It’s a wacky world. For the 13th consecutive month, output from European factories has fallen. Japan remains mired in a deflationary slump, with May consumer prices showing their largest monthly decline since 1971. New Zealand’s economy shrinks by one percent, making it the country’s worst recession in thirty years. And across the world banks like UBS try to replenish their capital with new equity while preparing for more losses in the second half of this year.
Yet stocks rise. Go figure.
We will keep our portion of today’s Daily Reckoning brief. With Michael Jackson’s death, we’re sure most people are tuned into the television to follow the day’s most important story. In the meantime, we’ll publish some additional insights from readers on fraudulent currencies, Chinese collapse, and on being a loser.
First one more quick note. Thanks to those of you who’ve written in saying I.O.U.S.A has already been screened on Foxtel this month. That’s true. We’re organising a one-night symposium on debt in Australia anyway. The one-hour discussion with a panel of experts will be preceded by cocktails and followed by the screening. Stay tuned for details.
And now to the mail bag. By the way, we’re sorry we can’t reply to all your e-mails. There are now close to 60,000 readers who get the DR Australia every day. We do our best to read and respond when we can. But the volume of correspondence is pretty large now. Here are some of this week’s best.
If this is an economic recession/depression/implosion…call it what you want…it’s invisible…where are the bread lines?…where[sic] are the blank eyed homeless mobs, constantly on the move?…where is the threat of war?…
I have read your blog for the past 18 months and now reject your monolithic message of imminent economic apocalypse…France has shown that an economy can get along ok/fine with an unemployment rate >10%…even taking into account your ultra pessimistic account that unemployment rates in western economies is nearer 15% that means 85% of workers are employed and doing ok/fine…
Do [sic] you think the 85% who are employed really care about the 15% who aren’t?…life goes on..world isn’t coming to an end, never was coming to an end….equity markets will eventually understand this reality and adjust accordingly…you can buy shares in good companies right now and sleep well
if you want to sleep with your gold, rub it, look at it..whatever! [sic]…go ahead, feel free…you will be the biggest loser in the end…one question?…if things are as bad as you say then why isn’t gold already worth more than a lousy $1000usd?
get a life loser
I am “a dear reader”, and I just want to share some semi-secret knowledge on this great idea [of negative interest rates to create inflation]:
I think I can tell you what happens when a nation realises they are simply being robbed. First, let me set the scene. During the fallout period that took place after the collapse of the Soviet Union, the leaders of the newly independent states were a basket case in many ways, but most prominently in the economic management area.
There were two radical changes that just happened due to their overall weakness: a nearly unbound real freedom of enterprise due to government’s economic illiteracy and loss of control over the economy, and nearly complete collapse of state financial affairs.
The currency inflation that followed ended up at about five extra zeros. I don’t have the statistics; I just keep two nickel coins of equal size, but with somewhat unequal numbers on them: “200’000” (dated 1995) and “2” (dated 2000, when the currency was already stabilised and pegged to USD, and zeros erased). So you get the picture of what happened between 1990 and 1995.
Yet, these five extra zeros had little effect on the monetary side of life. The spontaneous solution unofficially exercised by the entire economy was to stop using local currency altogether. It remained the official currency, but the US dollar became the real currency used by people and businesses, and universally accepted. The local currency was used for small everyday things, and only a small amount was kept for that purpose at any given moment. Whenever a person or a business needed it, they exchanged US dollars for it.
Whenever there was spare local cash, it was exchanged to USD. So the inflating local currency was not used for savings, real salaries, large purchases, or in any business affairs, until it was stabilised years later. Most of the economy switched to black or gray accounting. A typical salary was either pure black (paid in USD cash), or mostly black (paid in USD cash plus some token amount in local currency, just for the books), or grey (local currency equivalent of a fixed USD amount). All salaries in commercial organisations were nominated in US dollars regardless of how they were paid.
Whatever was paid in the local currency was converted into USD the same day. The opposite was used for any shopping: if one wanted to by a computer, the price would be stated in dollars, or later (after a formal ban on the practice) in “notional units” that were incidentally always equal to 1 USD.
At the same time, business taxes went far into surreal: some businesses had to pay over 100% if all done right. No business had a problem with taxes though due to an absence of visible taxable earnings, as all but peanuts was settled in USD (in cash and through offshore banks). Nobody used banks for savings, there was just no trust left, flat zero. There was no such thing as credit, too.
Businesses used credit at exorbitant interest, but for very short loans just to settle their trade transactions. There was no such thing as a mortgage or a credit card, so no one cared about interest rates. If a business wanted to take a local loan for a week at 100% annualised interest, that large number didn’t make any difference.
So my point is hyperinflation is a force so powerful that it doesn’t just burn savings and debts. It weakens or destroys the state that created it. Interestingly, the people and businesses are extremely
resistant to it, as they can adapt quickly and decisively to a new reality. That is, if they do adapt.
I was interested to read your comments about China. I recently sent you an email that included an article from the FT that suggested that maybe China’s demand for resources won’t be as great as many predict. I also spoke about a few other possible negatives I see in the future for China.
At the moment nearly every economist or financial analyst goes on about the amazing growth potential of China and that that is the country to invest your money etc. Surely when so many economists agree on something one should be afraid.
It is well known that domestic consumption only makes up about one third of the economy and that China, like many other Asian countries, is hugely reliant of exports. Many people seem to think that the government stimulus package in China is going to help make up for the large drop off in exports but this is probably wishful thinking.
Much of this money will be siphoned off by corrupt officials and anyway why should Chinese fiscal stimulus work any better than it works (or doesn’t work) in Western countries? Chinese people hate to lose face so the government will probably be the last one to admit that China needs Western consumers more than any other country to keep its growth going.
But if the economic downturn is going to persist for some time then American and European consumers are not going to start consuming in a big way any time soon. It is a cultural thing for Chinese to save a large portion of their income and up to one third of their savings go towards their children’s education. These saving and spending habits aren’t going to change overnight so domestic spending won’t save the economy from a downturn either.
Who is to say that Chinese consumer spending won’t retrench as is happening in the rest of the world?
After all, unemployment is rising there as well. I have a friend who is married to a woman who was born in China and her parents have recently returned from a trip there and what they noticed was that the gap between rich and poor is increasing rapidly and that many people they spoke to in their village said that in real terms their wages had actually been falling over the past several years. They also noted that many people who had moved from the rural areas to the cities for work were now returning to their villages because they had lost their jobs.
So much of what is being done in China seems to be about not losing face and projecting to the world or to the Chinese people (so as to prevent social unrest) that things are going along fine in the economy. I have recently read an article in one of the Australian papers that quoted an official in China saying that even though steel sales and exports were collapsing and most steel factories wanted to lower production, they were being made to increase production so as to make local production numbers look good.
There was another article recently that told of how civil servants were being ordered to smoke more cigarettes and only Chinese brands to make cigarette production figures look good. Most of the banks are also being forced to lend money. In the first four months of this year banks lent more that their whole year target. Your own Chris Mayer recently mentioned in one of his articles that Chinese banks are potentially hiding massive amounts of bad loans. There have also been suggestions that a lot of the stimulus money and bank lending has found its way into the Chinese share market and into property speculation.
I was talking to a friend who lives in Hong Kong recently and he mentioned that the property speculation has increased massively there in the last couple of months, with the prices of many apartments increasing by 10% in the last six weeks. Analysts are now changing their forecasts for property prices in Hong Kong for this year from a fall of 5% to a rise of 18%. My friend said that house prices were literally going up with the share market. Some analysts are now questioning the quality of the so called economic growth in China. I note that even though the economy is supposedly growing, electricity usage is still falling, indicating less manufacturing activity. I’m sure it will only be a matter of time before the government works out a way to manipulate these figures as well.
One argument put forward for the great growth prospects of China is the idea of urban migration from the rural areas to the cities and the need for massive construction and infrastructure spending that will arise from this. However who is to say that this urban migration won’t be put on hold for several years if the downturn around the world continues for some time yet? After all, rural citizens aren’t going to move to the cities if they are seeing unemployed people returning to their villages having lost their jobs, which is happening now. Global trends have to have an effect on export driven China both in the short and long term.
Two more points worth noting. China is a resource poor country, although this hasn’t hampered Japan, and when in history has a country with a communist style government been greatly successful? Not very often that I can remember, especially if it doesn’t have the advantage of natural resources.