I am off filming for a few weeks now. Apologies for not writing. I have had my head down with work. Hope you’ll forgive me. Before I go a few scattered thoughts
8 years to fix the malfunctioning heart of the world’s financial and legal systems but nothing was actually done … and now the clock is ticking and there is hardly any time left.
The number of red lights now blinking at us, largely ignored by those who are supposed to be flying this thing, is growing all the time. It is not that any one of them is a clear harbinger of the end but taken together they paint a dismal and coherent picture – of a system eating itself.
What I mean is that every political and financial system, every bureaucracy, public or private is originally set up to do a necessary job. And the duty of those who work in it is to make sure the system does that job. But when the challenges facing the system change so that the system begins to no longer be able to do its job, those in it have two choices: they can work for the greater good and help change the old system into a new one better fit to the new challenges, or they can ignore the problems, forget the reason they and the system were created in the first place, and instead seek merely to get as much as they can from the failing system before it implodes.
It seems obvious to me that is where we are today, both politically and financially. We are living in the End Times not because some angry supernatural being is coming to punish us, but because we are living in a system, a machine, which we built and therfore can change, but we have forgotten this. Some time in the recent past we crawled inside our machine, closed the last hatch to the outside behind us, and then forget there was an outside. Our leaders are the worst of us. They are the lords of the machine and they are sure outside there is only chaos. We must all save the machine. Their power and wealth demands it.
And yet they do not know how.
“Something Happened” but “Noting appears to be breaking”
So said JPM’s chief economist Bruce Kasman. He was refering to the recent extreme ‘turbulence’ on the stock markets and the continuing drop in global market values. All I can say is that only a person who lives resolutely in a linear world, despite it being over a 100 years since we discovered that our world is not linear but non-linear, could say such a thing. In a linear world effects tend to follow their causes quickly and clearly. When things are non-linear, however, effects can surface long after and far away from their cause.
Mr Kasman, I suspect, held his breath, waited for everything to fall down and after a couple of days, when they didn’t he concluded nothing had broken after all. He looked at the on-going trend in events and saw they were much as before the inexplicable ‘turbulence’ and concluded that all was as before and the ‘turbulence’ was just ‘one of those things’.
He could be right. But I doubt it. Ours is a non-linear world and we should remember that. Think back to August 9th 2007. That was the day when PNB Paribas suddenly closed three large sub-Prime mortgage finds. The world at large had not even heard of sub-prime. To little fanfare the ECB pumped €95 billion in to the markets to steady nerves. It was not enough. The next day, August 10th The ECB pumped in another €156 billion, the FED injected $43 Billion and the BoJ a trillion Yen.
Five days later Countrywide Financial haemorrhaged 13% of it value. 16 days later Ameriquest the largest specialist sub-prime lender in the US collapsed and on September 14th there was a bank run on Northern Rock. It was a turbulent time.
And then do you know what happened? Nothing. Something had happened but nothing appeared to be broken. The linear pundits went about their crooked business. Six whole months later Bear Stearns collapsed. Its a non-linear world.
And I think we are going to be reminded … again.
ETF’s – have grown to the point where any prolonged large scale exit will exceed the funds available to those who control the funds and make the markets. I think they know this and some time ago those market makers and fund controllers began to boost the credit they could draw upon. Problem is the very banks they are agreeing larger credit lines with, are drawn from the same group of financial companies who make the ETF markets.
I have written about this before – ETFs – A warning which contains links to the posts in which I explain how ETFs work and why they are The Next Accident Waiting to Happen. In short the liquidity choke built in to the ETF market is that the ETF market depends very heavily on a very few financial firms who run the funds and make the markets.
We have already seen in the recent ‘turbulence’ that the ETF market is not so much liquid as fragile. When there is a scare people want out. They withdraw their money which quickly leads to zero liquidity, which leads on to forced selling and as we have already seen prices will dump to far below what the assets in the underlying market are nominally worth. Leading to an even greater pressure to get out.
The ETF market with its promise of easy withdrawal means when there is an event which spooks people and they want out it happens in seconds not days or even hours,
What it means is that this time around I think it very likely the Central Banks will have even less time than they had back in 07-09, to act before the bomb goes off. Which means in turn I expect no creative thought, only a knee-jerk reaction to do again the only things they know how to do despite the fact they have not worked.
Today it is not a bank run that will amplify some large local event in to a global wave, but a fund run.
Where might that trigger be?
The world in which and for which our old system was built is now changing around it in fundamental ways.
China is now making the move to position the Yuan as a rival reserve currency. To become a, or the, new reserve currency the Yuan needs first to be the clearing currency in much more of the world, in many more of the vital markets and be central to any relationship any country wants to have with China. So it seems important to me that Russia has now eclipsed Saudi as the number one oil exporter to China and is now settling its oil exports to China in Yuan. Gazprom is also settling some of its contracts with China in Yuan.
Saudi is now only the number three supplier to China. Angola is number two. And it is very clear if Saudi wants to regain its position it will have to accept settlement in Yuan. Will Saudi risk alienating the US? Well China is a larger market for its oil than the US. And other countries in the region, less tied to the US are already forging close relations with China. Just a few months ago Qatar opened the first Yuan clearing hub in the region. Its central bank and China’s now work together and Qatar is poised to make itself the new Mid East financial centre for trading with China. At the moment all the local currencies are still pegged to the dollar because oil and gas are traded in dollars. But as more gas and oil deals are cleared and done in Yuan it would be less important for them to be pegged to the dollar.
Oil and gas is moving away from the dollar. China is the largest customer. They have clout. They also have in Hong Kong and Shanghai the financial centres able to house the trade. Shanghai in particular is looking aggressively to capture oil futures which would cement the Yuan’s position. Things, as they say, are a changing.
Apart from the fairly seismic changes this would herald in this massive market it would have even larger potential effects. The end game for the dollar is when it is no longer the sole or preponderant reserve currency. At the moment the US can carry a mind boggling amount of debt and find buyers for more. But once countries no longer need dollars for buying oil and gas then something will happen to the world’s appetite for US debt and the world’s opinion of how much debt the US can sustain.
Why is China pushing the Yuan more aggressively now? In my opinion, China now needs, not just wants, but needs the Yuan to become a major settlement and then reserve currency. To my mind this is one part of how China might salve if not solve its out of control bad debt problem. China has a mountain range of bad debts in the financial vehicles created by its regional governments.
This we have all known for several years. Less well known is that China’s insurance industry is now up to its neck in these bad debts. When the Chinese central authorities tried to reign in bank lending the shadow financial sector ignored them and found ways around the limits. As the FT reported,
Egged on by provincial leaders desperate to keep the wheels of GDP growth rolling forward and cash-strapped property developers, other institutions have jumped into the fray. And one of the biggest are Chinese insurance companies.
By the end of January 2015, alternative investments surged 66.4 per cent year-over-year to Rmb 2.3tn, accounting for a whopping 24 per cent of total insurance investments.
I had more to write but sadly time has run out. I have to go immediately to catch a plane. Bye for now.