The slippery slope – Italy or oil or both?

Italy sells 30-year bonds and yield rose to 3% after the sale. EU leaders have a video call on Thursday to decide on common Eurozone bonds. 50-50 they will yield. But, on what terms? Wolfgang Muenchau thinks it might be all up to ECB.

At one level, it might be sad for Europeans to see the Euro project collapse. It might reduce them to individual nations with the attempt to create a bloc having failed. It might be possible for nations like China to pick them off one by one. See this:

In one survey this month, 59% of respondents said the EU as it is now makes no sense any more. In another, most Italians described China as a friend and almost half said Germany was the enemy. [Link]

This is concerning.

At another level, purely from a macro-economic standpoint, the Euro overvaluation straitjacket for Southern Europe might be gone and it might liberate them economically, at least temporarily. That might be bad news for German exporters, however. Clearly, no good answers in Europe.

The usual suspects – Martin Sandbu and Martin Wolf of FT – have their own views on the matter. Their views are as unsurprising as unoriginal they are. Sandbu favours the Spanish proposal for a special Corona budget.

Quite how it would obtain public’s approval in Norther Europe is left unsaid. It is an additional commitment even if everyone is not collectively responsible for the entire pot of borrowing. This is hairsplitting. Even with debt mutualisation, each country would have been understood to be liable only for its share of the bond issuance. So, the Spanish proposal is debt mutualisation by another name or the backdoor, as far as I understand.

Martin Wolf wants the ECB to print and give. Period. ‘Whatever it takes’ now and forever, I guess. No one knows what it would take and whether they would be prepared to give it.

Negative price for crude oil for May delivery means that investors who have to take delivery cannot store and are willing to pay others to take oil off their hands. More than being a benefit for consumers, it might spell trouble for the economy. [Link].

As Katie Martin points out here, it spells such weak aggregate demand that stock investors would be stupid not to price it in.

Neiman Marcus has stopped accepting new merchandise and this article says that department stores are toast. Nordstrom has cancelled orders to vendors via email [Link]. Lean back and reflect on this. This will have consequences for the American economy and, in turn, for geopolitics. More on the latter in a separate post.

Clive Crook says that the era of central bank independence is over. He is probably right. But, if they fund the government directly and cancel the bonds, the central bank has to be recapitalised.

The Argentine government is getting the central bank to pay its bills. [Link]

India’s good luck

On September 21, I listened to an oil market expert make a rather convincing case for why the price of oil could rise up to USD100 per barrel. But, the opposite has happened. Brent crude oil price has dropped from a peak of around USD78 to USD66 now. It is good news for India. 

The rupee depreciation risk is considerably reduced. Of course, there is political risk, especially if the elections to State assemblies come up with adverse results for the BJP. 

In this connection, I thought that the comment made by the Chief Economist of the State Bank of India after the latest inflation reading substantially undershot expectations was an interesting one:

The other point of big concern is now uncertainty surrounding the CPI forecast made by MPC. It is interesting to see what forecasting technique the MPC members adhere to. Generating forecasts under (and often unstated) assumptions about exogenous variables such as oil prices, government spending, and global growth will throw up illusory or elusive results. Under such circumstances, it may be better for the MPC to work with short-term forecasts for next three to six months as macro-variables like oil prices are now almost difficult to predict. Remember the oil price crash in FY15 that had resulted in inflation undershooting RBI projection by more than 300 bps in December 2014 (currently it now close to 100 basis points!)

Source: SBI Ecowrap, Nov. 12, 2018

The oil price dynamics

I was in Dubai on Sept. 20-21, not to watch the Asia cup in the Dubai cauldron (temperature was reaching 41 degrees when I landed on the afternoon of the 20th) to give a speech at the Treasury and Money Managers’ offsite of the Aditya Birla Group. I listened to some excellent presentations by Mr. Bahram Vakil on the Insolvency and Bankruptcy Code, by Ms. Amrita Sen of ‘Energy Aspects’ on the oil price dynamics and by Rajdeep Sardesai on the 2019 elections.

The oil price supply situation remains tight. Saudi Arabia is not pumping as much as they claim that they could. It is only about 10.5 million barrels per day. They claim to have the ability to pump out 12 million barrels per day. But, they are not. There is a risk that oil price could temporarily spike to the three-figure mark in the fourth quarter.

While electric vehicles are only making slow progress, the oil industry has not invested much in exploration or in distribution. At the same time, demand had almost touched 100 million barrels of crude oil per day in 2017 – some eight years ahead of earlier projections. Here is the latest IEA report that backs this up. Third and fourth quarter demand in 2018 is quite high, topping 100 mbpd in the fourth quarter.

With the American administration serious about its sanctions on Iran, there is the potential for a 2 mbpd shortfall in the fourth quarter. See Bloomberg story here.

This does not sound like good news for India.

Weekend reading links – 19.12.2015

This one is almost three weeks too late. I doubt, however, if the links have lost their relevance. Hence, posting them now. Hope to resume regular duties from the weekend of Jan. 9. Wishing you all a happy, healthy and prosperous New Year!

In my previous ‘Weekend reading links’,  I had linked about the decline in Global Planetary GDP. This week, I add to the story. IMF Research Staff dismisses the talk of errors and says that the calculation is in USD which has strengthened and hence, the drop in planetary GDP.

This article has interesting arguments against central banks and negative interest rates.

A tweet with an interesting excerpt from BofA-ML research on the divorce of the US dollar and the Chinese yuan

The head of China’s fourth-largest state bank has stepped down citing personal reasons on December 4. The departure of Agricultural Bank of China Ltd. president Zhang Yun is linked to a separate graft probe on another executive, who headed a regional branch, a source with knowledge of the matter said.

Missing Chinese executives are either being investigated or assisting investigations. That is very comforting. List of top bankers who disappeared or died unnatural deaths this year.

Party workers in China’s rust belt falsified and inflated growth numbers. What about the rest of the country?

China more than triples Macau’s size with new maritime jurisdiction

Andy Mukherjee on stock analysts’ bullishness on mining companies. The more things change, the more….

It is a bubble and someone who has seen it before, says so.

I have a blog post on the Indo-Japan announcement of a new bullet train between Mumbai and Ahmedabad with Japanese assistance.

India’s own ‘Li Keqiang’ index shows that economic growth in the fiscal second quarter (July – Sept.) slowed down and is around 6%. Feels right.

Fascinating philosophical questions that driverless cars throw up.

Very useful link to articles that appeared in FT in 2015 on Finance.

Sri Lanka clears the deck for a controversial port project with China.

Michael Lewis’ ‘Big Short’ is a movie now.

Cathay Pacific experiences YoY slump in cargo traffic, first time in two years.

Lucy Kellaway introduces Guffipedia and many existing Guff entries here. She is the eternal bullshit-buster.

Rudolf Guiliani calls for less finessing in confronting terrorism in the name of Islam

Bloomberg features best books of 2015 from its famous clients.

Wells Fargo warns of stresses in its Energy Portfolio.

Lucidus Capital Partners, a high-yield fund, started by people with some pedigree, has decided to shut. Third high-profile one, in as many days.


Paris Climate Change Links

How the pact was won with a ‘typo’ tweak. So, it appears that there are no binding targets based on differentiated responsibilities, on the developed world.

On balance, did India really win more than what it had lost in this summit? It was a clear loser in the previous two summits, thanks to Jairam Ramesh. Check out the link. It is interesting to see how India’s ‘Wins’ and ‘Losses’ have been visually presented.

This is not a legally binding treaty, as was the Kyoto Protocol, says this Reuters report.

No legal rights to compensation for vulnerable countries.

Bloomberg report focuses on the shift in fossil fuels.

Audrey Chia in South China Morning Post writes a brief note about India’s chotukool

How ‘Indaba’ – a negotiating and discussion technique – helped achieve breakthrough in climate talks.


Italy bails out retail creditors after bailing them into the rescue of four banks. Who sold them subordinated bank debt? Good question to ask.

Russia launches its own credit rating agency. What happened to Dagong?

John Kemp’s analysis of the current oil market situation with that of the 1980s is a good read. Well written.

Story in Nikkei Review on Saudi Arabia selling stocks of Japanese companies to raise money.

Euromoney has a good story on HFT in UST. Quite what the message of the story on HFT is, is unclear though.

Dominic Elliott in Reuters has a story on how the Basel Committee on Banking Supervision has rolled back a provision requiring banks not to use credit rating agencies’ assessment to measure the credit riskiness of certain assets. Another case of more they change, the more they remain the same.

Barry Eichengreen adds his own anecdotal tale to the debate on the paradox of missing productivity. The article feels incomplete. Perhaps, that is par for the course.

Attali said the impending risk of a financial crisis contributes to his belief that “we are not far from World War III.”

India’s small companies have lower debt and lower financing costs. They are driving investment. Good to hear that.

Black swans (or base case scenarios) for 2016.

Danes have three-times of their disposable income as gross debt. Central banker is concerned about financial and macro stability. Surprised!

America’s cronyism at the heart of financial markets:

(1) Accounting industry and the SEC hobble America’s audit watchdog. This is part 3 of a series.

(2) How Wall Street captured Washington’s effort to rein in banks. (Part 2)

(3) US banks moved billions of dollars in trades offshore (Part 1)

How to get the Federal Funds rate to rise when there is so much excess reserve in the system? Some technical details here.

U.S banks have lowered their underwriting standards, warns OCC

Piecing together the oil puzzle

Good friend Srinivas Thiruvadanthai sent me this link last night. That set me thinking as to whether Saudi Arabia has bitten off more than it could chew and whether it would set off some other chain reaction since the ‘gambit’ has gone badly for them, or so I think. Things have changed quickly. Until about May this year, Saudi Arabia was confident that it would weather the oil price swoon and that others, including US shale oil producers, would be hurt the most. Following is, more or less, a reverse chronology of articles in the last year or so.

This news of Saudi Arabia delaying payments to contractors must be quite embarrassing, if not downright humiliating.

There was a big feature article in Bloomberg Markets earlier this year centred on Mr. Ali al-Naimi as to how Saudi Arabia (and he, by extension) was the master string-puller of oil prices. This reinforced the message from the Reuters article below.

A Bloomberg piece in January 2015 also predicted that Saudi Arabia would last it out, compared to US shale oil producers.

According to some analysts, Saudi Arabia had initially wanted lower oil prices to extend the life of oil as the source of fuel and energy for the world. To perpetuate and extend the dependence on hydrocarbons. To snuff out marginal producers and hydrocarbon substitutes too. To put off the development of renewable energy sources:

Some OPEC members including Venezuela are clamoring for production cuts to push oil prices back up above $100 a barrel.  But Saudi officials have given a different message in meetings with investors and analysts: the kingdom, OPEC’s largest producer, will accept oil prices below $90 per barrel, and perhaps down to $80, for as long as a year or two, according to people who have been briefed on the recent conversations.

This Reuters article from November 2014 actually mentions that the Saudi oil minister had tied the decision not to cut production to taming competition from US shale oil producers:

Saudi Arabia’s oil minister told fellow OPEC members they must combat the U.S. shale oil boom, arguing against cutting crude output in order to depress prices and undermine the profitability of North American producers.

Ali al-Naimi won the argument at Thursday’s meeting, against the wishes of ministers from OPEC’s poorer members such as Venezuela, Iran and Algeria which had wanted to cut production to reverse a rapid fall in oil prices.

See this story in FT too towards the end of 2014. See the observations on Saudi Arabia:

Saudi Arabia

Fiscal buffers are in place to offset the impact of any potential domestic deficit but Saudi Arabia — the world’s largest exporter — will still be among the Gulf nations most affected by lower oil prices. At $60 a barrel the kingdom, whose oil receipts accounted for 85 per cent of exports and 90 per cent of fiscal revenue in 2013, would experience a fiscal deficit equivalent to 14 per cent of GDP in 2015, according to Moody’s. Its vast foreign exchange reserves, estimated at close to $740bn, will offset some of the negative effects of much lower oil prices, but such a stressed scenario is still likely to mean a pull-back in spending on social programmes which had increased substantially following unrest related to the Arab uprising. Even so, Riyadh has used its leading position in OPEC to resist calls for a production cut.

The above FT article had a link to an earlier article published in the same paper, a week earlier:

According to a well-placed Arab figure, a senior Saudi official told John Kerry, US secretary of state, while he was talking to Sunni Arab leaders this summer about a coalition against the jihadis: “Isis is our [Sunni] response to your support for the Da’wa” – the Tehran-aligned Shia Islamist ruling party of Iraq.

But, a sentence earlier was somewhat contradictory:

Iran, of course, is aligned if not allied with the US and its European and Arab partners, including Saudi Arabia, in the fight against the Islamic State of Iraq and the Levant.

In truth, Saudi Arabia might have decided to take credit for ‘masterminding’ a price decline that it might not have had any control over. That is the substance of the piece by Nick Butler in FT on December 15, 2014.

If it did not have any control over the price movement in 2014 that has continued into 2015 with dire consequences, what would be its response now? To try and squeeze the price higher? How? Any geopolitical ‘accident’ would help? Or, would it still last it out for a year or two and see off other marginal producers in the U.S. and elsewhere? Certainly, Iran would love to have higher oil price too, as it wants to ramp up production after the lifting of sanctions. So, would that discourage Saudi Arabia from trying to engineer a higher price? Alternatively, does it have the financial resources and tolerance for pain to go through another year or two of lower or even declining oil price?

Amidst all this focus on producers, demand does look set to remain weak with global growth heading lower? Probability of a U.S. recession in 2016 is non-trivial. Doubt if further demand collapse is in the oil price yet.

I am Mostly Fuzzy

This week is the week when the International Monetary Fund releases its World Economic Outlook for April 2015. Newspapers are filling space with IMF analyses. Martin Sadnbu at FT (‘Free lunch’) cited a blog post by Francesco Saraceno (FS) as to how the IMF now appears willing to correct its own previously held views. The blog post is interesting. We need to read it to keep ourselves updated that there is no Washington Consensus, at least in Washington, as FS writes. May be, it is just the US Treasury consensus only, now. Intellectual openness at the Fund is to be welcomed.

That said, the extensive simulations done by the Fund economists based, presumably, on their DSGE models make eyes glaze over. An example is this. There is no way in hell of knowing how much would a Euro weakness help or hurt growth anywhere in the world, including in the Eurozone, especially now, when the band of uncertainty about what is happening to economic growth, global trade and energy demand, etc. is far wider than before. At worse, such analyses may help trigger ‘beggar thy neighbour’ reactions at the most inopportune time.

Look at another WSJ blog post on the rise in Eurozone household savings rate. At the same time the ECB is printing money, European households are saving more. Makes sense, from their point of view. After all, when returns to savings are lower, the targeted savings levels take longer to reach and hence households increase the quantum of savings. So much for policies such as low interest rates that boost spending. In other words, polilcymakers have to keep in mind the impact of policies on expectations. The latter are changed by the very policies that seek to achieve economic impact premised on unchanged expectations. This is the essence of Lucas’ critique and Lucas Critique, in plain English, is that Ceteris is not paribus. Other things simply do not remain the same. That is why economic theories are only useful starting points at best. The most egregious rejection of Lucas’ Critique is to be found in the QE policies of major central banks.

Most of the models are not equipped to deal with structural shifts and changes that economists and policymakers neither anticipated nor know how to handle. Consider this statement in the FT article on global trade growth slowing down:

With Tuesday’s forecasts the WTO seems to be joining a camp of economists who argue that the slowdown in trade growth is not only cyclical but has also been due to structural factors. [Link]

In the middle of the prominence given to the WEF released by the IMF, the WTO report on global trade outlook has been somewhat sidelined.

The opening lines of this story in FT on the world energy outlook confirm the same issue confronting all of us – we are flying blind:

The rebalancing of the global oil market may still be in its early stage with the outlook “only getting murkier”, according to the International Energy Agency, as uncertainties remain about demand and supply responses to the steep drop in prices. [Link]

There is no visibility for any one and, in such a situation, to make precise forecasts of how Euro weakness (or strength) would affect growth in the US and in China up to 2018 is a largely meaningless exercise.

Bizarre logic

I must admit being stumped for a response to this statement in a Bloomberg Op.-Ed:

Economists at Oxford Economics Ltd., a U.K.-based research group, say policy makers may be damping hopes that last year’s near-halving of crude prices would spark worldwide demand. “With rates this low, even good news has a sting in the tail,” John Bulford and Gabriel Sterne, economists at Oxford, said in a report to clients last week. “The expansionary impact of the oil-price shock is dampened to some extent because of the limited capacity of central banks to loosen monetary policy.” [Link].

Central banks are unable to cut rates because they have already cut rates to zero! Is that not stimulus enough? The fact that a plunge in crude oil to the extent of 50% has not left most countries in the world feeling cheerful should tell something about the state of underlying economic vigour. But, thinking has been so clouded by debt that very few are seeing clearly.

They are being bogged down by all the debt that they accumulated in the gung-ho years. In fact, th gung-ho years felt gung-ho because of debt creation. Debt and economi growth reinforced each other. Far from deleveraging, central banks and policymakers are encouraging more borrowing. Debt-induced spending cannot conjure up economic growth for ever. It has done already. Existing debt burdens have to be extinguished considerably before the next wave of economic growth can commence.

What the world has done in the last six years is to take on more debt, in response to the debt-induced crisis of 2008. They have to wait a very long time for the next growth wave to arrive. Cheap oil is unlikely to spark a growth revival. It is a symptom of the low economic growth, induced by the dead-weight of debt.