Thursday, 30 October 2008

Crisis exported...

Yesterday the United States Federal Reserve lived up to global expectations and cut the Fed Funds rate from 1.5 to 1 per cent. This implies that the Fed has abandoned fears about inflation and will be concentrating, first and foremost, on the threat of recession.

On the same day that rates were cut, the Fed has agreed to lend $120 billion to Mexico, Singapore, Brazil and South Korea ($30 billion each). This move is in response to the unmet demand for U.S. dollars in the national banking systems of the four countries. Emerging economy banks want dollars to counteract volatility in currency, to meet obligations that must be in dollars, and to shore up confidence.

This is yet another sign that the world's financial leaders are recognizing that this crisis is no longer isolated to the industrialized nations. In fact, while the direct effects of the crisis have not fully hit the emerging economies, the effects of it on their currencies and indices have been magnified. This is partly due to emerging nation's reliance on foreign direct investment and trade. That said, for now it appears that the bulk of the instability in the emerging economies is a result of currency pressures and insecurity.

Production cuts in China are spreading fear that the world's work-shop is decelerating much faster than expected. Manufacturers are closing their doors all over the industrial regions of China. This is happening while China has reduced interest rates in an attempt to stimulate the economy. As an economy that relies heavily on export, China's output should be heavily effected by large shifts in global demand. These factory closures, however, might best be understood as a preemptive reduction in costs to prepare for what is seen as an inevitable downturn in the advanced countries (read: U.S., Japan and the E.U.), the main destination for China's exports.

While forecasts for China's growth are still highly positive they have been reduced from previous estimates and are sure not to reach the pre-crisis levels. China is a special case. It is not special because it is immune to the global recession--it certainly is not immune. It is special because the rate at which the economy must grow in order to maintain employment levels is much higher than other countries. Thus a reduction in the growth rate has grave implications for China's enormous workforce. Increasing unemployment and an inability to absorb workers migrating from the country to the cities in search of jobs could spell dangerous instability for China's government. Increasing unemployment could result in substantial social unrest.

Japan, another export dependent economy, has just announced that its industrial output was down 1.2% in the last quarter (July-September).

In European news, a poll shows the majority of Germans would favor the nationalization of large swaths of the economy.

In the U.S., consumer confidence fell to lows not seen in 41 years. Consumer confidence is an indicator that is said to measure, in some form, expected consumer spending, which accounts for two-thirds of US economic growth. Confidence has waned as falling home values, rising official unemployment, and financial insecurity have consumers tightening their belts and putting away their credit cards.

It has been reported that more than half of the bailout money given to banks has gone to dividend payments to shareholders and not lending to potential borrowers. Amidst recent nationalizations, it is about time that Americans start thinking about exerting their democratic will on the economic institutions that effect our day-to-day lives.

Tuesday, 28 October 2008

No End in Site: Global Markets Exhibit Continued Weakness

The extreme turbulence that has characterized markets in recent weeks shows no signs of subsiding. Yesterday global stock prices fluctuated between huge losses and huge gains until finally settling on losses in most western exchanges by the close of trading (including massive losses in Toronto's TSX, -8%). China's main exchange, in contrast, experienced a gain of nearly 15% by the end of trading. Extreme volatility has persisted today (12:30 pm).
In addition to violent movements in almost all classes of assets, currency has failed to provide any haven for the cautious. Currency 'imbalances' have left the global economic outlook even more precarious. The financial news today is awash with articles commenting on the destabilizing nature of the current valuation of currencies. The Yen (Japan's currency) has been, and is still, rapidly appreciating in value against other currencies while the dollar has continued its somewhat slower rise as well. We are seeing a catastrophic depreciation of developing nation currencies.

How do we interpret this?

Let's begin with asset price volatility. Investors do not like extreme price fluctuations. For markets to function investors need to be able, or feel able, to reasonably assess the riskiness of their prospective investments. This means that when markets behave moderately (exhibiting slow, steady, secular changes) people feel as though they have a better grasp of the future and are therefore more willing to put their money where their expectations are--this could mean betting up or down. When prices are subject to erratic shifts, the outlook for the future is more difficult to determine. Thus investors feel less comfortable about their ability to make good decisions in the market. This leads many to sit out. This phenomenon is frequently referred to as risk aversion.
Even with the prospect of huge gains in some assets and some exchanges (yesterday only China), extreme volatility is yet another factor compounding the deterioration of the global financial world. The period of relative tranquility experienced in the five years leading up to the beginning of the crisis of global capitalism (2002-2007) was heralded as a sign that a new era of predictability had arrived. It was called the "Great Moderation." It seems now that those days are gone. In fact, present turbulence in the markets and the retrospective view of huge asset bubbles, calls into question the very logic of the moderation. The fate of the global market remains precarious. This is new to investors accustomed to predictability but those of us who work for a living have become increasingly accustomed to the precarious nature of employment and compensation in the past decade.

Currency fluctuations are directly linked to the current crisis, however, the connection is far from intuitive. The rapid appreciation of the Yen is a result of the market actors' belief that Japan's economic strength provides a haven for investors. This has proved a self-fulfilling prophecy as increased demand for the Yen has forced the currency higher. The dollar is benefiting not from a perception that the U.S. economy is healthy (no fool would believe that), but because the dollar is still the global currency. Possibly more importantly, investment funds that are pulling out of the markets (hedge funds especially) are liquidating their holdings in global markets and money is returning home to the United States. This is another reason we are seeing devastating depreciation of developing market currencies, though it is probably the tip of the iceberg. Hungary, Pakistan, Iceland, and Ukraine are all teetering on the edge of all out financial collapse. South Korea, Brazil Philippines and Indonesia are moving quickly towards crises induced (at least partially) by rapid falls in their currencies.
To put this in perspective, an appreciation in the dollar all but eliminates the chances of an early rise of U.S. exports to save the economy from a recession and will, in all likelihood, help to maintain or worsen the trade imbalances that contributed to the crisis in the beginning. For developing nations, currency devaluation will exacerbate the food crisis by counteracting the recent falls (from all-time highs) of food prices. On a related note, the U.S. and Japan can feel free to keep cutting interest rates as the appreciation in their currencies has finally laid low any remaining fears about inflation--although these fears have probably been of the irrational variety since August 2008.

The IMF could soon deplete its reserves to an extent that would leave it essentially impotent in the face of the crisis just as it is hitting nations hardest. It is the IMF's mandate to prevent nations from collapsing. Now as many national governments balance on the brink of catastrophe, the IMF is in a position in which it will very likely have to pick and choose who it will lend to.

Surplus-rich China, Russia and the Gulf States may be asked to step up to the plate to prevent the failure of national governments... but didn't we (the West) want them to start generating growth through increasing internal demand? It seems unlikely that they can do both.

As we all watch the international economy breakdown, we all become acutely aware of the fragility and complexity of the capitalist mode of production. It now seems justifiable to step back and marvel at the fact that it was ever able to function smoothly.

Saturday, 25 October 2008

Nosedives in fictitious and productive capitals Oct 24-25

Recession fears manifested in plunging markets on Friday. Stock markets in Asia, Europe and finally the Dow Jones in the U.S. fell to five year lows. The Wall Street Journal fears there are no safe havens in the global economy left to hedge with.

Following Marx, I would argue that market falls and crashes are not destructions of value but rather are redistributions of value. What is destroyed is the title of ownership, which Marx called fictitious capital. If I own a $50 stock in a company, and the stock collapses to zero, I have simply transfered $50 to the company and received nothing. That is to say, stockholder ruin does not necessarily imply the destruction of real societal wealth. We can say there has been destruction of value only if the collapse generates the abandonment or depreciation of plants, machinery or other fixed investments.

The fallacy is thinking that a debt is a commodity with real value (despite the fact that it is traded on the market). Marx, in Volume III of Capital wrote that "unless this depreciation reflected an actual stoppage of production and of traffic on canals and railways, or a suspension of already initiated enterprises, or squandering capital in positively worthless ventures, the nation did not grow one cent poorer by the bursting of this soap bubble of nominal money-capital."

Of course, stoppages of production and traffic in the real economy have indeed been appearing across the globe. Data published on Friday revealed a significant drop in third quarter British output, the sharpest decline since 1990. Though a single quarter decline does not meet the technical definition of recession, there is virtual consensus that the country is in one. The Industrial and Commercial Bank of China announced a significant decline in third quarter profit growth. In expectations of declining demand, Chinese steel and aluminum industries have cut production by 20 and 18 per cent, respectively. Chinese car sales are expected to flatten. Despite Opec's production cut on Friday, oil prices continue to decline as fears of slowing demand growth mount.

In the US, amidst a 25 per cent drop in annual sales, Chrysler announced that by the year end it will lay off 25 per cent of its white collar workforce. Meanwhile merger talks with GM escalate.

Thursday, 23 October 2008

News from the financial press Oct. 23

The depth and severity of the global crisis has prompted the U.S., with support from its Western European allies France and Britain, to call for a 20 nation summit to discuss the causes of the global crisis and forge a united response.
The call for the conference was made amid another day of highly volatile equity (stock market) prices and steep declines for the prices on commodity markets (especially oil and gold). The decline of equity and commodity markets is a result of the market's (meaning those people who invest in the markets) belief that a recession is unavoidable.
The dollar is still rising against global currencies. This should not be taken as an indication of U.S. strength and resilience but as a continuation of investor fears and the volatility of markets. Despite claims by many that this crisis signals an immanent decline of U.S. economic power, the dollar is still the international reserve currency (the currency that is accumulated by central banks) acting as a de facto universal currency.
It is significant that the "underlying causes of the financial crisis'' will be among the topics of the summit. To analyze the determining factors of the crisis is fundamentally different than simply trying to fix it. It is very difficult to imagine the world's industrialized nations coming to any conclusion more profound than a critique of deregulation. There will most likely be some discussion of trade imbalances as well, though I predict most of the discussion will revolve around questions of finance. As far as a new financial infrastructure is concerned, we can definitely count on new emboldened roles for the IMF and the World Bank. We can also look forward to some agreement on guideline or principles for financial regulations. This, of course, would be enforced by national governments and regulatory bodies.
The Wall Street Journal and the Financial Times are both predicting a growing role for the worlds rapidly developing nations in the new world financial order. This is significant. What is really impressive, however, is the fact that there is talk of a new financial order at all. More than anything else, the G20 conference (dubbed Bretton Woods ll) can be understood as the end of an epoch. Neoliberal capitalism, the ideology of the free and self-regulating market, is dead. Anti-globalization activists could not defeat it and neither could Hugo Chavez. The free market imploded under the weight of its own contradictions.*

* see

Fear of recession drove down the worlds major stock indices. Wall street was was the big victim with losses that brought the market to lows not seen in five years. The continued pessimism and risk aversion (unwillingness to engage in risky behavior with the potential of high payoffs) comes at a time when credit markets are loosening. The interbank overnight lending rate (usually called the Libor) has gone down for another day, thus making it easier for banks to meet obligations and helping to ensure the overall health of the banking system. (Note that the Libor is seen as an important indicator for the health of the banking system.) This good news in the banking system was expected to calm investors. However, fear of a recession in the real (non-financial) economy has prompted many would-be investors to steer clear of markets. This comes after the release of data showing very poor earnings for U.S. companies. U.S. companies are cutting jobs and cancelling investment plans.
News from the markets today is showing that the crisis, which first emerged in the financial sector, has spread to the real economy. This is happening faster than many analysts had expected. Given the speed at which the crisis is spreading, we can expect many preemptive job cuts. This is worrisome because a reduction in employment will have two fold (multiplier) effect: 1) an increase in the unemployment rate will reduce the bargaining power of labor and drive the wage down; i.e., you re willing to work for less if you feel that there is no alternative job that could pay better. 2) an increase in the unemployment rate leads to a reduction in the total wages paid out in the whole economy. This in turn leads to a reduction in the demand for goods and services in the economy therefore prompting more employment reductions. In its most basic form, this is the immediate process underway right now. Crises have self-perpetuating tendencies and are therefore very difficult to stop once the process has begun. Just how strong the counter-cyclical tendencies are is yet to be seen. The situation appears to be such that only massive intervention by the state could stop the blood-letting. We may see the government forced to tackle the problem in the role of "employer of last resort."

In related news, 478,000 workers filed for unemployment last week. This statistic is substantially lower than the total number of people who lost their jobs because it does not include people who have been employed for less than six months, part-time employees who lost their jobs, 'under-the-table' workers, illegal immigrants, or employees forced to register as independent contractors.

Tuesday, 21 October 2008

Short View: Is it safe to go back in the water?

Short View: Is it safe to go back in the water?

By John Authers

Published: October 20 2008 20:58 | Last updated: October 20 2008 20:58

Credit Default Swaps (from here on CDS, the cost to ensure debt default) on the world's major banks have gotten cheaper. That means that investors believe the likelihood of a major bank collapse has decreased. Sounds like stability. Markets believe things are moving in the right direction but the CDS are still much more expensive than they were before the implosion of Lehman Brothers.

In even more positive news for finance, the interest rate at which banks lend money to one another overnight has dropped from 5.37 to 1.5. This indicates an increase in trust between institutions--they are more willing to lend to one another. Note: this market is very important for the banking industry because it is what allows the banks to meet their balance sheet obligations without having to liquefy assets etc... However the rate at which banks are willing to lend to one another over a three month period is still far above historical levels. This indicates a fear of instability in the coming months.

All this seems like good news for the capitalists. Although, the CDS and interbank lending rates do not reflect only internal market conditions, so a strong argument can be made that the loosening of lending and the cheapening of insurance are reflections of the government's guarantees and not the health of the system.

And, finally, money markets, now flooded with cash, are experiencing a continuation of a flight to safety. This phenomenon is marked by high demand for Treasury Bills (considered to be the safest investment because the U.S. government isn't likely to collapse any time soon) and the subsequent decrease in their yield (the interest that they pay) to 0.06 percent.

Bernanke backs new stimulus package

Bernanke backs new stimulus package

By Krishna Guha in Washington

Published: October 20 2008 20:33 | Last updated: October 21 2008 00:30

This seems like pretty good news. A new stimulus package means more spending money for me and people I know. Does this mean that the U.S. Gov. has finally taken to helping out average Joe (six pack or plumber)? I would not jump to that conclusion. Never mind that the $300bn package is less than half the massive bailout we (taxpayers, the working class) gave to the bankers. This stimulus package will do very little to ease the pains of a labor market that is quickly loosening. In fact, this package is intended to be little more than a quick supplement to consumer spending; i.e., this money is expected to be handed right over to capitalists anyway.
The theory behind this type of stimulus package is that a quick injection of cash to the economy will encourage consumer spending. This consumer spending will raise demand and compel firms to do some hiring and investment to meet the new demand. This is supposed to alleviate some of the suffering caused by the crisis. This stimulus package, in theory at least, is supposed to help turn things around.
In reality, I would say that it is a very safe bet that it will initially increase demand (by way of increasing consumption). However, this increase in demand should not be expected to effect the gloomy outlook of American producers in the long run. Retailers, on the other hand, can look forward to increased sales but there is no reason to believe that they will need to hire any new labor to deal with the increase in consumer volume. Neither Wal-mart nor local hardware stores will need to hire anyone new to deal with an increased flow of customers to their aisles. The injection of consumer demand will help capitalists deal with excess inventory and keep the prices high on those very goods that are being purchased. This package will help profits but should have no effect on wages or employment.
Capitalist firms are not blind nor are they stupid. They understand that increased sales are prompted by a stimulus package and, accordingly, they will not be investing in plant, equipment or capacity. There will be nothing to show for this $300bn package with regard to the long term productive capacity of our society. For the more economically inclined readers, this package will increase capacity utilization, not productive capacity; that is to say, the rate of exploitation and the rate of profit should be propped up for U.S. capitalists.
That said, when you get it... spend it. Have drinks and food with your friends or use it to promote anti-capitalist causes. Please do not expect it to improve your job prospects.
In conclusion this could be taken as a sign that Bush and Co. have finally turned around on internationalism. This should be good for exporters with piling surpluses of inventory that needs to be poured into the U.S. market. It will be a continuation of the pro-trade deficit policy that has the American working-class consumer the motor of global growth for the past half decade. But aren't these huge imbalances a source of instability? Oh, and aren't we (see above "we") going to have to pay this back some day? It looks like the government just forced us to take another credit card...