Good or evil

Since 1973 much of world politics has been dominated by oil.

America’s dependence on oil imports is reducing, driven by the reduction in consumption, and increased production at home. American oil consumption fell from 2005 to 2010 as a result of spiking prices and recession, and it is projected to do little more than return, very slowly, to the pre-recession peak over the next two decades.

Meanwhile, America’s shale oil boom is turning the country into one of the world’s dominant energy producers (with Canada rapidly assuming a position just behind). An enormous share of the world’s oil may soon be produced in North America, in other words, potentially altering the economics and politics of oil in dramatic ways.

Fracking, a method of extracting gas from shale is a hotly debated topic. The technique, also called Induced hydraulic fracturing, involves pumping a mix of water, sand, and chemicals down the perforated still pipe and into the reservoir at ultra-high pressure to create small fractures in shale/tight formations which free up the oil and gas to flow up the well.

Hydraulic fracturing has raised environmental concerns and is challenging the adequacy of existing regulatory regimes. These concerns have included ground water contamination, risks to air quality, migration of gases and hydraulic fracturing chemicals to the surface, mishandling of waste, and the health effects of all these.

In Britain the resistance is founded on the belief that minor earthquakes had been caused by fracking that was being performed close by.

New York, Maryland and New Jersey have imposed temporary bans on fracking and Vermont may follow, but everywhere else in America the gas flows unimpeded.

Europe, with its high energy costs and its dependence on Russia for most of its gas, would benefit greatly from exploiting the shale bound reserves. Belief that the ecological risks have not been solved prevents that from happening.

Economic realities might soon force everyone to sort fact from fiction.

More at:
Oil: The Next Revolution
American oil
A world of plenty
An unconventional bonanza
Gas works
Landscape with well
Sorting frack from fiction
A better mix
Keeping it to themselves

Is Germany factoring Mediterranean Europe

Factoring is a form of finance. Until the late 20th century the industry suffered the stigma that companies resorting to factoring were heading for liquidation.

Factoring is secured financing: the factoring house purchases the borrower’s receivables, advancing 75% of the invoice value up front, and the remaining 25% when the debt is paid. The factor manages the debtors, for which it charges a fee, usually 1% of invoice value, plus interest on the advance at 7% over prime (the best rate that banks charge to risk free clients).

It’s expensive finance.

Once the factor has control of the receivables, it has control of the company’s destiny. If debtors do not pay on time, the cost of funding becomes prohibitive and eventually destroys the company.

When that happens, the fully secured factoring house converts the client’s liquidation into a handsome profit, purchasing the company’s assets at a fraction of their real worth.

In his thesis on the subject, this correspondent proposed that both parties would benefit if the factoring house used economies of scale to manage the receivables efficiently, not only preventing liquidation, but also making the company a success. The factoring house is also more profitable as it turns its facilities over faster. The client’s funding requirements are reduced, minimizing the interest costs.

The factoring house that employed the young author proved the theory in practice.

Today, the Mediterranean countries are in financial distress. Greece is insolvent. Spain and Italy’s banks are in trouble, with both countries badly indebted. Spain is running deficits. Italy’s industries are no longer competitive.

Early in the crises a German tabloid suggested a solution to Greece’s crises: “Sell us your islands”.

The band-aid solutions that have been used so far provide secured loans to the three countries at high interest rates. The conditions of the loans demand austerity, to remedy the profligacy that precipitated each country’s crises. As the inflicted measures bite, their economies contract, reducing tax revenues, and making repayment of the loans and interest increasingly difficult. The accusations of profligacy are legitimate, but austerity is not the answer.

The solution is to create a European banking union, with a Europe-wide bank-deposit insurance scheme. A ‘fiscal union’ in which all or part of the national debts are mutualised as joint Eurobonds would stop markets pushing sovereigns into insolvency, and would create a European asset that banks could hold. Moreover, if these were financed through federal taxes Eurobonds would be even more of a safe asset.

The ECB should be given independence from the politicians to provide the kind of solutions that the Fed and the Bank of England provide to their respective economies.

The most recent Eurozone deal is another band-aid. Instead of lending money to the country, loans will be made to their troubled banks. While this is an improvement over previous arrangements, it’s not a real solution.

Germany’s resistance to Eurobonds and a fiscal union has financial logic. At present the country’s most recent bonds are offering a yield close to zero. That makes it very cheap for Germany to borrow money. And while the Euro looks at risk, instead of rising, the exchange rate remains low, offering Germany’s products to the world at a discount. As the world’s second biggest exporter, the German manufacturers are enjoying the windfall.

Apparently the German constitution prohibits a Euro fiscal union and Eurobonds. If the country’s leaders wanted to pursue that course, they could be promoting the necessary constitutional amendments. Angela Merkel has said “over my dead body”.

Should the Mediterranean countries fail, those islands and beaches, with the houses overlooking them could be on sale at a big discount to those with the money.

Whether it’s intent, or bad judgement, it will still be the same. The rich get rich and the poor get………. austerity.

More at:
First loss is the best loss
Austerity – what does that mean?
A glimmer of hope!
Merkel defends compromise deal on eurozone banks
The future of the European Union (part 1) Soviet collapse or Germanic reform?
The future of the European Union (part 2) Don’t count on a Hamiltonian moment
EUROPEAN COUNCIL Brussels, 29 June 2012
Babies and bathwater
Europe on the rack

A glimmer of hope!

After reading a recent blog it seems that the European authorities have a plan. They have produced a report that includes:

  • The eurozone borrowing money collectively “could be explored”
  • A European treasury office to be set up to control a central budget and keep an eye on national ones
  • A single European banking regulator and a common scheme guaranteeing bank deposits
  • Common policies on employment regulations and levels of taxation

The wording is diplomatic. It will move much of the financial decision making to Brussels, and in principle is a good solution. That it’s being proposed by the Eurogroup’s Herman Van Rompuy and Jose Manuel Barroso, whose powers will grow exponentially, if the plan is adopted, may bring it’s motives into question and is something that the politicians will sieze on.

You can be sure that of the politicians, whose powers will be similarly diminished, will not raise that as the issue. Their contention will be that it is “an encroachment on our sovereignty”.

Hamilton predicted much of this over two hundred years ago.

More at:
EU unveils its vision for the future of monetary union
TOWARDS A GENUINE ECONOMIC AND MONETARY UNION

First loss is the best loss

In finance there’s a saying: the first loss is the best loss. The financier has loaned money, the borrower is unable to repay unless more money is advanced to “fund the imminent turnaround”. No-one likes to lose money and it’s also an admission of failure. Lending more money is an easy mistake to make, even when all the signs say that’s it’s a bad idea.

Greece was insolvent before the first European loans were granted, and no amount of lending could fix that. The five year recession, heightened by austerity have made that worse. The Greek economy is now 20% smaller, and the loans are a lot bigger. The first loss would have been the best loss, and now the loss will be worse.

Even with the “positive” outcome of the June 17 election it is probable that Greece will have to leave the Euro in the future.

The “good news” is that Europeans got a real fright about what could happen once Greece leaves – a run on the Greek banks, followed by runs on Spain’s banks, then Italy, followed possibly by France. They are no longer deluded about the possible consequences. Politicians are having to consider real solutions, not the band-aid remedies that they’ve tried so far.

The Euro’s design flaws need to be repaired through greater fiscal federalism. A ‘banking union’, with a European system to wind down or recapitalise troubled banks and a Europe-wide bank-deposit insurance scheme, would help break the feedback loop between weak banks and weak sovereigns. A ‘fiscal union’ in which all or part of the national debts are mutualised as joint Eurobonds would stop markets pushing sovereigns into insolvency, and would create a European asset that banks could hold. Moreover, if these were financed through federal taxes Eurobonds would be even more of a safe asset. Instead of providing liquidity indirectly to banks, the ECB could declare that it stands fully behind solvent sovereigns, just as the Fed stands behind the American government.

The Federalist papers of 1787-88 argue that trying to coerce a group of sovereign states to follow common rules is ultimately doomed. Leagues and confederacies are like feudal baronies: sooner or later somebody breaks the rules. And attempts to bring them into line lead to anarchy, tyranny and war. Europe is not at the point of war, but many a citizen feels an economic conflict is well underway.

For Alexander Hamilton, the leading author of the Federalist papers, the solution to the problem was to create a strong American federal government, acting directly on the citizen rather than through the constituent states. With the adoption of America’s federal constitution, Hamilton became treasury secretary. The federal government assumed the war debts of the ex-colonies, issued new national bonds backed by direct taxes and minted its own currency. Hamilton’s new financial system helped transform the young republic from a basket-case into an economic powerhouse.

Even discussing these measures is a huge challenge. The most influential politician in Europe, Angela Merkel, is starting to mention some of them. “She is a clever woman who is not an economist, surrounded by economists giving her contradictory advice,” says one close observer.

There is an influential group of German economists who are reminding anyone who will listen about the history lesson from the Weimar republic: printing money led to hyperinflation, then economic chaos, political extremism and ultimately to catastrophe for all of Europe.

The Economist

Inflation need not be the result of central bank funding if it’s carefully applied. The cure should not be made to kill the patient.

Even if the politicians finally see sense, it’s unlikely that the citizens of Europe will agree to such drastic measures. Perhaps another fright will help them.

More at:
Between two nightmares Angela Merkel is drawing the wrong lessons from the chaos of German history
Fiscal consolidation
Europe’s Achilles heel Amid growing risk of a Greek exit, the euro zone has yet to face up to the task of saving the single currency itself
The euro crisis Share a currency, with them?
The future of the European Union (part 2) Don’t count on a Hamiltonian moment
Germany and the future of the euro (1) Is Grexit good for the euro?
The future of the European Union (part 1) Soviet collapse or Germanic reform?
Worried Banks Resist Fiscal Union
Greece as Victim
EU unveils its vision for the future of monetary union
TOWARDS A GENUINE ECONOMIC AND MONETARY UNION

Employment will decide the election. Really?

Apparently American voters won’t re-elect a President when unemployment is above 8%. At least the debate is about a substantive issue.

The impact of the jobs figures on the stock markets is an indication of how much relevance employment has. But it needs to be put into perspective.

The shock that hit the world economy in 2008 was on a par with that which launched the Depression. In the 12 months following the economic peak in 2008, industrial production fell by as much as it did in the first year of the Depression. Equity prices and global trade fell more. Yet this time no depression followed. (The Economist Dec 10, 2011)

Unemployment rates in 1933, four years after the 1929 crash and before the economy started to recover, topped 25% . Presently, unemployment in the U.S. is at 8.3%, down from the peak of 10%.

Monetary policy, which failed in 1929, provided most of the relief needed after 2008. The Federal Reserve, which is beyond political control, has the responsibility for monetary policy.

Deciding who should be President, based on something that’s not part of the President’s mandate is crazy. Not only that, the 2008 crash is not over. What happens in the next few weeks in Europe will have a big impact on the world economy, and that’s also out of the President’s hands.

Europe’s problem is much bigger. The European Central Bank, the body that should have control of monetary policy in Europe, doesn’t have the same level of mandate that the Fed has. The politicians from the 17 countries that make up the Eurozone, led by Angela Merkel, need to provide that mandate. They are not even talking about trying, let alone working out how it should be done.

This will be a big decision, and would require relinquishing autonomy that many of the members indicate they have no desire to give up. Voters in the union are increasingly feeling that membership is not beneficial. The chances of getting consensus are low.

What follows next is looking bad.

And in the U.S., the debate is about whether unemployment figures will be above or below 8%.

Nero fiddled while Rome burned. What else could he do?

More at:
Lessons of the 1930s There could be trouble ahead
Business cycles Lessons of the 1930s
Lost economic time The Proust index
The euro crisis The growth problem