive to invest or produce, and therefore not much to steal. If the bandit leader can seize and hold a given territory, it will pay him to limit the rate of his theft in that domain and to provide a peaceful order and other public goods. By making it clear that he will take only a given percentage of output – that is, by becoming a settled ruler with a given rate of tax theft – he leaves his victims with an incentive to produce.

According to this view, free markets, which were apparently considered a condicio sine qua non- a necessary condition- of the virtuous invisible hand are rather simply a medium for aligning interests, which can be either those of a bandit or of a long term owner.  Multiple financial crises over a relatively short period of time are a sign that banditry, not long term ownership are the aims of large players in our free markets.  What long term owner wants multiple crises over a short period of time?

For a real world example of the difference between a bandit and an owner, consider the case of JP Morgan.  Whatever his initial designs as a young man, from his mid-50s until the creation of the Fed in 1913 Mr. Morgan had great power over (owned, some rightly argued) American finance.  As McGuire and Olson argue, the more control he gained the more he seemed to care about systemic solvency, of course, not without expecting great gains for himself.  Morgan knew that long term American financial difficulties were not at all in his interests.  A growing American economy was a condicio sine qua non for a wealthier JP Morgan.  While hardly a benevolent dictator, I hold to my view expressed here:  I’m confident if JP Morgan were running the Fed, credit growth would have been restrained long ago.  There is some merit to having someone "own" an issue- unlike Greenspan, Geithner, Rubin et alios, who claim no responsibility.

These days, American finance is run and regulated by people who have much less "skin in the game."  As I argued previously (here): It's apparently much better to work in a senior position at a money center bank than to own one.  For JP Morgan, risking insolvency to make Wall St. analysts happy would have been absurd.  The benefits accruing to him (higher dividend pay-outs for a few quarters- selling bank shares was considered silly then) would have been overshadowed by the potential loss in corporate stock value.  Today's money center bank CEOs, whose compensation is heavily skewed towards cash can run a bank into the ground and, in the event a bail-out isn't forthcoming, retire in luxury. 

Consider the case of Dow Kim, detailed in the aptly titled NYTimes article, On Wall Street, Bonuses, Not Profits, Were Real: For Dow Kim, 2006 was a very good year. While his salary at Merrill Lynch was $350,000, his total compensation was 100 times that — $35 million.....But Merrill’s record earnings in 2006 — $7.5 billion — turned out to be a mirage. The company has since lost three times that amount, largely because the mortgage investments that supposedly had powered some of those profits plunged in value.  Richard Fuld, ex-CEO of Lehman Brothers, earned some $45M in 2007, one year before that firm went bust.

Had Mr. Kim or Mr. Fuld held large stakes in their respective firms would they have been so reckless?  Would the real sector in the US be starved of cash, as is currently the case, if the reckless behavior of those like Mr. Kim, Mr. Fuld and others hadn't required their and other financial firms to be bailed out?  The large additions to public sector debt caused by the recent bail-outs are one of the main reasons the US debt rating was recently downgraded.

Meanwhile, over in ostensibly communist China, the invisible hand seems to be working just fine.  China's political leaders think like owners and through, at times, admittedly coercive policies, impose that view on others.  While China's middle class grows by leaps and bounds the American middle class is shrinking fast.

What can be done?  Assuming there is something to the views of McGuire and Olson, and I do so assume, the US needs leaders who think like owners instead of hit and run bandits.  Cash pay-outs and easily converted stock-option grants need to be replaced by long term equity holdings- players need to be forced to have "skin in the game".  Regulators too might perform better if their compensation was tied to disaster avoidance (imagine if FDIC regulators received bonuses if no banking crisis occurred not only during but 5 years after their tenure). 

In short, the US would be well served by reviving faith in the virtue of ownership.  Large public companies with diffuse ownership structures have been treated as disposable ATMs by senior officials.  Forcing people to have "skin in the game" before allowing them to make policy decisions seems like a good idea.  Even my local bank, of which I'm a shareholder, requires Directors to have a reasonably large stake therein. 

Them's Fighting Words

As the war of public words between the US and China escalates, the old adage- When you owe the bank $1Mil, you owe the bank.  When you owe the bank $10Bil, they owe you - springs to mind, with a nasty twist. Chillingly, both parties are nuclear armed with significant standing armies.

Following S&P's downgrade of US debt China's Xinhua news offers the following wise economic advice:

China, the largest creditor of the world's sole superpower, has every right now to demand the United States to address its structural debt problems and ensure the safety of China's dollar assets.

To cure its addiction to debts, the United States has to reestablish the common sense principle that one should live within its means.

S&P has already indicated that more credit downgrades may still follow. Thus, if no substantial cuts were made to the U.S. gigantic military expenditure and bloated social welfare costs, the downgrade would prove to be only a prelude to more devastating credit rating cuts, which will further roil the global financial markets all along the way.

Alas, sometimes economic wisdom clashes with political reality.  Chinese calls for US military expenditure cuts will prick US hawks' ears the wrong way.  I can hear them now- this has been China's goal all along.

I fear the world just took a step closer to the abyss of war.

A New (and most interesting) Blog

NewPopulationBomb by historian  Jack Goldstone whose Revolution and Rebellion in the Modern World was an enlightening read.

Today's post, La Grande Revolution, Encore is quite pertinent for modern America.

To wit:  Is there a lesson here for today, or is this ancient history?   In fact, the parallels are remarkable.   Just as today, the elites in the US are confusing their self-interest with principles of freedom from taxation, when in fact the critical principle is that the country must have sufficient revenues to cover its necessary expenses and service its debts.  As to the deficit, conservatives blame it on Obama just as 18^th century French elites blamed their deficit on the king. But just as in France, the greater portion of the the long-term deficit in the US is being driven by population change, which the President cannot affect.  The number of Americans over 65 will double over the next forty years, from 50 to 100 million.  The increases in medicare and social security costs that this will bring cannot be covered by simply cutting spending unless we decide to toss out these programs altogether. 

When is a Non-Default a Default?

'When I use a word,' Humpty Dumpty said, in rather a scornful tone, 'it means just what I choose it to mean — neither more nor less.'

'The question is,' said Alice, 'whether you can make words mean so many different things.'

'The question is,' said Humpty Dumpty, 'which is to be master — that's all.'

The US Government, according to most press reports, has, by virtue of a last minute- a self-designated limit, it seems worth noting- deal, avoided default.  Amazingly, both the process and situation are even more confusingly convoluted than my opening sentence. 

Imagine a world in which the debtor determines whether or not he is in default.  In that world defaults would be rare events indeed.  Alas for the debtors, but fortunately for the solvent, our world doesn't work that way, no matter how things might appear. 

In our world, debtors don't determine default, creditors do. 

Here's what some important US Government creditors have recently been saying:

1) China: (Xinhua News) With its debt already almost equaling its gross domestic product, the United States, as a major anchor of the increasingly globalized world economy and the issuer of the dominant international reserve currency, needs to roll out more responsible and effective measures to balance its budget and restore the economic health of itself and the world.

2) Russia: (Reuters) They are living beyond their means and shifting a part of the weight of their problems to the world economy...They are living like parasites off the global economy and their monopoly of the dollar. - Russian Prime Minister Vladimir Putin

3) China: (RawStory) China's foreign exchange reserves will continue following the principle of diversified investment, enhancing risk management and minimising the negative impact of volatility in global financial markets," People's Bank of China governor Zhou Xiaochuan said in a statement.

"Large fluctuations and uncertainty in the US treasury bond market will affect the stability of international monetary and financial systems, which will hurt the global economic recovery."

Also on Wednesday, the Chinese ratings agency Dagong downgraded the United States for the second time since November, with a continuing negative outlook.

Meanwhile my preferred measure of US credit worthiness (and market in which nations of less military prowess might express their views more safely), the value of Gold in US$s continues to set new records.

With combined holdings on some $1.28T of US Treasuries, China and Russia are, unlike the US, in a position to declare the US in default, which brings us back to the big egg.  Humpty Dumpty's great fall might prove prophetic (and hopefully, beneficially cathartic) but it's his words that haunt me.

The question is, which is to be the master- that's all. 

Once words (like default, creditworthy, war, ally, etc.) lose their agreed upon, dictionary meanings, might is eventually used to make right.  The US Kabuki Play that was the debt ceiling debate has apparently failed to convince our militarily armed creditors we have jumped back from the abyss.  They seem to think our non-default still looks like a near default, and are taking action.  Will we continue our dance, putting off hard (but oh-so-necessary) decisions hoping to distract our creditors with drama, or will we make honest strides towards resolving our debt issues, which, first and foremost, must include growth policies (of the non-rent-seeking kind)? 

As an aside, the notion that our debt problems can be solved simply through broad spending cuts or tax increases is absurd to me (and likely to our creditors).  If the US economy does not resume growing fast the Washington crowd can crow about avoiding default all they want, but the rest of the world will know otherwise and act accordingly. 

If the Washington crowd chooses the former "more of the same" option, we might have to have a contest (a.k.a. War) to answer Humpty Dumpty's question- which is the master?

In hindsight, it might have been better to self-declare default and immediately start picking up the pieces instead of watching and waiting while the big egg teeters on the precipice.  After all, we know how the rhyme ends.

Luckily, capitalism doesn't require putting the pieces back together again.  Indeed, capitalism works best when the broken pieces are used to make newer, better things than a silly egg on a wall, destined to fall.

Full Disclosure: Long Gold

Can You Fake....a Capitalism?

 

We don't have a precise read on why this slower pace of growth is persisting. Ben Bernanke

Fed Chairman Ben Bernanke is confused.  Interest rates are low, liquidity is flowing freely and equity prices are up between 15-20% year-on-year.  Why then, Bernanke wonders, isn't the US economy growing as a capitalist economy should grow under such conditions?

Perhaps the US is just faking a Capitalism.

Most definitions of Capitalism include reference to private ownership of the means of production which exist on a "for profit" basis- i.e. survival of the fittest.

While worthy of discussion in their own right I'll only note in passing that ownership of the means of production is far from private in its early 20th Century sense and that existing on a "for profit" basis likely implies not existing (as opposed to being bailed out) if losses are excessive, hoping to draw your, and perhaps Mr. Bernanke's, attention to the graph below.

source: BEA

Stripped of econo-jargo, the graph above depicts changes over time of new capital (means of production like factories, tools, etc.) investment compared to annual national output or GDP.    As you can see, such investment has been generally declining for a decade.  We in the US are at a plateau like a weight lifter who won't add extra weight to his work-outs.  A more clever economist than I, Tyler Cowen, describes the US' condition as The Great Stagnation.

For all the official talk of stimulus, there is virtually no capital investment happening in America.  Is it any wonder unemployment remains high?

The " Constant revolutionising of production, uninterrupted disturbance of all social conditions, everlasting uncertainty and agitation," which, Karl Marx argued, "distinguish the bourgeois [Capitalist] epoch from all earlier ones" is not a current feature of American political-economy.

Can you fake a Capitalism?

I think we're doing about as good a job as Meg Ryan did above.  While some might wish "to have what she's having" I prefer the real thing and I suspect most Americans would too.

A few suggestions:

• let's focus on the real economy instead of the monetary quantifications thereof
• let's stop stimulating the economy and start investing in it
• let's stop being financialists and start being capitalists again

As JS Mill wrote: Capital, by persons wholly unused to reflect on the subject, is supposed to be synonymous with money. To expose this misapprehension, would be to repeat what has been said in the introductory chapter. Money is no more synonymous with capital than it is with wealth. Money cannot in itself perform any part of the office of capital, since it can afford no assistance to production. To do this, it must be exchanged for other things; and anything, which is susceptible of being exchanged for other things, is capable of contributing to production in the same degree. 

Paraphrasing Clinton (for Bernanke): It's the capital, stupid!

Judicial Variations on Rape

rape (v.)
    late 14c., "seize prey, take by force," from Anglo-Fr. raper "to seize, abduct," a legal term, probably from L. rapere "seize, carry off by force, abduct" (see rapid). Latin rapere was used for "sexual violation," but only very rarely; the usual Latin word being stuprum, lit. "disgrace." Sense of "sexual violation or ravishing of a woman" first recorded in English as a noun, late 15c. (the noun sense of "taking anything -- including a woman -- away by force" is from c.1400). The verb in this sense is from 1570s. Related: Raped; raping. Uncertain connection to Low Ger. and Du. rapen in the same sense. Rapist is from 1883.
 
According to Bloomberg, the agent's first question to the suspected criminal was, "We’re here to find out if there’s an innocent explanation.”  The suspected criminal in the case was not Dominique Strauss-Kahn, but Bernard Madoff.  Both men have been accused of rape, if you'll permit its broader meaning.  An examination of the differences and similarities between their cases and treatment by the Justice system exposes curious divergences in current Judicial sensibilities on crime.

Before going further, in anticipation of a justified critique, let's pause and consider the broad use of "rape".  I assume many (perhaps most) female, and quite a few male readers will take offense at the use of the same term in both cases.  I don't intend to downplay the alleged thuggish actions of Mr. Strauss-Kahn towards a hotel maid.  If the allegations against him are true, he, in my view, is a criminal.  His victim (or victims as seems to be the case) has suffered and may bear the scars, both visible and invisible for life.  Yet, so too will the many more numerous victims of Mr. Madoff (who interestingly also had something of a reputation as a "seducer" to use a term applied to Mr. Strauss-Kahn). 

In blunt terms I'm all for jail terms for convicted rapists in its broadest sense.  My question is this. Why do financial rapists, who admittedly inflict, in many cases, less acute trauma but to many more victims deserve the benefit of the doubt and more gentle handling than physical rapists by our Justice system?

Mr. Madoff confessed the crime to his sons, who then alerted the FBI.  Despite the confession, and years of SEC investigations, as detailed in Harry Markopolos' book No One Would Listen, the first question asked of Mr. Madoff, as noted above, was, "We’re here to find out if there’s an innocent explanation.”  

I doubt that was the first question asked of Mr. Straus-Kahn, who was arrested within 6 hours of the alleged crime (in my next post I'll examine more thoroughly the incredible speed with which the NYPD managed to nab an official who had cleared immigration and might be expected to have diplomatic immunity- talk about cutting through red tape). 

At his arraignment, Mr. Madoff was released to house arrest despite failing to provide the Judge's recommended 4 signatures (only his wife and son signed) on a $10M bail bond. 

Mr. Strauss-Kahn is in Rikers after the Judge refused a $1M cash bond and similar offer of house arrest at his daughter's residence in NY.

The moral of the story is apparently this.  It's better, in the sense of preferred US Judicial treatment, to rape many financially than to rape a few physically.  Those raped physically can not only hope to see their rapist in jail, they can sue for damages in civil court.  Those raped financially are quite lucky to see their rapists in jail.  More often they not only lose their investment, they have to bail out (financially) their rapists!

The Market Whisperer

Admittedly, it took more than a Cesar Millan "tsst" to stop Silver (and Gold and Oil) in its tracks.  Raising the margin requirements (details of which are most ably covered by Jesse at his Café Américain), killing Osam bin Laden, and continuing to promise an end to debt monetization helped, especially given the context- a highly leveraged market apparently overloaded with new longs.

Of course, as The Dog Whisperer himself will warn, he is a trained professional.  Don't try these techniques at home.

Whether this proves a permanent rehabilitation or simply a pause that refreshes remains to be seen.

It is, as I plan to discuss in my next post, most difficult for the ship of state to change direction.

An Interesting Read on US Involvement in Libya

The Libyan War, American Power and the Decline of the Petrodollar System

Being a lazy man, I'm always pleased to discover someone else has done the heavy lifting of ideas I should have fleshed out in my own arguments.  The article linked above provides context- and as Peter Dale Scott is both a better scholar and writer than I, in much better form- to the views in my post on Osama bin Laden. 

Panetta, Petraeus, Osama?

Timing, they say, is everything.

Less than a week ago, Leon Panetta was replaced as CIA Director by Gen. Petraeus, and nominated as Secretary of Defense.

Today, the world learns of Osama bin Laden's death.

What other changes are in the offing?

After Osama

Osama bin Laden, according to CNN, has been killed in a firefight with US forces in Pakistan and his body has been recovered.

Almost a decade ago, bin Laden, in hopes of, according to some reports, inspiring a jihad and bleeding US financial strength, inter alia, directed the attacks on the Twin Towers and Washington D.C.

Now, only his ghost remains.  The jihad he hoped to inspire has thus far been thankfully quashed, but the US has been bleeding financially for that decade.

What next?

Aside from a substantial increase in Prez. Obama's political capital, which might deflect the right wing's attempts to dismantle the welfare state, inter alia, (and thus indirectly shift market sentiment, to wit, increase negative sentiment on US bonds) direct effects on market psychology and prices (and eventually the underlying fundamentals), at first blush, include:

1) A temporary (duration dependent on, inter alia, announced US policy changes in the next few days) resurgence in $ assets, and consequent decline in Gold and Silver. A rise in US debt market prices. A decline in oil prices.

2) Increased speculation on oversea troop levels in Afghanistan- will they be brought home, will they be redeployed, will they remain the same?

3) Will the Islamic world, in the event troops remain in Afghanistan or are redeployed either in Iraq or Libya, come to the view that US peacemaking after Osama is colonialism in disguise?

4) Medium term, a status quo military presence in the Islamic world, with a significant cause célèbre removed, will not only continue to negatively impact the US budget, it may also increase Islamic resistance (thus further increasing the price of military action), and reduce foreign willingness to finance what may seem more like colonialism than peacekeeping.

The ball is in the Obama administration's court.  Like 9/11, this is a key pivot point.

Much has changed in the US over the past 10 years.  Will this opportunity to change course be grasped, as a similar opportunity was grasped in the aftermath of 9/11?  Will the story simply fade from media consciousness in a few days- signaling an opportunity squandered (or deftly avoided depending on perspective)? What, if any, will the new course be?

From a financial perspective, this seems to me a wonderful opportunity to begin to significantly reduce military expenditure without losing face at home.   US military adventures abroad since 9/11 brought forward the US budget's "day of reckoning" by many years.  Either the US buys some time by reducing such expenditure or the financial day of reckoning will continue to creep forward. 

Without the goal of bin Laden's capture as cloak of respectability, assuming military deployments continue unchanged, the financial day of reckoning might leap instead of creep forward as foreign demand for US debt and willingness to sell oil "cheaply" dries up further.

Ten years ago the world went to war.

What next?

Full Disclosure: Long Gold

S&P Downgrade: Be Afraid, Be Very Afraid

In boom times, credit rating agencies, like S&P, are thought to have the foresight of the Fates- figures of Greek (et al.) Mythology who spun, measured, and cut the threads of life.  As boom turns to bust, these credit rating agencies fall into the trap of spinning too much thread which is only measured and cut after credit death occurs. 

After getting caught looking in the rear view window a few too many times, our Fates of credit appear to be attempting an image rehab with Big Game- the long term credit rating of the United States.  Of course, as S&P is made up of real people, not mythical figures, they aren't as brave as Clotho, Lachesis and Atropos and thus are merely threatening to measure the life-span of US AAA credit (i.e. shifting the outlook to negative), rather than pronouncing a definite end.

For my money (and let's be clear, the debt under review is that upon which the $s in my pocket are valued) S&P's focus on the debt ceiling sideshow in Congress as catalyst for default is likely misguided.  Then again, I wouldn't be totally shocked to see the newbies in Congress force a default of a few bond payments just to make the Prez (who gets no more respect from me since his invasion of Libya) look bad and thus win more votes.  Yes it would be colossally stupid and therefore, not out of the question.  S&P puts the odds at 1 in 3.

Assuming Congress avoids the colossally stupid option and raises the debt ceiling, the "no risk of US default" views of Barry Ritholtz and Yves Smith et alios would seem to suffice.  The US issues the currency in which its debt is paid, in somewhat similar fashion to the Tech companies of the 90s.  So long as our foreign creditors continue buying US debt, default would be self inflicted.

If I was playing the role of the credit fate, Lachesis, who measures the thread, I wouldn't be watching the shenanigans in Congress but rather our creditors' perception of rising confusion and dissent in the US.  Our nation seems adrift in a self-inflicted sophisticated fog. 

We are promoters of freedom currently engaged in 3 colonial projects (Iraq, Afghanistan and now, Libya) which engenders great confusion.  We want control, but we don't want to be seen grabbing it coercively.  We are confused.  Colonies, as history attests, are difficult ventures when such policies are overt.  Covert colonialism seems to me a contradiction in terms.   

Congressional pissing matches over the debt ceiling are another sign of great confusion.  Those who cheer Tea Party "balance the budget" principles would, in the event the right flexes its muscles, discover the rapid reduction of government employment and spending in a highly leveraged economy creates most unpleasant effects. 

This isn't to argue against deficit reduction in general (I suspect terminating our covert colonial ventures and redirecting that labor force back home on infrastructure would go a long way towards solving many problems) just the method on offer.

Worse than our confusion, from the perspective of the single party Chinese, is the dissent, notably that from S&P.  While the Chinese ruling party has apparently learned to deal with US political kabuki, the notion of a US ratings agency downgrading its outlook on US debt must strike them as odd indeed.  Having invented paper money, the Chinese know it rests on faith- faith that is eroded by dissent, ergo their rigorous crackdowns on such. 

Eventually the Chinese, whose faith in US economic policy making was shaken during the debt crisis of 2008-09, will tire of the confused games in the US and force us to deal with them with real currency, not the funny money we call US Federal Reserve Notes.  Far worse for the US than default is enforced real currency dealings.  As with all sophisticated cultures, reality is a bitch.