Chart Of The Day: America's Debt Crisis - Who Really Is Responsible?

Yesterday we brought you the news that US debt quietly soared by $90 billion overnight to celebrate the new fiscal year end, reaching $16.2 trillion and sending total US debt to GDP to 103%. Needless to say, this comes at an exciting time, with the first Wall Street muppet presidential debate in about 12 hours, where the US debt crisis will be a front and center topic because in about 2 months, the US debt ceiling will again be breached adding to the Fiscal Cliff fiasco, resulting in a flashback to August 2011 when the market had to tumble by nearly 20% for Congress to get the hint that first and foremost its job is to make sure the money on Wall Street keeps flowing, all else secondary. And while it has become fashionable to say that US debt rose by this much under that president, the truth is that the Presidency is merely one of three institutions that are responsible for the shape of the US debt-to-GDP line (which is now going from the lower left to the upper right by default). The other two are, of course, Congress and the Senate. Luckily, to simply things substantially, we have a handy graphic from today's Bloomberg Brief which conveniently plots not only the political affiliation of the presidency, but of the House and Senate, in the chronology of the US debt crisis.

Dancing On The Grave Of Keynesianism

The problem we are going to face at some point as a nation and in fact as a civilization is this: there is no well-developed economic theory inside the corridors of power that will explain to the administrators of a failed system what they should do after the system collapses. This was true in the Eastern bloc in 1991. There was no plan of action, no program of institutional reform. This is true in banking. This is true in politics. This is true in every aspect of the welfare-warfare state. The people at the top are going to be presiding over a complete disaster, and they will not be able to admit to themselves or anybody else that their system is what produced the disaster. So, they will not make fundamental changes. They will not restructure the system, by decentralizing power, and by drastically reducing government spending. They will be forced to decentralize by the collapsed capital markets. The welfare-warfare state, Keynesian economics, and the Council on Foreign Relations are going to suffer major defeats when the economic system finally goes down. The system will go down. It is not clear what will pull the trigger, but it is obvious that the banking system is fragile, and the only thing capable of bailing it out is fiat money. The system is sapping the productivity of the nation, because the Federal Reserve's purchases of debt are siphoning productivity and capital out of the private sector and into those sectors subsidized by the federal government.

Guest Post: If You Prop Up An Artificial Economy Long Enough, Does It Become Real?

The policy of the Status Quo since 2008 boils down to this assumption: if we prop up an artificial economy long enough, it will magically become real. This is an extraordinary assumption: that the process of artifice will result in artifice becoming real. This is the equivalent of a dysfunctional family presenting an artificial facade of happiness to the external world and expecting that fraud to conjure up real happiness. We all know it doesn't work that way; rather, the dysfunctional family that expends its resources supporting a phony facade is living a lie that only increases its instability. The U.S. economy is riddled with artifice: millions of people who recently generated income from their labor have gamed the system and are now "disabled for life." Millions more are living in a bank-enabled fantasy of free housing. Millions more are living off borrowed money: student loans, money the government has borrowed and dispensed as transfer payments, etc. Assets are artificially propped up lest a banking sector with insufficient collateral be revealed as structurally insolvent. It's not difficult to predict an eventual spike of instability in such a system; the only difficulty is predicting the date of the instability. Hiding a broken, dysfunctional economy behind a facade of artifice and illusion can't fix what's broken, it only adds to the system's systemic instability as resources that could have gone to actually fix things are squandered on propping up phony facades of "growth" and "health."

Frontrunning: October 2

  • RBA Cuts Rate to 3.25% as Mining-Driven Growth Wanes (Reuters)
  • Republicans Not Buying Bernanke’s QE3 Defense (WSJ)
  • Spain ready for bailout, Germany signals "wait" (Reuters)
  • EU says prop trading and investment banking should be separated from deposit taking (Reuters)
  • Call for bank bonuses to be paid in debt (FT)
  • Spanish Banks Need More Capital Than Tests Find, Moody’s Says (Bloomberg) ... as we explained on Friday
  • "Fiscal cliff" to hit 90% of US families (FT)
  • The casualties of Chesapeake's "land grab" across America (Reuters)
  • U.K. Government Needs to Do More to Boost Weak Economy, BCC Says (Bloomberg)
  • World Bank Sees Long Crisis Effect (WSJ)
  • UBS Co-Worker Says He Used Adoboli’s Umbrella Account (Bloomberg)
  • And more easing: South Korea central bank switches tack to encourage growth (Reuters)

PIMCO On Gold - The Simple Facts

When it comes to investing in gold, investors often see the world in black and white. Some people have a deep, almost religious conviction that gold is a useless, barbarous relic with no yield; it’s an asset no rational investor would ever want. Others love it, seeing it as the only asset that can offer protection from the coming financial catastrophe, which is always just around the corner. PIMCO's views are more nuanced and, we believe, provide a balanced framework for assessing value. Their bottom line: given current valuations and central bank policies, we see gold as a compelling inflation hedge and store of value that is potentially superior to fiat currencies.

Guest Post: On Risk Convergence, Over-Determined Systems, And Hyperinflation

To those familiar with Algebra, we suggest that the Ponzi scheme we live in is actually an overdetermined system, because there is no solution that will simultaneously cover all the financial and non-financial imbalances of practically any currency zone on the planet. Precisely this limitation is the driver of the many growing confrontations we see: In the Middle East, in the South China Sea, in Europe and soon too, in North America. That these tensions further develop into full-fledged war is not a tail risk. The tail risk is indeed the reverse: The tail risk is that these confrontations do not further develop into wars, given the overdetermination of the system! We have noticed of late that there’s a debate on whether or not the US dollar zone will end in hyperinflation and whether or not the world can again embrace the gold standard. The fact that we are still in the early chapters of this story does not allow us to state that hyperinflation is only a tail risk. The tail risk is (again) the reverse: That all the steps central banks took since 2008 won’t lead to spiraling quasi-fiscal deficits.

Spot The Odd One Out

There have been a few nations in the world over the last decade or so that have garnered somewhat mind-blowingly negative attention and have been forced to restructure, take losses, or default (semantics) on their debt (or financial system). Three of the best known are Argentina, Iceland, and most recently Greece. The following chart of GDP growth may have a lesson for every investor around the world (especially those in sovereign bonds) - and maybe more importantly for the Greek (and European) leadership. Is there something different about the post-restructuring growth in Greece that did not occur in the other two nations? Perhaps taking your medicine is indeed the right way to go - and enables growth to once again re-emerge - and the constant use of the M.A.D. argument is pure bluff.

Is The Money-Laundering Driven Real Estate "Boom" Ending?

One by one all the money-laundering loopholes in a broke world are coming to an end. First it was Swiss bank accounts, which for centuries guaranteed the depositors absolute secrecy, and as a result saw money inflows from all the wealthiest savers in the world, who felt truly safe their wealth (obtained by legal means or otherwise) would not be redistributed forcefully. In the ecosystem of finance, Switzerland was the depositor bank. Then 2008 happened, and starting with the US, shortly to be followed by every other insolvent country, demands were issued for a full list of people who had used Zurich and Geneva bank vaults to avoid the risk of asset taxation, capital controls and confiscation on their own native soil. The result was the end of the Swiss banking sector as the ultimate target of all global money laundering. In the ensuing power vacuum, others have sprung up to take its place, most notably Singapore, but its days as a tax-haven are numbered by how long it takes China to fall face first into a hard landing at which point no saving on the Pacific seaboard will be safe.

Now, it is the turn of real estate.

The Next Subprime Crisis Is Here: Over $120 Billion In Federal Student Loans In Default

Whereas earlier today we presented one of the most exhaustive presentations on the state of the student debt bubble, one question that has always evaded greater scrutiny has been the very critical default rate for student borrowers: a number which few if any lenders and colleges openly disclose for fears the general public would comprehend not only the true extent of the student loan bubble, but that it has now burst. This is a question that we specifically posed a month ago when we asked "As HELOC delinquency rates hit a record, are student loans next?" Ironically in that same earlier post we showed a chart of default rates for federal loan borrowers that while rising was still not too troubling: as it turns out the reason why its was low is it was made using fudged data that drastically misrepresented the seriousness of the situation, dramatically undercutting the amount of bad debt in the system.  Luckily, this is a question that has now been answered, courtesy of the Department of Education, which today for the first time ever released official three-year, or much more thorough than the heretofore standard two-year benchmark, federal student loan cohort default rates. The number, for all colleges, stood at a stunning 13.4% for the 2009 cohort. And while it is impossible using historical data to extrapolate with precision what the current consolidated federal student loan default rate is, we do know that there is now $914 billion in federal student loans (which also was mysteriously revised over 50% higher by the Fed just a month ago). Using simple inference, all else equal (and all else has certainly deteriorated), there is now at least $122 billion in federal student loan defaults. And surging every day.

Ladies and gentlemen: meet the new subprime.

Guest Post: Welcome To The Era of 'Ugly' Inflation

Ray Dalio recently described the characteristics of a “beautiful deleveraging” in which equal doses of austerity, write-downs, and inflation gradually lighten the load of impaired debt. Two things can turn beautiful inflation into ugly inflation: Wages don’t inflate along with prices and the currency depreciates as money is printed excessively. This might not matter for a nation that is a net exporter of goods and services.  But for nations that import essentials such as oil and grain, this is a catastrophe, as wages are flat while the cost of imported energy and food skyrocket.  Households have less money to spend, and servicing debt becomes increasingly burdensome. Welcome to the United States of Ugly Inflation.  Real household income (i.e., adjusted for official inflation) has declined 8% since 2007; the cost of oil, medical care and higher education has climbed; and government revenues have stagnated even as demand for government services has increased. As a result, the entire beautiful deleveraging scenario is at risk.

Fitch Warns UK Likelihood It Loses AAA Rating Has Increased

One-by-one, the highest quality collateral in the world (according to ratings that is) is disappearing. To wit, Fitch warns that a downgrade of the UK's AAA rating is increasingly likely: "weaker than expected growth and fiscal outturns in 2012 have increased pressure on the UK's 'AAA' rating, which has been on Negative Outlook since March 2012." The Negative Outlook on the UK rating reflects the very limited fiscal space, at the 'AAA' level, to absorb further adverse economic shocks in light of the UK's elevated debt levels and uncertain growth outlook. Global economic headwinds, including those emanating from the on-going eurozone crisis, have compounded the drag on UK growth from private sector deleveraging and fiscal consolidation as well as from depressed business and consumer confidence, weak investment, and constrained credit growth. But no mention of unlimited QE? Fitch expects only a weak recovery beginning in 2013 and output is not expected to surpass its 2007 pre-crisis peak until 2014.

The Financial Crisis Of 2015 - A Non-Fictional Fiction

The financial crisis of 2008 shook politicians, bankers, regulators, commentators and ordinary citizens out of the complacency created by the 25-year "great moderation". Yet, for all the rhetoric around a new financial order, and all the improvements made, many of the old risks remain (and some are far larger). The following 'story' suggests a scenario based on an 'avoidable history' and while future crises are not avoidable, being a victim of the next one is.

"John Banks was woken by his phone at 3am on Sunday 26th April 2015. John worked for Garland Brothers, a formerly British bank that had relocated its headquarters to Singapore in late 2011 as a result of..."

A Chinese Mega City Is On The Verge Of Bankruptcy

While most "developed world" people have heard of Hong Kong and Macau, far fewer have heard of China's province of Guangdong, which is somewhat surprising. With over 100 million people, a GDP of nearly $1 trillion - the biggest of all Chinese provinces, this South China Sea adjacent territory is perhaps China's most important economic dynamo. One of the key cities of Guangdong is Dongguan, which as the map below shows is a stone's throw from Hong Kong, has a population of nearly 10 million, and has long been considered Guangdong's boomtown and one of China's richest cities. One notable feature about Dongguan is that it is home to the New South China Mall, which is the world's largest. It also happens to be mostly empty ever since it opened in 2005. Which perhaps is a good segue into this story. Because while for the most part the city of Dongguan has been a story of prosperity, a wrinkle has appeared. According to the South China Morning Post, which cites researchers at Sun Yat-sen University, this city is now on the brink of bankruptcy.

CDS Market Begins Trading Imaginary Credit With LIBOR-Style Fixings

We have not been aggressive anti-CDS fanatics in the past - since the ignorance of mainstream media types satisfies that need - as the reality in the credit market is less extreme than many would love it to be. However, the latest move by Markit and its self-aggrandizing dealer owner/clients, to bring names into the high-yield credit index that do not even have CDS trading on them, is simply remarkable. While they will defend the move on the basis that it will force dealers to provide single-name CDS liquidity in three of the high-yield credit markets most-indebted companies (CIT, Charter Comms, and Calpine), the fact is that they are using the liquidity/fungibility of the index to enable risk to be unwound on what is likely bloated balance sheets containing too much of this crap. By imagining (or fixing LIBOR-style) where the CDS would trade, based on where the firms' bonds trade, we worry that the hitherto somewhat liquid source of 'fast' macro-hedging or positioning has become even more manipulable than before - and in the event of a default (or stress/illiquidity event), we can only imagine the law-suits. As the FT notes - all this does is provide more 'arbitrage' opportunities as opposed to real hedging; simply amazing that as with equities - it is now the synthetic indices that run the entire market.