Japan

Over the past month, the world has finally awakened to the reality that when it comes to easing, there is more than just one central bank (i.e., the Fed). in fact, as we have been showing since early this year, the bulk of the easing over the past 5 months has happened elsewhere, primarily in Europe with LTRO 1+2, and subsequently at the BOE, and more recently at India and Brazil. Yet some holdouts still remain. One of these naturally is China, which everyone would love to see cut RRR or even the benchmark rate, yet which as recent CPI data has shown still has lingering packets of inflation precisely where it hurts: food (and of course recall China's Schrodinger economy). Which leaves Japan, which already eased more a few months back when it expanded its LSAP program... but it is never enough. Needless to say strategists, in their quest to shake any and every central banker here or there for some free money, have been seeing imminent BOJ easing in the form of yet another Y5 trillion LSAP any second now. Yet it is one thing for bankers to do what they are programmed to do, which is demand more free money, it is something very different when politicians step in and defuse the myth that any central bank is even remotely independent, especially when reelection is at stake. As Bloomberg points out this morning, the fight for the BOJ's "independent" balance sheet is starting to get lethal.

In simple terms, Spain is like Greece, only bigger and worse. According to the Bank of International Settlements worldwide exposure to Spain is north of $1 TRILLION with Great Britain on the hook for $51 billion, the US on the hook for $187 billion, France on the hook for $224 billion and Germany on the hook for a whopping $244 billion.

Ideological deflationists and inflationists alike find themselves both facing the same problem. The former still carry the torch for a vicious deflationary juggernaut sure to overpower the actions of the mightiest central banks on the planet. The latter keep expecting not merely a strong inflation but a breakout of hyperinflation. Neither has occurred, and the question is, why not? The answer is a 'cold' inflation, marked by a steady loss of purchasing power that has progressed through Western economies, not merely over the past few years but over the past decade. Moreover, perhaps it’s also the case that complacency in the face of empirical data (heavily-manipulated, many would argue), support has grown up around ongoing “benign” inflation. If so, Western economies face an unpriced risk now, not from spiraling deflation, nor hyperinflation, but rather from the breakout of a (merely) strong inflation. Surely, this is an outcome that sovereign bond markets and stock markets are completely unprepared for. Indeed, by continually framing the inflation vs. deflation debate in extreme terms, market participants have created a blind spot: the risk of a conventional, but 'hot,' inflation.

The states of America are, truly, children of the Constitution.  The legal framework that is the foundation of state sovereignty and internal administration is unique for perhaps any country in history up to the moment the U.S. won its independence.  States were designed to decentralize and keep in check the power of a subservient Federal Government.  They were meant to be the guardians at the gate, the barrier to the formation of oligarchy or outright dictatorship.  This, of course, has changed drastically.  The battle over centralized verses decentralized authority and economy has been going on for quite some time, and is undeniably critical in our climate of crisis now, under a government which is bankrupt in every sense and a currency which is on the verge of calamity... The following is a step by step method that states could use to accomplish the task of insulation from financial crisis and federal control.  Much of it hinges on a willingness by state governments to actually pursue independence, which might seem like a naïve dream to most of us.  But, in the wake of a major breakdown, and the fall of the greenback, I believe many states will be seeking a way to weather the storm, if only out of a desire to survive, and this includes walking away from their ties to Washington.

"You apparently can survive betting against bull market irrationality if you meet three conditions. First, you must allow a generous Ben Graham-like “margin of safety” and wait for a real outlier before you make a big bet. Second, you must try to stay reasonably diversified. Third, you must never use leverage."...It is the classic failing of value managers (and poker players for that matter) to get impatient and bet too hard too soon. In addition, GMO was not always optimally diversified. We are generally more cautious (or, if you prefer, “more experienced”) now than in 1998 with respect to, for example, both patience and diversification, and at least we in asset allocation always stayed away from leverage. The U.S. growth and technology bubble of 2000 was by far the biggest market  outlier event in U.S. market history; we had previously survived the 65 P/E market in Japan, which was perhaps the greatest outlier in all important equity markets anywhere and at any time. These were the most stringent tests for managers, and we were 2 to 3 years early in our calls in both cases. Yet we survived, although not without some battle scars, with the great help that we did, in the end, win these bets and by a lot. Hypothetically, resisting the temptation to invest too soon in 1931 may have been a tougher test of survival in bucking the market. Luckily we, and all value managers, were not around to be tempted by that one.

Nothing dramatic here, but the Chairman of the fermentation committee just has that unique flair in explaining things so simply, even an economics Ph.D., a caveman, or the other kind of 'Chairman', would understand...

The Eurozone could break up and trigger a “full-blown panic in financial markets and depositor flight” and a global economic slump to rival the Great Depression, the IMF warned yesterday. In its World Economic Outlook report, the International Monetary Fund said the collapse of the crisis-torn single currency could not be ruled out. It warned that a disorderly exit of one member country would have untold knock-on effects. "The potential consequences of a disorderly default and exit by a euro area member are unpredictable... If such an event occurs, it is possible that other euro area economies perceived to have similar risk characteristics would come under severe pressure as well, with full-blown panic in financial markets and depositor flight from several banking systems," said the report.  "Under these circumstances, a break-up of the euro area could not be ruled out."  “This could cause major political shocks that could aggravate economic stress to levels well above those after the Lehman collapse," said the report. The risks outlined by the IMF are real and are being taken seriously by central banks who are becoming more favourable towards diversifying foreign exchange reserves into gold. Central bank reserve managers responsible for trillions of dollars of investments are shunning euro assets and questioning the currency’s haven status because of the region’s sovereign debt crisis, research has found, according to the FT.... Elsewhere, gold demand in India, the world’s biggest importer, may climb as much as 25 percent during a Hindu festival next week, according to Rajesh Exports Ltd., reviving jewelry buying that was curtailed by a nationwide shutdown.

Following a blistering two days of upside activity in Europe and a manic depressive turn in the US in the past 48 hours, the rally is now be running on fumes, and may be in danger of flopping once again, especially in Spain where the IBEX is tumbling by over 3% to a fresh 3 year low. Still, the Spanish 10 year has managed to stay under 6% and is in fact tighter on the day in the aftermath of the repeatedly irrelevant Bill auctions from yesterday, when the only thing that matters is tomorrow's 10 Year auction. Probably even more important is that the BOE now appears to have also checked to Bernanke and no more QE out of the BOE is imminent. As BofA summarizes, "The BoE voted 8-1 to leave QE on hold at their April meeting: a more hawkish outturn than market expectations of an unchanged 7-2 vote from March. Adam Posen - the most dovish member of the BoE over the last few quarters - took off his vote for £25bn QE, while David Miles judged that his vote for £25bn more QE was finely balanced (less dovish than his views in March)." Even the BOE no longer know what Schrodinger "reality" is real: "The BoE judged that developments over the month had been relatively mixed, with a lower near-term growth outlook, but a higher near-term inflation outlook. However, they thought that the official data suggesting very weak construction output and soft manufacturing output of late were “perplexing”, and they were not “minded to place much weight on them”." Naturally, this explains why Goldman's Carney may be next in line to head the BOE - after all to Goldman there is no such thing as a blunt "firehose" to deal with any "perplexing" issue. Finally, the housing market schizophrenia in the US continues to rule: MBA mortgage applications rose by 6.9% entirely on the back of one of the only positive refinancing prints in the past 3 months, which rose by 13.5% after a 3.1% drop last week. As for purchases - they slammed lower by 11.2%, the second week in a row. Hardly the basis for a solid "recovery."

• First Japan now... Australia Ready to Help IMF (WSJ)
• "Not if, but when" for Spanish bailout, experts believe (Reuters)
• Spain’s Surging Bad Loans Cast New Doubts on Bank Cleanup (Bloomberg)
• Spain weighs financing options (FT)
• Spanish Banks Gorging on Sovereign Bonds Shifts Risk to Taxpayer (Bloomberg)
• Spain and Italy Bank on Banks (WSJ)
• Chesapeake CEO took out $1.1 billion in unreported loans (Reuters)
• China preparing to roll out OTC equity market – regulator (Reuters)
• Angry North Korea threatens retaliation, nuclear test expected (Reuters)
• North Korea Breaks Off Nuclear Accord as Food Aid Halted (Bloomberg)

First we got Italy telling the world quietly it would not meet its deficit target for 2013, and will in fact experience debt/GDP growth in all outer years, and now we get the Bank of Spain, also taking advantage of today's market rally to dump its own set of bad news, namely that Spanish banks will need to provision another €29.1 billion, and will have higher core capital requirements of €15.6 billion (this is fresh capital). 90 banks have already complied with the capital plan, 45 have yet to find the needed cash. Putting this into perspective, the amount already written-down is €9.2 billion. So, just a little more. And this assumes there are no capital shortfalls associated with any impairment from the YPF -> Repsol follow through, which as Zero Hedge already showed, would leave various Spanish banks exposed. In other news, there is one more hour of trading: we suggest every insolvent entity in the world to quickly take advantage of the interim euphoria, as tomorrow may not be so lucky. Of course, in the worst case, Japan will just bail everybody out.

European markets are seen trading higher as North America comes to market, with some momentum seen following the release of the forecast-beating German ZEW Survey. An economist from the institution commented that downside risks have decreased significantly over the past month, prompting some risk-appetite in Europe during the morning. Participants were also looking towards the Spanish T-Bill auction with particular focus, but it did not confirm the nation’s worst fears as the auction passed with strong bid/covers, selling to the top of the indicative range. Yields, however, did increase over both lines. As such, the Spanish 10-yr yield has fallen below the key 6% mark and remained below that level for most of the session. Peripheral 10-yr spreads against the German Bund are seen tighter throughout the day, amid some market talk early in the session of domestic accounts buying the paper, however this remains unconfirmed.

• This is just hilarious on so many levels: Japan Will Provide $60 Billion to Expand IMF’s Resources (Bloomberg) - just don't look at Fukushima, don't look at the zero nuclear plants working, don't look at the recent trade deficit, and certainly don't look at the Y1 quadrillion in debt...
• US Senate vote blocks ‘Buffett rule’ (FT)
• Reserve Bank of Australia awaiting new data before considering rate move (Herald Sun)
• Merkel Offers Spain No Respite as Debt Cuts Seen As Key (Bloomberg)
• RBI cuts repo rate by 50 bps; sees little room for more (Reuters)
• China allows banks to short sell dollars (Reuters)
• Central bankers snub euro assets (FT)
• Shanghai Econ Weakening’ Mayor Vows to Pop Housing Bubble (Forbes)
• Wen's visit to boost China-Europe ties (China Daily)
• Madrid threatens to intervene in regions (FT)

When it comes to sovereign bond issuance out of Europe the market either continues to be blissfully ignorant or is purposefully stupid: a few hours ago Spain sold €3.18 billion in 12 and 18 month bills, which was more than the expected €3 billion, and which, while coming at higher rates than before, set off a futures buying spark. What however has been pointed out over and over is that issuance of Bills that come due (by definition) within the LTRO's 3 year maturity is meaningless: all it does is concentrate and front-load maturity risk. After all what happens if and when the ECB were to ever not roll the LTRO forward? As such, the only true Spanish bond issuance test this week comes on Thursday when the country issues 10 year bonds. Everything else is merely designed to take advantage of a headline driven market. Specifically, Spain issued €2.09 billion in 364-day bills, which priced at an average yield of 2.623% vs 1.418% at auction on March 20, and at a 2.90 Bid to Cover compared to 2.14 previous. The yield on the second tranche, or €1.086 billion in 546-Day bills soared from 1.711% on March 20 to 3.11% as the Spanish curve again flattens, and despite the rise in Bid to Cover from 3.92 to 3.77, the internals were largely meaningless. Once again, when it comes to true paper demand, the only ones that matter are those that mature outside of the LTRO's 3 years. However today this sleight of hand has worked, and the Spanish 10 year is again under 6.00%, if only for a few hours, sending equity futures higher across the board. Elsewhere, proving once again that no other indicator is better at ramping up stocks, is the coincident indicator known as confidence, German Zew for April came in at 40.7 in April, much higher than expectations of 35, on what however we don't know: dropping markets, soaring inflation, or a return to a declining trendline. Even BofA noted that "There seems to be some disconnect between the latest releases of "hard data" (industrial production, orders received) and the investors expectations." Finally, the Royal Bank of India surprisingly cut its rate from 8.5% to 8.0%, as at least one country can not wait for Bernanke to do his sworn duty of CTRL-P'ing. Oh, and Japan, which has 1 qudrillion Yen in debt, promised to give the IMF $60 billion. So when Japan needs a bail out, we now know that Argentina will step up.

All you need to read and more.

Before there was seamless connectivity, before there was one global electronic currency and instantaneous global debt creation, before there was the internet, supply-chain "logistics", World Bank, IMF, and economic hitmen, there were... ships. Because in order to allow modern Ricardian economics to flourish (we would be curious to read some/any scholarly papers probing the failure of Ricardo's theories in a ZIRP regime, unfortunately there are none, as never before has the cost of money been zero essentially until regime end), and before money could be printed with impunity, backed solely by full lack of faith and eroding credit, nations had to actually trade with each other, and money was simply a means to facilitate said trade, which in turn allowed the formation of wealth and subsequent asymmetric power relationships. Needless to say, any nation that imported itself to death would be promptly wiped out by its heretofore friendly neighbors who would simply invade it when the money to buy stuff and to fund armies ran out: sadly TARGET2 was not available during Victorian times. So where are we going with this? Ben Schmidt, a Princeton graduate student, using ship logs has conceived of this tremendous time lapse of every single major known ship route taken by Dutch, Spanish and English vessels during the "age of transition", the period between 1750 and 1850, which set the stage for today's "global economy." The result is a fantastic insight into the early stages of globalization.