Monthly Archives: November 2011

Carney’s Carnage

On November 23, Bank of Canada Governor Mark Carney gave a speech to the Board of Trade of Metropolitan Montreal titled “Renewing Canada’s Monetary Policy Framework“. We review this speech herein because it gives good insight into the bank’s policy decisions. Mr. Carney, according to his biography, spent 13 years with Goldman Sachs, the Great Vampire Squid (try and find a major global economic figure that hasn’t worked for GS). As a Harvard and Oxford graduate, he is also likely a Keynesian economist, but then what central bank governor isn’t.

Key extracts that we wish to comment on are:

Central Banks and Gold: Part 2

Although central bankers talk down gold, gold remains an important, and in some cases dominant (Portugal at 89% and the USA at 75.5%) component of many countries’ international reserves. It is also a primary asset for interbank swaps and dealings. A case in point is the Bank for International Settlements.

Measure of the Crisis: European Soverign Bond Yields

The global bond market is the largest financial market – bigger than stocks. This is where the wealthy invest their money. The managers of mutual and hedge funds that take investors’ money tend to be very smart people, in part because they put their own money on the line. Good managers who make the best investment decisions over time, reflected in superior fund performance, are well rewarded by increased subscriptions and the associated management fees that subscribers pay.

Central bank managers, administrators and economists are bureaucrats. They get paid whether the effect of their policies destroys a market or not. They have no “skin in the game”. Their work is largely academic in contrast to the fund managers that are simply concerned with making money in god times and not losing money in difficult times.

Interest on bonds and other income investments reflects in part inflation expectations and in part the risk of default by the debtor. Central banks like to try and control interest rates, particularly on national or sovereign bonds, but the market has a say in this process too. Bond fund managers will simply not buy a bond issue in an auction if they think the yield or interest rate is too low. So if you here of a “failed” auction of a country’s bonds, you know that they are not properly priced to reflect the risk the market sees associated with them.

Yields on sovereign bonds and the cost of the associate default insurance known as credit default swaps, are the best indicator of what is going on. Politicians are adept at pretty well only one thing: blowing smoke up the anatomical orifice of the electorate. So ignore what the politicians and career bureaucrats are saying about the economy and look at bond yields, particularly the yield on the 10-tear bond which is used as a benchmark or basis of comparison between countries.

To help you see an up-to-date market assessment of the economic crisis, we provide links to charts of various sovereign bonds:

Country Bond Bond Bond
Belgium n/a 2-year bond 10-year bond
France 1-year bond 2-year bond 10-year bond
Germany 1-year bond 2-year bond 10-year bond
Greece 1-year bond 2-year bond 10-year bond
Italy n/a 2-year bond 10-year bond
Spain n/a 2-year bond 10-year bond
US n/a 2-year bond 10-year bond

If German yields are falling while Italian yields are rising, it mean the crisis in Italy has escalated and investors are moving money away from Italian bonds to German bonds which they consider to contain less risk. Since someone has to buy the Italian bonds, the yield has to rise to offer an additional risk premium to the buyer. On the other hand, the yield on German bonds drops because due to the increased demand for them, a bond seller doesn’t have to offer as much yield to make a sale. Yield and price move in opposite directions.

QE3: Whose Printing Press, Yours Or Mine?

Ambrose Evans-Pritchard hast a new post out today: “Should the Fed save Europe from disaster?” In it he raises the possibility that the US Federal Reserve rather than the ECB, may bail out Europe. He quotes a 2002 speech in which Bernanke says: “The Fed can inject money into the economy in still other ways. For example, the Fed has the authority to buy foreign government debt. Potentially, this class of assets offers huge scope for Fed operations”.

As background, yields are rising on sovereign debt for most of Europe because the ECB, backed by Germany, has said they will not do the large scale purchases of Italian, Spanish, Portuguese and other countries’ debt to keep yields down and forestall cascading default. The Germans have been absolutely intransigent on this point. Moreover, it is doubtful they could authorize it if they wished to in light of a recent German constitutional court ruling.

Currently there are changes proposed to the EU treaty that would perhaps give them tools to intervene in sovereign nations’ affairs to try and solve the problem. That ratification process, even if all 17 countries passed them would take months and the crisis is now. Evans-Pritchard sums the situation up: “What we know for certain is that Europe’s current policy settings must lead ineluctably to ruin and perhaps to fascism. Nothing can be worse.”

So monetization, printing euros by the ECB, is the desired way to move the problem out in time (note: not fix it). As an alternative, in theory, the Fed could intervene and backstop as much sovereign European debt as necessary. This could require 2-3 trillion dollars, effectively doubling the Fed’s balance sheet. This has never been attempted before on this scale and no one knows if it could succeed or what the outcome might be. It would also remain to be seen if Congress would allow this or if they could even stop it.

As indicated in the story, the process has been under study for some time so it is being given serious consideration. This will have huge ramifications and repercussions if attempted. Stay tuned and have your bomb shelter stocked.

The End of the Euro. Not If but When

The theme of the end of the euro has armies of pundits on both sides. However when a government is quietly seen to be preparing for the possibility, it is to be taken seriously.

A basic premise we operate on is look at what a person does not what they say. This is especially true in politics. No government is going to come out and say their currency is probably two weeks or two months from a collapse. But if a government is taking measures behind the scenes to intervene and restore order and confidence if a collapse should occur, then one best consider that the collapse may be nigh.

So when The Telegraph reports today: “Prepare for riots in euro collapse, Foreign Office warns“, one had best upgrade the possibility of such in their mind and their planning. Be forewarned that a euro collapse will be a global seismic event of large magnitude with aftershocks continuing for months.


Mike Shedlock (Mish) (and Zero Hedge) reports: “ICAP Testing Trades In Greek Drachma Against Dollar and Euro“. As Mish notes, “ICAP Plc, the world’s largest inter-dealer broker (one that carries out transactions for financial institutions rather than private individuals)”. As opposed to politicians and central bank economists that are adept at blowing smoke up various orifices, ICAP is a firm embedded in the processing of real nvestor money. As such it has to have a pretty good handle on the real state of affairs. The bet here is that Greece will not be part of the euro. And it is unlikely that Greece alone will not be part.


John Mauldin is a smart, widely read, and highly connected writer on economic and current themes (see the right-hand sidebar for links). He knows everyone of importance in economic and financial affairs today and talks to them regularly. He has recently published a book Endgame (we confess to having only read parts) that lays out the probable scenario as to how the Great Global Train Wreck will end.

In his most recent post, “Changing the Rules in the Middle of the Game” he reviews the current issues that mark our place in the endgame. He shows how bond yields are rising across Europe reflecting a loss of confidence in the political process. He refers to what he calls the bang! moment, that point when an unstable system tips over, usually precipitated by a loss of confidence in its underpinnings.

It is a 15 or 20 minute read, but so erudite that trying to summarize it would do you, dear reader, a disservice.

Central Banks and Gold: Part 1

In this part on central banks and gold we answer the question who owns what. The question of where a country’s gold is is another matter. Many countries store their gold with the Federal reserve Bank of New York or in secure depositories in places like London and Zurich. Venezuela is in the process of repatriating their gold.

Gold has held a controversial position with central banks over the years. There was a period when countries such as Canada sold almost all their gold because the monetary return on their gold reserves was miniscule compared to the interest they could make on the cash equivalent. Despite this, may countries such as the US and Germany kept most of their gold and have a realized a considerable benefit on their balance sheets.

It should be noted that of the EU countries in financial difficulty, their world ranks in gold reserves are: Italy 4th, Portugal 14th, Spain 19th, Greece 31st and Ireland 72nd. Gold makes up 80% of Greece’s foreign reserves. To try and meet external financing obligations, EU countries are selling assets, implementing austerity programs and borrowing heavily but none are selling their gold!

The Future of Europe

This piece of information has been weighing on us for a while. Back on October 29, Mike Shedlock reported on a new European financing initiative called the European Stability Mechanism (ESM). It is frightening in its power and scope.

First, watch this video as posted by The Telegraph. It identifies key aspects of this new treaty.

Mish summarizes the important features:

  • Article 8 says “Authorized Capital stock 700 billion Euros”
  • Article 9 says “ESM members irrevocably and unconditionally undertake to pay capital calls on them within 7 days”
  • Article 10 allows the ESM board of governors to “change the authorized capital and amend article 8 accordingly”
  • Article 27 says ESM shall enjoy “immunity from every form of judicial process”. Thus the ESM can sue member countries but no one can challenge it. No governments, parliament or any other body or laws apply to the ESM or its organization.
  • Article 30 says “Governors, alternate governors, directors, alternate directors, the managing director and staff shall be immune from legal process with respect to acts performed by them (…) and shall enjoy inviolability in respect of their official papers and documents”.

In short, an unelected and nonrepresentational body, which with its officials would be completely above any law, would have an unlimited claim on the finances of a member country. Questions that remain are:

  1. How is the governance of this body constituted?
  2. In what larger framework does this body fit?
  3. What are the enforcement mechanisms and when will they be in place?
  4. What is the state of member approval?

What Did Merkel Really Say?

It may be coincidence but in an article dated October 26, The Telegraph quotes Angela Merkel, the German Chancellor, from a speech she made to the German parliament. Her speech gained world attention because it either hinted at or threatened the possibility of war in Europe, and the issue was the integrity of the euro.

She told MPs: “Nobody should take for granted another 50 years of peace and prosperity in Europe … that’s why I say: If the euro fails, Europe fails.” She could be saying that if the euro fails and Europe reverts to a collection of nation states, war is always a possibility based on historical precedent. She could also be saying that to achieve a stable euro which requires the suppression of national sovereignty over at least fiscal issues including national policies and budgets, overt acts of enforcement – military occupation – may be required.

Going further, she gives the German view: “We have a historical obligation: To protect by all means Europe’s unification process begun by our forefathers after centuries of hatred and blood spill. None of us can foresee what the consequences would be if we were to fail.” It really sounds like she’s saying that “we failed in 1914, in 1939, but this time we’ll make it work.” Even if this statement is intended as a pan-European view, the process is being driven by Germany to promulgate German interests.

According to The Telegraph, she said that “A future treaty must allow that eurozone countries not living up to their fiscal and budgetary responsibilities under the bloc’s growth and stability pact be taken to the European Court of Justice.” What is not stated however is how The European Court’s decrees would be enforced. Presumably at that point you either are able to initiate a police action which would be different from a military action only in semantics.

The Telegraph notes that, with reference to Greece she said: “Painful and necessary structural reforms must be implemented,” adding that a “permanent surveillance” of Greece would be “desirable”. An occupation force in other words?

As a final comment, Merkel’s remarks, although having an ominous overtone, may be completely innocuous. On the other hand they may very well signal deeper more sinister plans and intentions at work behind the scenes. They may also presage events that might spontaneously arise as a more complete integration of Europe is carried out. We do not have to draw conclusions at this point, but how the situation reported above evolves should be monitored closely, particularly with respect to enforcement mechanisms.

Ho Hum … Add Belgium

Dow Jones Market Watch reported today that S&P just downgraded Belgium’s credit rating. This follows Portugal’s downgrade earlier this week (To Our Portuguese Friends: We Have Not Forgotten You) and heightened concerns for Hungary and Austria (We Were Getting Hungry for Hungary. We’ll Have Austria for Desert).

Update – 20111125

Moody’s just moved Hungary from the heightened concern list to the downgrade list.

Stratfor’s Geopolitical Weekly – 20111122

Stratfor logo

Syria, Iran and the Balance of Power in the Middle East

November 22, 2011
Bahrain and the Battle Between Iran and Saudi Arabia

By George Friedman

U.S. troops are in the process of completing their withdrawal from Iraq by the end-of-2011 deadline. We are now moving toward a reckoning with the consequences. The reckoning concerns the potential for a massive shift in the balance of power in the region, with Iran moving from a fairly marginal power to potentially a dominant power. As the process unfolds, the United States and Israel are making countermoves. We have discussed all of this extensively. Questions remain whether these countermoves will stabilize the region and whether or how far Iran will go in its response.

Iran has been preparing for the U.S. withdrawal. While it is unreasonable simply to say that Iran will dominate Iraq, it is fair to say Tehran will have tremendous influence in Baghdad to the point of being able to block Iraqi initiatives Iran opposes. This influence will increase as the U.S. withdrawal concludes and it becomes clear there will be no sudden reversal in the withdrawal policy. Iraqi politicians’ calculus must account for the nearness of Iranian power and the increasing distance and irrelevance of American power.

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