The Big Picture - Macro Perspective on the Capital Markets, Economy, Technology, and Digital Media

There has been a lot of talk about sovereign debt risk since the Dubai World panic over Thanksgiving. At issue is how best to weather a crisis given the impossible trinity of free movements in capital, independent monetary policy and fixed exchange rates. A country can pick two, but no one can have all three.

The hallmark of a crisis is the wholesale and indiscriminate move to safe havens by investors, which raises the likelihood of market contagion as was best demonstrated during the Asian Crisis is 1997-98.  Macroeconomic policy used to deal with the Impossible Trinity can be useful in preventing worst case scenarios. But, every solution has its problems. So there is no magic bullet for countries looking to escape the volatility of financial market globalization.

Let’s try going it alone

For small countries this is especially problematic. Many had adopted the Icelandic model of free movements in capital, independent monetary policy and flexible exchange rates. But when Iceland’s currency collapsed last year, sending that country into depression, it sent shudders down the spines of policy makers in small countries everywhere.  If Iceland was brought to its knees by a run on the country’s currency, small countries everywhere have had to re-think how to avoid Iceland’s fate.

How about a currency union?

A lot of countries have adopted currency unions to solve this problem. This is the ‘Euro’ model of free movements in capital, no monetary policy control and internally fixed exchange. The Persian Gulf states of Saudi Arabia, Kuwait, Bahrain, and Qatar are now embarking on that path.

Ambrose Evans-Pritchard reports:

The move will give the hyper-rich club of oil exporters a petro-currency of their own, greatly increasing their influence in the global exchange and capital markets and potentially displacing the US dollar as the pricing currency for oil contracts. Between them they amount to regional superpower with a GDP of $1.2 trillion (£739bn), some 40pc of the world’s proven oil reserves, and financial clout equal to that of China.

Saudi Arabia, Kuwait, Bahrain, and Qatar are to launch the first phase next year, creating a Gulf Monetary Council that will evolve quickly into a full-fledged central bank.

The Emirates are staying out for now – irked that the bank will be located in Riyadh at the insistence of Saudi King Abdullah rather than in Abu Dhabi. They are expected join later, along with Oman.

The Gulf states remain divided over the wisdom of anchoring their economies to the US dollar. The Gulf currency – dubbed “Gulfo” – is likely to track a global exchange basket and may ultimately float as a regional reserve currency in its own right. “The US dollar has failed. We need to delink,” said Nahed Taher, chief executive of Bahrain’s Gulf One Investment Bank.

The project is inspired by Europe’s monetary union, seen as a huge success in the Arab world. But there are concerns that the region is trying to run before it can walk.

Given recent events in Europe concerning Greece, Ireland and Austria, and speculation about a bust up of the Eurozone, one might think the desire to initiate currency unions has weakened.  But it has not.  The disruption caused by this financial crisis has buffeted smaller countries with sovereign currencies because of a lack of currency controls and the destabilizing effects of ‘hot money.’ Iceland, which suffered the worst fate of small nations, has now been fast tracked for EU membership. Latvia has allowed its economy to suffer depression in order to maintain a peg to the Euro in the hopes of escaping the downside of small country monetary independence.

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Our brother in arms, Canada, is joined with us at almost zero interest rat=
es as their benchmark rate is at .25%. Bank of Governor Carney is not spec=
ifically saying higher interest rates are coming imminently but in a speec=
h just given he is saying that the extraordinary measures taken by them ar=
e working and will “eventually return” Canada to “ordinary times…and, wi=
th them, more normal interest rates and costs of borrowing. It is the resp=
onsibility of households now to ensure that in the future, when the recove=
ry takes hold and extraordinary measures are unwound, they can still servi=
ce their debts.” He also specifies in terms of his encouragement to househ=
olds to maintain healthy saving levels and to prepare for inevitably highe=
r rates that “while asset prices can rise and fall, debt endures.” An asid=
e, Norway unexpectedly raised rates this morning by 25 bps to 1.75%.

Fantastic photo from Hubble:

Hat tip GMSV

Here is another chart that worth pondering: Why has this rally continued on faltering volume? Why isn’t there greaterinstitutional participation in this?

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courtesy of Ron Greiss at The Chart Store:

Is it possible that true financial reform might take place?

That the too big to fail banks might be broken up? That the era of endless taxpayer subsidy to banker speculation is coming to an end?

Quite possibly!

A Democrat and a Republican Senator, Maria Cantwell and John McCain, are trying to reinstate Glass-Steagall.

Over the past year, we’ve heard some chatter about bringing back the depression era legislation that kept commercial and investing banks separate — so when Wall Street goes bust, it does not freeze Main Street banks — but no one has put details on the table yet.

Cantwell has been aggressive on derivatives; Paul Volcker seems to be stepping up on this issue, so perhaps there is something actually occurring here. (Steny Hoyer in the House is also talking about bringing back Glass-Steagall).

Here are two recent articles:

House Discussing Glass-Steagall Revival, Hoyer Says (Bloomberg)

“The U.S. House is considering reinstituting the Depression-era Glass-Steagall Act, which barred bank holding companies from owning other financial companies, Majority Leader Steny Hoyer said.

A renewal of the 1933 law “is certainly under discussion” by House members, Hoyer told reporters in Washington today. The Glass-Steagall law was repealed in 1999 to help pave the way for the formation of Citigroup Inc. by the $46 billion merger of Citicorp and Travelers Group.”

And this:

Cantwell/McCain: An Odd Post-Crash Couple (Newsweek)

“John McCain lost the 2008 presidential election because of the financial crisis—at least that’s what his chief strategist, Steve Schmidt, suggested. “We were three points ahead on Sept. 15 when the stock market crashed. And then the election was over,” Schmidt said in a postmortem earlier this year. McCain was tarred with the regulatory failures of the Bush years, and it didn’t help that he had been a longtime acolyte of the Senate’s dean of deregulation, Phil Gramm, who once derided Americans as “a nation of whiners.” McCain also seemed to have few new ideas of his own about how to address the financial panic.

More than a year after the election, the Arizona Republican is looking to repair that reputation by joining up with Democratic firebrand Maria Cantwell to propose something that will be anathema to both Wall Street and the Obama administration. According to two congressional sources, the two maverick senators want to reinstate Glass-Steagall Act, the Depression-era law that forced the separation of regular commercial banking from Wall Street investment banking. The senators’ proposal echoes a failed amendment introduced in the House last week by Rep. Maurice Hinchey of New York.”

Fascinting — and hopeful — developments . . .

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Previously:
Volcker: Reinstate Glass Steagall (September 24th, 2009)

http://www.ritholtz.com/blog/2009/09/volcker-reinstate-glass-steagall/

Former Chair of Citigroup: Restore Glass-Steagall (October 27th, 2009)

http://www.ritholtz.com/blog/2009/10/former-chair-of-citigroup-restore-glass-steagall/

Gramm: Glass Steagall Repeal Irrelevant (November 19th, 2009)

http://www.ritholtz.com/blog/2009/11/gramm-glass-steagall-repeal-irrelevant/

Today’s Housing Starts data:

HOUSING STARTS: Privately-owned housing starts in November were at a seasonally adjusted annual rate of 574,000. This is 8.9% (±10.2%)* above the revised October estimate of 527,000, but is 12.4% (±9.1%) below the November 2008 rate of 655,000.Single-family housing starts in November were at a rate of 482,000; this is 2.1 percent (±9.2%)* above the revised October figure of 472,000. The November rate for units in buildings with five units or more was 83,000.

BUILDING PERMITS: Privately-owned housing units authorized by building permits in November were at a seasonally adjusted annual rate of 584,000. This is 6.0% (±1.6%) above the revised October rate of 551,000, but is 7.3% (±1.8%) below the November 2008 estimate of 630,000.

Single-family authorizations in November were at a rate of 473,000; this is 5.3% (±1.1%) above the revised October figure of 449,000. Authorizations of units in buildings with five units or more were at a rate of 86,000 in November.

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Chart:

click for larger graph

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Source:
NEW RESIDENTIAL CONSTRUCTION IN NOVEMBER 2009
U.S. Census Bureau and the Department of Housing and Urban Development, DECEMBER 16, 2009

http://www.census.gov/const/newresconst.pdf

Hat tip:  Scott F

“The government is consciously forfeiting future tax revenues. It’s another form of assistance, maybe not as obvious as direct assistance but certainly another form. I’ve been doing taxes for almost 40 years, and I’ve never seen anything like this, where the IRS and Treasury acted unilaterally on so many fronts.”

-Robert Willens, an expert on tax accounting

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The ongoing transfer of wealth from the middle class to the top 1% continues unabated.

The Treasury Department, via the IRS, has made a terrible deal with Citigroup for TARP repayment: They repay $20 billion in TARP money, and in exchange we give them keep $38 billion in tax abatements.

WTF?

The Washington Post has the scoop:

“The federal government quietly agreed to forgo billions of dollars in potential tax payments from Citigroup as part of the deal announced this week to wean the company from the massive taxpayer bailout that helped it survive the financial crisis.

The Internal Revenue Service on Friday issued an exception to long-standing tax rules for the benefit of Citigroup and a few other companies partially owned by the government. As a result, Citigroup will be allowed to retain billions of dollars worth of tax breaks that otherwise would decline in value when the government sells its stake to private investors.

While the Obama administration has said taxpayers are likely to profit from the sale of the Citigroup shares, accounting experts said the lost tax revenue could easily outstrip those profits.

The IRS, an arm of the Treasury Department, has changed a number of rules during the financial crisis to reduce the tax burden on financial firms. The rule changed Friday also was altered last fall by the Bush administration to encourage mergers, letting Wells Fargo cut billions of dollars from its tax bill by buying the ailing Wachovia.”

The looting of the Treasury, begun in panic under George W. Bush, continues in ignorance under Barrack W. Obama.

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Source:
U.S. gave up billions in tax money in deal for Citigroup’s bailout repayment
Binyamin Appelbaum
Washington Post, December 16, 2009

http://www.washingtonpost.com/wp-dyn/content/article/2009/12/15/AR2009121504534.html

See also:
A Tax Break for Citigroup With Payback of Bailout
ERIC DASH
NYT, December 15, 2009

http://www.nytimes.com/2009/12/16/business/16citi.html

Congrats to Bernanke for being named the Time Person of the Year, the co-easy money arsonist with Greenspan now turned fireman. The two key words to watch for in today’s FOMC statement is whether they leave in “exceptionally low” when referring to the level of rates that will remain for “an extended period.” We know rates will stay low for a long time but we don’t know how low they will be. Also, will they remain so dovish on the inflation commentary? CPI is out today. ABC confidence rose 2 pts but remains in a 5 week range. Mortgage apps were little changed as mortgage rates moved to a 6 week high. European stocks are higher as is the euro and the pound after Euro zone manufacturing and services composite index rose to the highest since Oct ’07 and was a touch above the estimate, Nov UK jobs report was better than expected and Greek bonds traded up after Greece sold debt to some banks.

Person of the Year 2009

I have nothing to say about this.

Feel free to go off in comments . . .