Nine Meals From Barbarism

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It’s always a fun week when the big banks report earnings. This week it’s Commonwealth Bank (ASX:CBA), with NAB to give a trading update later in the week. What will CBA’s results tell you?

Over the next month you’ll get to see how much the banks are actually hurt by higher funding costs, whether bad debts are rising, and if the housing market is causing them any trouble (loan losses). Of course we may learn that bank margins are tight but not terrible, that bad debts are manageable, and that the housing market is in great shape!

One interesting note? ING – Australia’s fifth-largest lender – is returning to the securitisation market to source some of its funding, according to today’s Australian Financial Review. ING says it’s trying to diversify its funding sources. Right now, 53% of its funding is from deposits, 34% from long-term funding, and the rest from short-term borrowing. So what?

When the Global Financial Crisis hit home in 2007, smaller regional banks in Australia lost the ability to fund mortgage lending by packaging up loans and selling them to offshore investors (securitisation…or a kind of financial sausage-making). You can see what happened in the chart below from the Reserve Bank of Australia. Both onshore and off-shore demand for high-yielding mortgage-backed bonds more or less evaporated.

In September of 2008, thought, the Australian Office of Financial Management (AOFM), at the behest of the Rudd government, began buying up residential mortgage backed securities (RMBS). They bought them from smaller regional banks in the name of promoting competition in mortgage lending. The probably also provided “access” to housing finance for borrowers who couldn’t get “access” from the Big Four Banks – not that lending standards in Australia would have ever gone subprime.

Since its RMBS purchase program began, the AOFM has purchased some $8.7 billion in RMBS put forth by 14 different issuers. An investigative journalist who does not write free daily e-letters might have a look at the issuers of those RMBS and see which ones were getting government mortgage money to keep the housing market going. It might be a good story.

The “risk appetite” of Australian and foreign investors might start getting pretty dull, though, if Friday’s economic numbers from the US are any indication. The private sector added 71,000 jobs according to official government statistics. But the government itself layed off a bunch of temporary hires for the Census. The result was a net loss of 131,000 jobs.

Gold was back up over $1,200 on the fearful news and traded at $1,207.50 in New York. Oil was persistently high too, and trades at $81.07 in the futures market. Most of the US indices opened down on the news and then clawed their way back to indifferent losses by the end of the Friday session.

But now everyone is wondering if there’s another big dip coming in the Great Recession. And if it’s coming, can’t the Fed do anything about it, like buy more mortgage bonds…or something? And what about more stimulus? If households won’t or can’t spend, is it time for the government to dig even deeper, take one for the team, and spend billions more in borrowed money to “get things going again?”

Those are some of the questions we’ll take up in the Daily Reckoning this week. But let’s start the week out with a bit of reader mail. It’s been awhile. And there’s a lot of mail!

Hi,

Thanks for the regular updates. I certainly enjoy reading them when work is not too busy. Having looked through today’s, I couldn’t help wanting to ask a question.

If you accept the proposition that the last 30-50 years of prosperity has not been the result of careful government planning, deregulation and private sector inventiveness but rather has been a result of the impact of the demographics of the post war boom (i.e., my mum and dad who bought a house, did it up and managed to educate a couple of kids on the wages of a policeman and part time nurse) combined with an expansion of debt (relying on the classical definition of savings as deferred consumption, hence dis-saving or debt must be accelerated consumption), then what happens over the next fifteen years as the boomers age?

My gut feel is that volatility will remain and that the weight of money argument starts to work in the opposite direction which would not be good for equity investments.

Looking forward to tomorrow’s DR.

Warm regards,

Matthew

Does perpetual growth require perpetual population expansion? Probably not. An increase in per capita incomes and overall productivity can lead to growth without population expansion. But what we have now is a lot economic activity that exists and is supported by unsustainable credit growth. Until those credits are written down or liquidated, it’s going to be hard to move on to “the next big thing.”

The scarier question, which your analysis hints at, is whether you can move from one complicated system of systems – the world we have now – to another as yet undefined system, without a lot of people losing a lot of money. You should never discount the positive impact of disruptive technologies. The gales of creative destruction have a way of creating brand new fortunes and industries quickly. It could happen again. But investing in the same old companies and expecting the same old results for the next twenty years?

On debt, liquidity, and barbarism:


Your comments about debt are weak. The fundamental problem to avoid deflation is liquidity. That is what the governments are doing. How much liquidity came out of the financial system with Lehman’s collapse? How can society exist without liquidity??

How is $$$ going to get into the hands of people to create hyper inflation??? I don’t see how that will happen unless they cut taxes to zero.

The bottom line is that we are a cash-flow world and this is about maintaining social order among human animals. We can’t become self actualized to the point where we forget that we are nine meals (or less) from barbarism.

Best regards,

Mike S.

Your comments on our comments are cryptic. Falling prices because of increased productivity is no bad thing. That means the purchasing power of cash relative to goods and services increases with a stable money supply. How bad is that?

Without the exchange of goods and services via money, there is no economy. But the current problem with the financial system isn’t a liquidity problem – not enough money to grease the wheels of commerce – it’s a solvency problem – too many institutions capitalised by questionable assets whose value was boosted by artificial money creation.

You’re probably right that you can maintain “social order among human” animals by creating paper chits and allowing people to claim the value of other’s labour with them. But that isn’t exactly the kind of social, economic, and political order we’d want to be a part of. We’d prefer the spontaneous order of a system of commerce without coercion, where you trade freely, get to keep the fruits of your labour, and improve the “social order” whether you know it or not by simply making the most of your opportunities and gifts.

As for how the Fed’ going to get money into the hands of the people, we think we found the smoking gun last week, and it’s not helicopters. In its haste to put “predatory” pay-day lenders out of business, the new Dodd-Frank bill seems to create a conduit for Federal money to pass through banks directly into the hands of…pretty much anyone. Maybe we’ve read it wrong, but “access” to cheap loans probably means a whole new Federal gravy train…the old hyperinflationary express itself.

On lies:

Dear Friends:

How can the USA run a $3 trillion two-year deficit and obtain such low borrowing rates? You leave out one possibility : they lie. Probably the Fed Reserve is buying most of the bonds and simply not letting anyone know how much QE they are doing. They are unaudited and have shown no interest in the truth in the past.

Dan Denning
Dan Denning examines the geopolitical and economic events that can affect your investments domestically. He raises the questions you need to answer, in order to survive financially in these turbulent times.
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Comments

  1. DD here abandons “personal responsibility” for consequences while in equal measure claiming that very thing as his centrepiece for a sustainable economic order.

    Mike S describes the high probability of a disasterous outcome should we seek to overturn the current economic order. DD’s limits himself in his response to advocating an idealism that is only referenced to today’s economic order.

    While DD pays lip service to the consequences of an emerging chaos elsewhere, he fails to acknowledge the consequences of setting out on the policy path that he recommends when addressing Mike’s argument.

    The idea of generating the essential fabric of economies based on the passing of chits in exchange for discretionary services among & between the populace is the same orthodoxy held by Gittins and the Reserve Bankers. Production and staples and external balances of payments is so yesterday! But in doing so asset bubbles are inevitable and the Austrians get to have a field day because hard money and their Utopian objectives are incompatible.

    Economic orders in the 3rd world that retain a value bias toward the non discretionary (industrial, agrarian, and energy sectors) leave the populace starved of opportunity for income. The racketeer engendered abstention of capital and trade opportunity does the rest.

    The problem is not that described by Malthus but the opposite. Employing existing technologies to uniformly increase productivity in the industrial, agrarian, and energy sectors to best practice across the globe will create a massive surplus in production and a massive deficit in employment.

    We accept that we have a funny money debt rigged game of using asset inflation to generate ever more debt and ever more consumption (of non essential / discretionary services). But this still leaves the most essential matter being that of the next steps that we might take or that of the environment that is forced upon us. Being human most of us would like to at least consider the former.

    Either withdrawing from the current prevailing economic system, one that is buttressed by the GDP’s of western consumer economies, or being ejected through a ‘flationary panic (however objective the rationale of the panicked behaviour), will be an ugly business as Mike says and having a bunch of crooks handling the chits might sound good to most. It doesn’t to me, but I also believe in democracy.

    It will take a mighty narrative to win the day but it is more likely that the dogs of war get their turn to “rebalance” things one way or the other.

    Reply
  2. Ross, is your real name Kim Beasely by any chance? Finding it hard to understand your points…

    bearamundi
    August 9, 2010
    Reply
  3. We’re all idealistic fools or criminals..next stop WW111.
    Hows that Bear :)

    Reply
  4. Copy that Lachlan. had a feeling it was gonna be bad….where do you get those emoticons? nice

    bearamundi
    August 9, 2010
    Reply
  5. Ahh…well. You know one of the regular posters taught me those. You’ve already met him actually ;)
    I suppose I like to convey emotions on here to get the best of the experience.
    Well anyhow you should press space bar first, a colon 2nd and a close bracket 3rd and then maybe another space..in case..ha ha :D
    A capital instead of a close bracket does an extra huge smile…like what i just did.
    A semi colon instead of colon does a wink if you wanna be a clown
    An open bracket for a sad face

    Reply
  6. Yes, it was good for me too Lachlan ;)

    bearamundi
    August 9, 2010
    Reply
  7. oops should be a capital D for da big smile

    Reply
  8. Like being in pre-school only better :))

    bearamundi
    August 9, 2010
    Reply
  9. thanks Lachlan :D

    bearamundi
    August 9, 2010
    Reply
  10. Sorry Bear. I meant if we to succeed in implementing a righteous economic religion right now we will bring on the unwinding of a massive discretionary services and consumer economy that is the very soul of most folks living.

    Yes the nation has resources but it doesn’t pay the government bills like the GST and stamp duty. It doesn’t, even in 3 degress of separation, make the paycheck of the minority in paid private employment. If we enforce hard money from our current starting point, and kill the general expectation of asset price inflation, and make people & govt pay off their debts, we will go into a depression that makes the great depression look like a pantomine. Bread and dripping will be a priviledge again. Even if you produce milk and eggs it will be too valuable for you to eat (again).

    Reply
  11. As you pointed out recently Ross, the speed with which the consumer economy can be switched off is frightening – A few months max is all it takes to have shipping and cargo piled up all around the world.

    I doubt anyone is thinking in terms of major economies paying off their debts – Keeping them contained enough that they can continue to make modest little interest payments on them long term has to be a very best case scenario.

    And the Austrian economics solution of let it crash and burn with the phoenix rising from the ashes tends to ignore the human factor which means that multiple phoenixes can pop up simultaneously with them all being lean and mean and hungry and carrying guns.

    Reply

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