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The Commodity Crisis is Here for Europe.
UPDATE September 5th: On the crisis events of the last 72 hours
On Friday, G7 nations announced they had come up with a worldwide scheme to impose price caps on Russian oil. (More on the implications of that can be found in JPM Says $380 Oil Possible If Russia Retaliates).
The following happened right afterwards this weekend; the worst of which was retaliation by Russia for the price cap (GoldFix Comments in italics)
FRIDAY: Russia will not sell oil to any country abiding by the price caps.
SATURDAY: Russia cuts off all Natural Gas flows to the EU.
which means absolutely nothing in Natural Gas world. You need pressurized flows of pipeline gas to push the stored gas through. Natural gas provision is dependent on pressure in the pipeline. This is not hyperbole. Gas doesn’t go through a straw on its own, and you cant use other gasses to push it through the straw without diluting it.
MONDAY: OPEC + announced it will reduce oil production by 100,000 barrels per day in what is a warning shot across the bow.
“The 100k cut won’t impact physical volumes to the market, but it sends a signal to the market…. that opec plus is serious about cuts” Amena Bakr
Zerohedge, noting the OPEc+ cuts and Natural Gas cut off in retaliation to the Price Cap threat said this And there it is: the half life of the infamous fist bump proved to be less than two months... OPEC+ has agreed to a 100kb/d reduction in oil output for October.- ZH on the OPEC Cuts
MONDAY: Europe announces it may suspend trading in Power derivatives
which is the equivalent of banning short sales in stocks. But this is much worse. In a 2 trillion economy that is built on top of $20 billion in Gas, this is tantamount to destroying operating and financial leverage. Deals will not be done due to inability to honor contractual promises. If they do this, it is depression-type deleveraging for the EU
more to come here. power is just the beginning ,and temporary is like transitory.
MONDAY: Rationing is back on the table again
and making them take cold showers IS rationing. Installing price caps that limits purchasing for customer use IS rationing
Background: German Energy Rationing Begins
MONDAY: Europe will create lines of credit and ease credit requirements for operations to continue running
The West in general and Europe in particular must do the only thing they can in a commodity crisis, attempt to financially paper it over as long as they can until securing supplies. This is inflation morphing into hyperinflation
There are more headlines coming out by the hour, but these are the material points we see so far that affect all of us This is now a dynamic situation. For a more comprehensive explanation read: As Europe Implodes, It Plans "Radical Intervention..."
Crude Oil From Sunday Night...
"A crisis is unfolding. A crisis of commodities"- Zoltan Pozsar
In Zoltan’s latest missive on the events in Ukraine, he describes the situation, mechanism, and likely outcome of these global reaching events. They greatly affect how we define money. The report ends with: After this war is over, “money” will never be the same again1… He is right.
The report, entitled Bretton Woods III lays out in more detail the concept touched on in a Bloomberg Odd Lots interview with Joe Weisenthal and Tracy Alloway. In that interview he explains why Gold is important again and how this recent turn of events can serve as an accelerant of the demise of US Dollar dominance. The latter, we believe has been ongoing since at least 2017.
China is long gold. Therefore it only makes sense they will use it to make payment for oil from Russia and the Saudis. It will either be gold or yuan with "implicit" gold backing.
Back then we identified the transition from Fiat money to a more physically backed currency. But there is much, much, much more to it we are learning.
Commodity Collateral Is Money
Pozsar’s latest is a report combining secular, geopolitical, and flow analysis dives into many interrelated topics. One topic of direct interest to us was …that markets are moving from inside (core) money towards outside (peripheral) money. What we feel he really means is the core is becoming the periphery and vice-versa.
A crisis is unfolding. A crisis of commodities. Commodities are collateral, and collateral is money, and this crisis is about the rising allure of outside money over inside money.
Collateral is the foundation on which the financial system is based. Collateral equals money in the realest sense. The “outside” collateral is no longer the periphery. That collateral is a large and grossly undervalued part of the current core’s valuations. Put another way, the derivative-tail has been wagging the spot-dog too hard and too long.
FED BACKSTOP NO GOOD HERE
Zoltan goes on to explain how he came to this conclusion paralleling previous crises. These include but are not limited to events like the Southeast Asian crisis of 1997; subprime, Bear Stearns, and Lehman Brothers in 2008; and secured funding against good collateral to RV hedge funds during 2020. In all instances a backstop was provided. Somebody had to underwrite the “put” that saved the markets from an abyss. Every time in those instances it was the US Fed that did this. Not this time. Why? The collateral underpinning the system is not financial this time. It is real. War, sanctions, and the ensuing chaos has split markets along spot versus derivative lines. Geographically: East vs West. Collateral: Real vs rehypothecated.
CHINA IS THE COMMODITY BACKSTOP
Guess who owns the collateral that is being used to leverage western finances? Russia and China. Poszar asks rhetorically:
If we are right, and this is a “crisis of commodities” [EDIT-real collateral-Goldfix] – a 2008 of sorts thematically, if not in terms of size or severity – who will provide the backstop?
China of course is his answer. China will backstop the Russian materials that need to find a home. China will provide capital for Russian companies to keep them afloat. The West cannot facilitate this even if it wanted to:
Western central banks cannot close the gaping “commodities basis” because their respective sovereigns are the ones driving the sanctions.
Finally, all of Russia’s losses. if there are any, become China’s gains now. If Russia is this generation’s Iran in terms of a 1970’s style embargo; then the PBoC is this generation’s Marc Rich. [EDIT- They will just resell it and become natural gas traders as ZeroHedge notes today.]
China will now sell Russian gas to Europe at an even greater markup.— zerohedge (@zerohedge) September 5, 2022
COUNTERPARTY RISK CANNOT BE PRINTED
The West can provide liquidity and financial backstops. But those do not solve the collateral problem. Our central banks cannot print the oil, copper, and gold (rehypothecation doesn’t count now) that Russia has. And so the periphery must become the core again. Counterparty risk is now too big in a world where even central bank FX reserves can be sanctioned. US commodity future markets may break. Meanwhile Faith-based “financials” can seem ok. China may be the inevitable backstop this time.
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