Saturday, December 15, 2012

The takeover of Canada.

            On Friday, December 7, the Canadian government announced the approval of Nexen’s takeover by state owned CNOOK of China, a deal worth $15 billion dollars, as well as the takeover of Progress Energy Resources by Malaysia’s state owned Petronas, another deal worth over $5 billion.  The deals were announced as a great gain for Canada and for Canadians, who stand to benefit from the inflow of such a huge sum of money, which these Asian state-owned companies are committed to investing in Canadian resources.  A parallel announcement was made, which stated that there will be no more takeovers of Canadian natural resource companies by state owned foreign companies.  On December 13, state owned Petrochina just agreed with Encana to buy 49.9% of its Alberta natural gas project for $2.2 billion dollars.  In effect, Encana may not be taken over, but a big chunk of it was just given away.  I doubt there will be any serious opposition on the part of the Canadian government, and if there will be, it will only be because they will want to seem like they have a backbone, while in reality many more such deals will be approved in the near to medium term.

The two statements; one trumpeting the benefits, and the other reassuring us that these sort of deals will not happen again, clearly contradict each other if we stop to think about it.  On one hand, the great benefits of these investments are trumpeted, on the other, a promise is made to no longer allow any such takeovers in the future.  Why would the government make such a pledge, if the deals are so beneficial to Canada and its people?  China for instance has over $3 Trillion in reserves, so why not allow them to invest all of it in Canada, so the good citizens can have 200 x more benefit than they will get from the Nexen deal?  More importantly, should we believe the Canadian government when they declared that such deals will be off the table in the future?

What could $3 Trillion buy in Canada?

            I for one don’t really believe that future acquisitions by the Chinese and other governments will be off the table when it comes to Canada’s resources.  Therefore we should stop for a moment and think what and how much of Canada their money could buy.

            They could buy farmland.  In fact at an average price of $10,000 per hectare (1 hectare = about 2.5 acres), they could buy all of the 67 million hectares[i] for about $670 billion.  At such a premium average price, many would jump to sell.  And why should Canadians not be willing to sell?  The average age of Canada’s farmers is pushing towards 60, and the average Canadian is not exactly interested in taking over those enterprises.  They would much rather pour coffee for minimum wage rather than do the backbreaking work in the middle of nowhere, which actually has importance to society and to themselves, because they would in effect become business owners.  The Chinese government could easily make farmers available for the work needed to be done.  The inflow of such a large sum of money would also register as a net benefit to the economy, just as with the Nexen deal.  The government could also claim that they solved the farmer demographic crisis.

            They could buy the publically traded Canadian companies.  I doubt the Chinese government would be interested in purchasing all the companies trading on the TSX, but just for reference, their total value is about a trillion dollars, so if they were to get all the farmland and all the TSX traded companies, they would spend about half their reserves.  Like I said however, at the moment at least, I doubt China is interested in all those companies.  Perhaps a quarter of them would make the cut, and China would have to pay a premium to make the transactions happen. 

Again, the entire stock index would be pushed sky high, so everyone who owns shares directly or indirectly through pension and mutual funds would stand to benefit, so why not let them?  The inflow of money coming in, year after year, until the takeovers are complete, would make Canada the fastest growing developed economy by far.

Every party followed by a hangover:

            There are plenty more assets that could go on sale in Canada, including private companies, intellectual property, real-estate and anything else that has potential value.  If Canadians were to decide that such a course for the future is a wise decision, they would be proven right by the surface results for about two decades.  The ones advocating against such a move would be branded as racist, bigots, nationalists, primitive minded and a host of other things.  In fact that is what those who will dare to raise objections to such a trend currently can expect to encounter already.  The view Canadians have of themselves is as an open society, willing to embrace foreigners, which they view as a strength.  Any suggestions that their ideological values are in fact a potential weakness, which could be exploited, is not therefore an easy message to accept.

Let us not forget that once an investment is made in a country, the investor usually gains a certain amount of leverage, which comes with the ownership of an asset.  The Chinese government just bought $15 billion worth of assets and leverage in Canada.  I’m sure that if we were to add up the entire sum that the Chinese government controls within Canada already, it would add up to substantially more.  So how many jobs would be directly or indirectly affected if the money currently invested in Canada by the Chinese government, or their mercantilist, private enterprise pawns?  How big would the drop in GDP be if these entities were to stop their operations?  What would be the effect on the stock exchange of a sudden decision to drop Canadian assets?  These are all important questions that need to be asked currently by any Canadian government which might be tempted to oppose the interests of China in Canada.  There is of course another thing that politicians would have to consider, which is the growing ethnic Chinese electorate, which might see any such moves as an attack on China, rather than a move to protect Canada.  There are currently over a million of them (who consider themselves to be of purely Chinese origin), and their number is growing rapidly, so they are not a segment of the electorate to be ignored, or antagonized.  This is the reality faced by politicians today.  With the trend going into the direction of more economic dependency for Canada on China’s huge hoard of cash, and a growing dependency of Canadian politicians on the ethnic Chinese electorate, the choice will not even be there to be made in perhaps a decade or two.  The gates will lie wide-open.

Now that we established the strength of the trend, let us contemplate the effect.  If we go back to the example of the Nexen takeover, the Canadian government was quick to trumpet the benefits.  But how about the long-term drawbacks, which were not mentioned?  For one thing, even though Nexen may be forced to continue its operations in Canada, simply because the resources are in Canada, the net profits after reinvestment will go exclusively to China.  For now, CNOOK will be careful not to rock the boat by transferring non-extractive operations to China, such as management and R & D, but eventually they will, through the pretext of consolidation and the removal of duplicate work.  Transfer of Nexen’s patent portfolio and overall expertise to CNOOK will gradually make it a less important player.  Nexen’s technology will become CNOOK technology, and vice versa, but CNOOK is the main entity, so Nexen itself will become CNOOK.  Nexen will no longer be a driver of Canadian technological development.

The Nexen example is only a small glimpse into the larger trend, which should in my view trouble Canadian society.  The loss of the profits gained due to business activity, and its increased flow outside the country can have very damaging results in the long-run.  Canada needs to consider very carefully its position on the sale of assets of strategic importance.  For instance, in a world which has gone through two price spikes in food commodities and resulting global unrest in just half a decades, and we may be gearing up for the third such event next year, Canada does not have a clear legal position on farmland ownership by foreign investors.  Foreign takeover of farmland is only restricted in the Prairie Provinces, so places like Ontario are still up for grabs.  Who knows, perhaps even the prairies will be open up indirectly.  For instance, there is nothing to stop China from working with a few of the over a million ethnic Chinese citizens of Canada on purchasing the land in exchange for a “loan” from China.  In fact they may already be doing just that.  The path to Canadian citizenship is very easy for anyone who can demonstrate a certain level of wealth.  For all we know, many of these wealthy people coming over from a country like China or other places, may be made wealthy by the government for the exact purpose of indirectly getting past such restrictions.  So a Chinese person may show up with an account showing that he/she has ten million dollars, but what we may not know is that the same person also has a “loan” from a Chinese bank for the same amount. 

Perhaps one day, the provincial governments will open up even those restrictions that currently would cause governments like China’s to come up with more creative ways to get a hold of assets they desire.  In the absence of clear laws, a country like China could essentially move in and take over a large chunk of it with ease, given its large pile of funds at its disposal.  Given that they may already be working on owning certain assets indirectly with the help of Canadian citizens of Chinese descent, we may not even be aware of just how much they may actually own.  Chinese companies which officially figure as private, but in reality are closer to the mercantilist era European companies used as tools of colonialism, such as the Dutch East India Company, may also give indirect access and influence to Canada’s economic base.

Just a few years ago, the political and business mainstream declared the era of cheap oil to be over.  The UN also declared the era of cheap food to be over.  Canada has the potential to produce much more than its relatively small population consumes in the case of both commodities.  It is important for Canadians to understand that what they are sitting on, much of the rest of the seven billion people on this planet are becoming desperate to secure.  Countries like China and Saudi Arabia are already active in securing crucial strategic assets around the world.  Thus far, poor countries in Africa and other less developed nations, with weak governments were the main targets, but increasingly, wealthier countries have been courted as well.  The world is constantly changing and only societies willing to adapt stand to survive.  At present, Canadian society is very confident in its cultural adaptation to this world.  It is often precisely when people become overconfident that unpleasant surprises, often with permanent consequences happen.  One must never stop questioning whether social, cultural norms and institutions, both official and unofficial are adequate to meet society’s ability to meet its ultimate need, which is to survive.





Friday, December 7, 2012

Syria: The spark of end times?

            Initially, I proposed to myself to stay out of the whole debate over the end of the world coming this month.  I am personally still highly skeptical that December 21 will have any more significant meaning for us this year than it did in previous years.  The way I see it, if the Maya had any reason to make a prophecy about the end of the world on this date, it would have had to be a natural disaster connected to astrology, which is what they used as reference for their calendar.  A solar flare is unlikely, because it is doubtful that they could have predicted it so long ago, given that we still have a hard time predicting it ourselves, more than a few days before it happens, despite all our technology.  A collision with a meteor would have been a more likely scenario, but I’m sure we would have detected this threat by now, and I doubt anyone would have been able to keep it a secret. 

As for non-stellar events, there is no compelling reason to believe that the Maya or anyone else had a way to tell the future, so I decided to let this one pass.  It is more important in my view to continue to focus on our long-term, agonizingly slow Armageddon, we seem currently completely unable and unwilling to deal with.  Our planet’s ability to sustain our activities ranging from reproduction to consumption are tested like never before.  There are already many signs of serious strain which I spent a whole year trying to create awareness about, such as food and energy issues, as well as environmental difficulties, all of which are getting worse, and there is currently no global mechanism in place to deal with this global issue.  The story of Syria’s preparations to possibly deploy chemical weapons caught my attention however, and I decided to touch on it, because it became clear to me that a very dangerous potential threat seems to be escaping most people.  So for this month, I decided to write one extra article.

The big worry, at least officially is that Syria is getting ready to use the weapons on its own territory in a last attempt to destroy the rebellion.  I thought about that for a moment and came to the conclusion that they cannot possibly be that stupid.  It would mean giving everyone who wants to end this, the excuse needed to intervene.  Russia and China would have a hard time objecting to intervention.  There is no logical reason to have the remnants of Assad’s last loyal troops be decimated by US and NATO airstrikes.  In effect, it would automatically give the rebel forces the benefit of indirectly fighting the regime with the backing of the world’s most powerful air force.

So, starting from the point I chose, which is the assumption that Assad and his entourage cannot possibly be that stupid, what other reasons could there be to prepare the chemical weapons arsenal for use?  There is another answer, which is that perhaps he is looking to intimidate the opposition, but he is not actually considering the use of the weapons at all.  This is slightly more plausible from a logical perspective, but still unlikely, because there is no reason to expect the Syrian rebels to feel deterred from their actions, due to a threat of chemical warfare, which would leave Syria devastated.  First of all, they would know that they won in such a scenario, because they know that there would be an outside intervention.  Second of all, the use of chemical weapons is imprecise.  It would be just as likely to kill people loyal and fighting for the regime, so no reason for the rebels in particular to worry.

Excluding the first two options from the possible reasons that the Assad regime might have to get the weapons ready for use, there is one possibility left.  It is precisely the one that the official circles are betting against.  Possible external use, either directly or as a deterrent against heavy counterblows, is in my view the most likely reason they are preparing the weapons for use.  It seems most people have dismissed this possibility on the assumption that Syria’s army is already heavily decimated by the long internal conflict, so the last thing they need is one more enemy. 

One more enemy might be perhaps exactly what the Syrian regime is considering, especially if that enemy happens to be the most hated entity in the Middle East.  Due to the continued insistence of Israel to occupy, exploit and colonize[i] the Golan Heights, the justification is there.  Syria is a sovereign state looking to get back territory occupied by a neighbor.  The average pro-Israel American may not see it this way, but over one billion Muslims across the world sure will.

Behind the justification for opening hostilities, lies the real reason.  Syria cannot of course take back the Golan Heights by force from Israel.  The US taxpayer has made sure of that, through their yearly donation of about $3.5 billion in military aid to the Israelis.  Syria on the other hand is mainly armed with Soviet era weapons, and their military force is decimated by many months of internal fighting and defections.  What opening up a new front could achieve is to take the wind out of the sails of the Syrian opposition, for they would no longer be fighting the evil Assad regime, but Assad the freedom fighter, who opposes Jewish expansionism in the Middle East.  In effect, it would be a last gamble to put the broken country back together in a governable shape, because at this point, even if he could defeat the rebels after a long struggle, the resentment of Assad’s rule over them would cause the country to remain unstable.  This is not as far fetced as many might believe.  Slobodan Milosevic of Yugoslavia pulled this trick repeatedly in the 1990's, every time the Serbs became unhappy with him.  He found them an external enemy to focus on, and thus he avoided being austed for many years.  Europe's elites welcomed the prospect of a grand war of nations against nations following the gains made by Socialists all over the continent.  The people who were chanting "workers of the world unite" up to 1914, eagerly jumped into the trenches of WWI, in order to face down the perceived enemy of their national states.  The external enemy is always a good way to keep cohesion.  When simple rhetoric no longer works, action may be necesary, as may be the case with Syria.

December 2012, road to Global Armageddon?

            I don’t believe that Assad would start the conflict by using chemical weapons, although, technically speaking, he could use them on the Israelis by unleashing them in the Golan Heights, where after all, he would be doing it on Syrian territory.  There, Jewish soldiers and settlers would be hit, without Israel being able to claim that it was attacked with those weapons, since it did not happen within its internationally recognized borders.

            The most likely scenario would be low level skirmishes initiated by troops loyal to Assad with Israel’s occupying forces.  From there, much depends on Israel’s reaction.

            The most likely outcome that most people would expect from such a situation, would be a good pummeling of Syria, courtesy of the region’s most powerful military.  We have to remember however what we saw in the past decade in terms of the conflicts fought in the region.  The US invasion of Iraq was relatively easy as long as the conventional conflict lasted.  The next eight years of war there, were not what most expected.  The US was kept from reaching its goals in Iraq by small bands of men, armed with little more than some AK-47’s, and improvised explosives, matched up against the most powerful military on this planet.  Israel’s incursion into Lebanon saw a similarly unexpected result, with Israel being fought to a stalemate by the Hezbollah militia.  Israel took heavy casualties during that conflict, with little to show for it.

            It is impossible to predict what a war between Israel and Syria would look like.  There is no question about Israel’s conventional supremacy, but once the bullets and bombs start flying, one can never know what the outcome might be.  It is possible that it would turn into a conflict of attrition, with Assad’s army being reinforced by perhaps thousands of men streaming in from all over the Middle East, eager to do jihad against the “little great Satan”.  It is hard to see how Syria’s rebels could continue to fight in those conditions, if anything, some of them might join the fight to retake the Golan..  Weapons might also flow in from the state of Iran, which it seems learned many of the lessons of recent conflicts in the region quite well, and is thus committed to unconventional warfare tactics and they seem to have steered their military industry in that direction.  The potential for surprises is definitely there.

            Regardless who would gain the upper-hand; we have to remember that both Israel and Syria have weapons of mass destruction, and I believe either side can be counted on to use them in case that they feel cornered and there is no other way.  Israel has by far the more dangerous arsenal, as well as ways to protect from counterstrikes in the form of a formidable missile defense system.  Syria on the other hand has a few hundred scud type missiles, potentially able to hit Israel.  Based on the latest fight between Israel and Hamas, it seems Israel can feel comfortable with the assumption that they can intercept and shoot down about 80-90% of the incoming missiles.  That means that there is still the danger of dozens of missiles hitting their targets, delivering their chemical load.  Casualties would be of serious magnitude, but not catastrophic.  Chemical weapons are just not that effective, especially if the population is prepared for it, and we know that Israel is prepared for it.  Syria could only hope to use it as a deterrent against Israel contemplating unleashing its full military arsenal against them, nothing more.

            Israel on the other hand has the power to wipe Syria and most of the Middle East off the map with its weapons, and if things were to go bad in terms of the conventional war, they may be tempted to teach the Syrians a lesson and deploy a few of their nukes.  We know after all that as far as the western world is concerned, Israel can do no wrong, so condemnation of such an action would only be partial.  We also know that such an event would trigger the kind of anger in the Muslim world, which would push their leaders to act, even if they don’t want to.  The most likely weapon to be deployed by them would of course be the oil weapon, since all of them combined could not beat Israel in a conventional war, and at the moment none of them have a nuclear weapon to retaliate with, except for Pakistan. 

A substantial cut in oil deliveries for a few years perhaps, would paralyze the world’s economy, which is already feeble, due to the 2008 financial near collapse, which affects us even now.  My guess is that it would be only a matter of months before many other clashes around the world would erupt.  At first, it would involve powerful states against weak ones, or weak states against each other.  Internal conflicts would also erupt all over the world.  Eventually, the big powers, desperate to find ways to keep their populations from rebelling, would cross swords, and that would lead to global Armageddon.


            All this would not likely trigger the end of the world by December 21, 2012, but we could look back to this month as being the trigger of global scale disaster, just as we remember back to Gavril Princip (Man who assassinated archduke of Austria-Hungary in 1914, setting off the events that cost 15 million lives during the First World War.  So, while we may get past this year, breathing a sigh of relief because we did not perish, we may find a world on the other side of “Happy New Year!!!”, which many of us will wish would have ended quickly, rather than having to witness extreme misery drag out, unless Assad and his entourage are incredibly stupid and are actually contemplating using the weapons on their own people.

BBC article explains how Israel depends on 1/3 of its water supply from the Golan Heights.

Saturday, December 1, 2012

Back to serfdom: Not as outlandish as we might think.

            At first glance at the title of my article, some may be tempted to believe that I deal in fiction, but that is certainly not the case.  As I shall explain here, this might actually happen.  It will likely be gradual enough to avoid initial collective detection, and it is not imminent enough to qualify as something that is likely to be a headline grabber, given our short collective attention span.  It is however imminent enough that if you happen to be under the age of 50, you may live to experience it, even though many will not recognize it, even as it happens.  So stick with me and keep reading before you decide that this is too far out there.

            By saying that we are headed back to a time of serfdom, I don’t mean to suggest the thing that may automatically pop into the heads of those familiar with the history of serfdom.  I certainly do not mean to say that we are all likely to be re-settled to toil the land with few tools, and little reward, and that our overlords will have complete control over us and our children for generation after generation.  I do believe however that the time will come, and it will not be far off when many people will have their rights gradually restricted through legislation and contract, due to their current and future financial positioning.  And even though most of us will not be put behind the oxen powered plow, some people may indeed end up having landowners as their master.  Large financial institutions will be the big serf owners of the future, because those are the people who we currently owe money to.  Since many farmers owe money to the banks, they may become major landowners, and they may need to source labor to make the land productive.

            So we already identified one of the factors that will lead to a new era of serfdom.  Our future debts may not be as easily thrown aside as it is the case in the present, given current legislation.  For an important reason, which I already identified on numerous occasions on this blog and in my book, these debts will not shrink, if anything they will grow, while our collective ability to keep up with our debts will shrink.  This ability to keep up with the payments will vary from family to family of course, and it may take only a year or two of reduced income due to unemployment or other misfortunes to end up owing ones freedom to the banks.

            The reason why I say that our ability to keep up with our debts will shrink is because of the decline in potential global economic growth.  I pointed out many times that since 2008, we entered in a period of global growth which will be permanently less than the 4% + average we saw starting in the mid 1990’s.  Even the IMF and other organizations have admitted to this, by forecasting average global growth rates of around 3.5%, which is the new mainstream consensus for the next few decades.  I did point out however that there is an event of great significance which was purposely overlooked, which makes even that 3.5% global growth rate an unattainable goal.  In 2010 the International Energy Agency admitted that as of 2006, global conventional crude production has stagnated, and there will never be significant gains ever again.  In other words, they admitted that the only way from the plateau we are on now is down, which people currently hotly debate when it will happen.  Since that event, the global economy entered a new permanent phase shortly after, starting from 2008.  Global growth for half a decade now is less than 3% and less than the mainstream forecasts in the last few years.  It is however in line with the forecast I made in March, based on analyzing the world’s ability to grow on a smaller average yearly increase in total liquid supplies, of which 80% comes from conventional petroleum fields.  For the next few decades, global growth will be in the 3% range, and then it will get worse as the next step will be a stagnation not just in conventional petroleum supply, but in total liquid fuels supplies.  Much later on, there will be another event, which could signal the end of our economic system altogether, and that will be triggered when total liquid fuel supplies will start shrinking permanently.

            Bottom line for us is that debt will become an increasingly heavy burden as stunted long-term growth prospects will make it harder for us to source the income needed to make our payments on a regular basis.  We should remember that 3% global growth will mean significantly less average growth in the developed world.  In fact, I expect developed world average growth for the next two decades to come in somewhere in the 1-2% range.  That rate is not higher than current labor productivity gains, therefore it is safe to say, especially if growth will be in the lower end of that range that fewer and fewer people will be needed to get the job done.  In the United States the potential labor supply is still growing, so things will become rather uncomfortable.

The actual level of growth needed for the long-term:

            US labor productivity growth for 2012 is estimated at .8%, which is considerably slower than the longer term average of about 1.5%.  We can expect labor productivity to continue increasing at an average 1% per year.  So taking labor productivity alone into account, we come to the conclusion that we need 1% growth at the very minimum to keep things going.  I am not taking into account the growth of the potential workforce, which continues to expand.

            The other factor we have to keep in mind is that the top 1% of earners are seeing a greater share of increase in yearly income than the rest of us.  The US census bureau just recently acknowledged that the income of the top 1% of earners increased by 5.5% last year, while that of the bottom 80% declined by 1.7% when adjusted for inflation.  This occurred during a year, which saw 1.8% GDP growth.

            It should be easy to visualize why, with a 5.5% increase in earnings, for the top 1%, there is little left over for everyone else, if we look at their share of total income earned, which in 2007 was 23.5%.  So if we do a simple mathematical exercise we get the following:

Assume that total income in 2011 was $100, out of which $23.50 went to the top 1%.  If their income increased by 5.5%, then their income is now $24.80

$23.50 x 1.055 = $24.80

which means that their income increased by $1.30.  But the total income increased by 1.8%, because that was the economic growth for that year, so only $.50 are left for the rest of the population, or the 99%. 

The data shows that the next 19% of the population took significantly more than that fifty cent portion left over, so the bottom 80% of households were left out in the cold, and thus we get that 1.7% decline in real income.  I should point out that the US CPI is not a good barometer of how the bottom 80% of households feel the current rate of inflation, because it keeps so called “volatile” prices such as food and energy out of their price basket.  Food and energy are however a big part of the actual consumer goods basket of the bottom 80%, and the price of these goods are precisely what is trending up the most for a decade now.

So, when we add labor productivity increases, to income inequality trends, we come to the conclusion that 2% average long term US growth rates are not enough to keep the majority in a stable financial situation for the long-term.  Three percent average growth seems to be the minimum needed.  Since 2008, US average yearly growth has been at 1%, and there is no reason to believe that going forward, the long-term average will improve much.  Even if as of 2013, the US economy were to grow at an average rate of 2.5%, growth as of 2008 will still average only about 1.8% by 2020.  We should not forget that between now and 2020 we will likely see another recession, while estimates for 2013 growth have been slashed back by the OECD to 2%, and even that may prove to be highly optimistic, because in the past few years all revisions came with a downward estimate for the short-term, while there is always a rosy picture painted about the more distant future that never arrives.  Growth within the OECD member countries made up of advanced economies was estimated at 1.4%, which is also way below the long-term average needed of perhaps somewhere around 3%.

Correlation between growth and freedom:

            Going back to the subject of why this may lead to a new era of serfdom, we have to keep in mind an important aspect of the world we live in.  It is a world in which it has already been demonstrated that the banks cannot be allowed to lose.  The 1% will continue to get a growing share of the pie, because they control the capital, as well as those who are supposed to regulate capital, so in effect they make up the rules.  As we saw however, in the US, even with a growth rate of 1.8%, the bottom 80% of households actually had their income decline by 1.7%.  If this happens for a year, it is tough but bearable.  If this will continue at a steady pace for a few more decades, the average household earning about $50,000 per year right now, will only have $40,000 to play with by 2030.  By 2040, that will drop to $35,000.  So twenty eight years from now, the average household in the US will earn 30% less in real terms than they do now.  I doubt that real debt per household will decline much by then however, because the only way this economy will grow even at that anemic 2% rate or so, will be if the consumer keeps on spending.

            Somewhere down the line, the banks will no longer be able to be compensated for their loans to the bottom 80%, and even for a portion of the next 19%.  At that point, they will have no choice but to take possession of illiquid assets held by the portion of the 99% who cannot keep up with their payments.  They will take the house, the car, and even the labor that most of us use to earn our way.  Legislation to allow them to do this does not exist currently, but it will if and when it will be needed.  We have to remember once more that the banks and the 1% cannot lose in this game in the favor of everyone else.  So, our houses, cars, will continue to serve as collateral for loans, but given the much higher expectation of default much more will be needed, so our labor might become collateral as well, since we have nothing else to give.  Some might be tempted to counter that in case that loans become more risky, banks will simply cut back accordingly, but that cannot be the case, for it would lead to permanent recession.  To avoid recession and eventual complete collapse, credit in the economy cannot be reduced and everything will be done, what can possibly be done to keep credit flowing.  As the US and EU governments are looking to cut deficit spending, steps will be taken to compensate by increasing consumer spending fueled by debt, of course, since our real earnings are declining as the data shows.

Recent Growth trends:

US growth
Global Growth
2012 (estimate)
2013 (forecast)
Average 2008-2013

Note:  Data sourced from Index Mundi[i], as well as World Bank for 2012-13 projections and estimates[ii].  I should also note that the World Bank’s estimate and forecast for 2012-13 is already seen as too optimistic for the US economy, because the OECD came out with a significant downward revision in November.  US growth is expected to come in at 2% next year, and 2.2% for the current year.


            There is only one viable argument that can hold up against my assessment, and that is that long-term average growth will be much higher, therefore my conclusions are irrelevant.  It is hard to argue however for a faster rate of growth in the future, given some important factors that we need to consider.  There are just too many things we already experienced going against us.  Since 2008, we had a major oil price spike and two food price spikes, and 2013 might be another tough year given this year’s lower than expected and needed global agricultural production.  I expect many more commodities will follow suit in the next years and decades, and it most certainly is not about speculators, but about supply not keeping pace with demand.  Since 2008, we keep getting positive forecasts about the western and global economy, promising that higher growth rates are just a year or two away, yet every time we get downward revisions as time takes us forward.  Since 2008, the European Union has not really had any growth on average.  The US averaged 1% per year since then, and even that is mainly thanks to the ability to run 8% + budget deficits.  The outlook for 2013 has just been lowered by the OECD to 2%, for the US and another flat year for the EU. If past years are a guide, this time next year, we will be told that growth will end up being less than initially expected.  Remember that we came to the conclusion that 2% growth is not enough to keep the bottom 80% from losing real income, while for half a decade now, the US is at 1%, and the EU is flat.

            Other people who looked at our situation and came to the conclusion that we are in deep trouble, such as the peak oil crowd, environmentalists or even many people in finance who figured out that things do not add up, generally came to the conclusion that we are headed for collapse, and upheaval.  My conclusion is somewhat different, because I believe that as long as the establishment believes in its ability to keep this tough situation together, they will continue to fight the collapse move by move.  It is in fact essential that they do, because our complex society has built many dangerous toys, such as nuclear weapons, and power plants which require a complex society to operate, or at least babysit.

For now, we are made to believe that we are still alright, so all we have to do is wait another year or two for the good times to roll in.  This gentle trick will fail, as expectations of downward revisions will become engrained in our collective psyche and at that point, more drastic measures will be taken including a gradual diminishment of our basic rights we came to expect.  At some point, the many little steps will add up to the establishment of a new authoritarian regime, with a democratic face.  The democratic face will gradually disappear as well, leaving nothing but a very strong autocracy aided by the many leaps in technology we made so far and will still make in the future, as well as the support of the few fortunate ones, who will want to keep their heads above water at all cost.  All of it will take many decades, so there is no outright collapse on the horizon as many other people predicted recently.
            It is within this trend and not within the one we are promised through continued forecasts of robust growth in our imminent future, which will trickle down to everyone, that it is indeed possible that many of us will be reduced to the status of serfs.  When someone else owns a part of your labor that is what you will be.  In time, this serf labor may be directed towards needs, against our will.  For instance in mining, farming or even the sex industry.  Then there will be the children of those whose labor is already owed.  If they will have nowhere to go, due to the fact that they will start off at a deep disadvantage, they will end up inheriting the status in exchange for being allowed to stay in the bank owned house of their parents.  Eventually, legislation may appear to allow banks to force the next generation to inherit the labor owed.

I wish I could see a way out, but there is not, at least when it comes to collective salvation.  The book I wrote, advocates a way to get around the problem of sustainability, which would provide a mechanism for the global economy to increase the value we get per unit of natural resources consumed, thus giving us a chance to increase growth a while longer, giving us time to fix things.  What I advocated will never ever catch on however.  I realize from the feedback I got back so far that even those who do care about sustainability are repelled by the idea, because it does not contain the romantic and ideal solution which they support due to their ideal view of humanity, which is that if only they can show us the gravity of the situation, we will all pull together and solve the problem, without any of us trying to go the opposite direction in order to gain an obvious economic advantage (In economic terms called the free rider dilemma, which sustainability crusaders always fail to address in their proposals).  They will continue to wait for this, even as the world around them will become darker and nastier.  As their ideal stance will continue to fail, they will blame it on the political right, which only cares about profit and not our collective future.

Individuals, who will happen to be in a good position by chance, or through wisdom and discipline, will continue to remain free.  Those of us who continue to play the patriotic role of global consumer of last resort, with no thought given about what the future holds, will likely end up losing the most precious thing of all.  It is something many of us only enjoyed for a relatively short period of human history, and something that should not be taken for granted.


Thursday, November 15, 2012

US, EU and China: Prospects for growth.

            November, 2012 has been very important for the United States and China, because both had very important government shifts or not as was the case of the US, where after spending $6 billion on campaigning, they produced the exact same government they had before the election.  So now we have a good idea what direction we can expect the world’s two largest economies to go in more or less for the rest of this decade.  There were no major elections in the EU member countries, but we have to include this entity in our discussion as well, because as of 2011, together with the US and China they accounted for 57% of the world’s nominal GDP according to IMF stats for that year.  Given the large share of the world’s economy that these three entities command, it is fair to say that the direction these three economies are headed is where the whole world is headed.  It is therefore wise in my view to look at each one individually in today’s global context, because we need to get away from US election rhetoric and promises, which dominated the media for the past few months and get back to reality.

The European Union:

            It is no longer a secret that the EU is likely to see a continuation of the current slump for the rest of the decade.  There are few reasons to believe things will improve any time soon.  The unending rounds of government budget deficit reduction through spending cuts and tax hikes in many individual member countries are having a larger negative effect on economic growth than most believed would be the case.  In short, it seems most European economists under-estimated the multiplier value of government spending.  As the economy continues to drag, new corrective measures are needed to adjust year after year, so in effect, Europe is caught in a vicious cycle, which they better find a way to break out of, before the union itself breaks up if and when the masses will lose their patience.  They need to find growth even as they continue to tighten the budgets.  It is not an easy task, nor are the European elites up to the task.  This year’s move to tax foreign airlines for their greenhouse gas emissions is the perfect example of just how out of touch European leaders are with the realities they face.  That move caused billions of dollars worth of economic losses, and tens of thousands of jobs, due to retaliatory measures, such as China’s move to cancel Airbus purchase agreements.

            It is sad to admit to the fact that there are currently more risks to the downside for Europe’s economy than there are upsides.  Given the large debt load of some of the members, it is a real possibility that we can see a few sovereign defaults, especially in the Euro area, where devaluation is not a viable alternative to actual default by individual members, because it is hard to devalue as long as the union contains global exports powerhouse Germany and a few other members which have a sound economy and a fiscal house in good order.  Greece’s debt/GDP ratio is expected to go to 190% next year, up from 175% this year, and that is despite many fiscal tightening measures already implemented.  When the crisis first hit them in 2008, their debt to GDP ratio was about 120%  Some optimistic projections assume that Greece’s ratio will decline to 120% of GDP by 2020, which is still very high and overly optimistic in my view.  Greece can only solve this through outright default.  It cannot cut its way out, because every cut leads to further recessionary pressures, and a shrinking economy with a still rising debt  They most certainly cannot grow out of it, because there are currently no engines of growth available to them.  For four years now, we keep getting the same forecast for Greece.  A return to growth is always two years away.  This year they project that it will happen in 2014, and in 2014, no doubt they will claim it is just two years away again.

Italy’s debt to GDP ratio is about 120%, and its economy is stagnated, so they cannot grow out of it.  Spain will have to take a bailout soon, in order to deal with the broken banks.  France may become the victim of excessive deficit procedures over their many years of running deficits higher than 3%.  As a result, they could lose EU budget funds, deepening the hole they are in even further  These are just a few of the potential imminent default candidates.  These problems can actually lead to a much bigger problem, which is a breakup of the union.  Such an event would cause a global recession of unparalleled magnitude in depth and duration.  It is a very real danger, and it is likely to happen this decade, if it is to happen at all.

As long as growth is absent from the region, the likelihood of a breakup happening will rise as people will become more bitter.  It may only take one member to start the avalanche of exits.  Currently, we should watch non-Euro zone members of the union such as Britain, which may decide to jump ship early on.  The Euro skeptic Czechs may also surprise by possibly being the first.  There is even a small chance that a country like Hungary may head for the exits if some factions of the EU power and decision-making apparatus cannot help themselves but continue to attack them, for either political reasons to avenge the defeat and demise of Hungary’s socialists, or by those looking to punish Hungary for the way it dealt with the current crisis, by forcing multinational banks to share in the pain.  It is much harder for Euro currency members to jump ship, but not impossible either, so it is of paramount importance that EU politicians get their act together.

Some of the things they could do in order to promote a return to growth include a relaxation of environmental standards, including their unilateral war on greenhouse gas emissions, which is also a war on growth and jobs.  Easing of worker protection rights is not a bad idea either, because joining the race to the bottom is the only way to remain competitive.  Identifying the millions of workers who work under the table across the EU might be a better way to raise revenues than raising taxes, with less resulting drag on the economy.  There are probably many other things they could do, which I overlooked.  I fear however that they will fail to do much at all.  It seems all our elected politicians are stuck in the same old ideological debates over spending and taxation.  The result of inaction will most likely lead to EU economic growth in the 0-1% per year rate for the 2010-2020 period.  The data released today on Q3 GDP, shows that the Eurozone is now in a double-dip.  I will dedicate my December 1’st article to the subject of what a prolonged period of such a slow pace of growth will mean for western society.

The United States:

            With the elections over and done with, it is important to leave the electoral rhetoric behind and admit that neither side could have delivered 12 million net jobs in the next four years, even though both sides would have sworn that it would be a piece of cake as long as their recipe of ideology-chip cookies would be followed.  There are a few factors that give the US a chance at the very least to fare better than the EU.  None of these factors have anything to do with government policy however.  Cutting taxes, and other gimmicks sold to the electorate would have no impact whatsoever on the current economic trend.

            Energy is probably the top factor that is likely to positively affect the US economy.  Many people worried that Obama will prevent private companies from realizing the full economic potential of the new trends in hydrocarbon exploitation, but there is no actual reason to worry about it, because it is a little bit like the worries expressed four years ago that Obama was coming to take people's guns away.

            The shale oil and gas developments are more than a tool to improve US energy independence.  It is more than improving the economy through helping cut US reliance on oil and gas imports.  Hydraulic fracturing requires a high rate of drilling activity to keep production growing, or even to keep it flat.  Well decline rates are very high.  A natural gas well can decline from the initial flow rate by as much as 60% in the first year.  This means that six new wells are required the following year just to replace production losses from ten such high decline rate wells drilled the previous year.  The need to keep this high rate of drilling may be bad news for the long-term viability of the industry, and for the country’s domestic energy production prospects, but it is good news for those looking for work and willing to move to find it.  It is also good news for suppliers of equipment to the exploitation companies and those looking for a job in manufacturing those products.

            It is also good news that the government is able to continue to sell its debt at a very low interest rate.  Ten year bonds currently pay about 1.65% interest per year.  Inflation rates are higher than that, so the interest on debt is not becoming a high burden for the government just yet.  It will once interest rates go up, and the bonds sold in the last few years will mature and the government will have to roll over the debt at a higher rate.  For now however, they can continue to support growth through government spending.  If the US federal government will continue to accumulate debt at current rates till 2020, its total debt will be about $25 trillion.  At a rate of 2% interest, that will be manageable at around $500 billion.  If for any reason, we will see signs that rates are on a sustained rising path, such a high debt load will be dangerous.  To put it into perspective, at a 5% interest rate, the government will have to pay $1.25 trillion per year in interest.  The federal government’s total budget for this year is about $3.8 trillion, and revenues are about $2.6 trillion.  Even if revenues were to double by then, to $5 trillion, interest on debt will eat up a quarter of those revenues.

            Given these considerations it is wise to assume that the US government will cut its deficits substantially by then.  They will probably start addressing this problem at the end of this year already as they deal with the potential “fiscal cliff”.  Cuts in spending and increases in tax intake will slow the economy however, as we already saw with the EU.  For reasons I already articulated in other articles as well as in my book, it is unlikely that maximum potential growth rates in a country like the US will be more than 2% per year on average.  That average will be further reduced by measures meant to reduce the deficit.  That in turn will guarantee that the government’s revenue intake will not double as I assumed earlier.  Adding up the assumed rate of inflation at 2% and growth at 1.5% on average for the 2010-2020 period, revenues will grow to $3.5 trillion.  Remember that assuming the interest rate will grow to 5% by 2020 would mean that interest on debt will be $1.25 trillion, or a third of revenues collected.  Cutting the debt load by a trillion dollars, or even two or three trillions, will not have much of an impact.  There are just no easy answers, to this problem, except for two possibilities.  Do whatever it takes to keep interest rates low.  Alternatively inflation can be ramped up, changing the nominal revenue growth trajectory.  Increasing annual inflation rates from the 2% target to about 8-9%, and assuming economic growth will average 1-2% per year, would lead to government revenues doubling every seven years.


            One might not know this by following the mainstream media, but there is a shift of leadership underway in China.  This shift did not cause $6 billion to be spent on campaigning, nor did the big issues get debated, with varying views being pitted against each other.  One might argue that there is little need for debate even though China is about to enter an era of slower growth decelerating from about 10% per year to about 6.5% according to most mainstream economic forecasts coming from the IMF, World Bank and other entities.  I have taken a different approach to forecasting long-term growth for the world as well as for different countries and regions ( read here ), which I have to say that since I did publish them seem to be better aligned with reality thus far than what the mainstream has been pushing.  I think for instance that China will have to fight hard to achieve 5% average yearly growth in the next two decades, which is significantly less than the assumed and expected 6.5% average.

            China has to fight many factors indeed, because the model they used to get here is no longer viable.  Take for instance their per capita GDP.  They are now closing in on the EU’s poorest members Romania and Bulgaria, which means that their wages are not as competitive anymore.  Even with my assumption that they will only get 5% yearly growth on average, they will overtake even the relatively stronger countries such as Poland and Hungary in per capita GDP by around 2020.  That is good news on one hand for the average Chinese citizen, because this will surely translate in an elevated living standard for many, but it will also result in a loss of wage competitiveness.  Eastern and Central Europe should be expected to start pushing aside Chinese exports from Europe gradually.  The European Union is currently China’s largest export partner, and it is now in danger of losing that market, even though it seems most including many investors do not realize this just yet.

            The example of China’s future in Europe’s consumer market is what generally becomes the dilemma of fast-growing economies, which were at some point overly reliant on their wage competitiveness as a way to gain the right to manufacture.  As growth leads to a lessening of the wage advantage gap, the economy hits a wall, and in the absence of competent leadership ready to manage the hard task of continuing to compete in the absence of the wage advantage, the impact can be fatal.  In the case of the Chinese, they have much work to do in order to find improvements in efficiency meant to counterbalance the loss of the wage advantage.  They have rampant corruption they need to deal with, which is not an easy task.  They need to find a way to increase domestic consumer spending, including through the all important measure of providing a basic social safety net that is currently lacking.  They need to start paying attention to the damage they are inflicting on their environment, because at some point it will lead to a decline in their population’s collective health, and it will be costly for both the individuals and the government.  These are all things they have to deal with in the current decade if they want to have a chance to avoid complete disaster.  The main key to solving most of these problems is what will make it problematic to do so.  They will have to break the current relationship they have with the US.  They have to start spending the proceeds of their exports on the people, which means they will no longer be able to support the American consumer through lending the US money.  The effect of such a policy will be larger than the actual size of the sum of money that China has been lending.  Remember the calculation we made of US interest on federal debt, and the effect that raising interest rates to about 5% from the current rate which is less than 2% will have on government finances.  Once again it is becoming more and more evident that there are no easy answers left.


            As we continue to rely on classical moves meant to resolve our problems, it is becoming more and more obvious with every year that passes that we are failing to resolve these issues and with every failure we are getting closer and closer to the point of no return.  Solutions such as the one I proposed in my book in the form of a standardized global trade tariff meant to rebalance the world’s economy, can only work for as long as there is still a world economy left to save.  In the absence of bold new ideas, and bold leadership, we have nothing left to hope for.  The only thing left for us to do as individuals is prepare for hard and unforgiving times, because even though it might not yet be obvious to most, the hard times are comming and there will be many victims.