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China’s Great Humiliation

Elite Forex Blog - Market Research & Analysis

China’s Great Humiliation

MODERN MYTH’S OF NATIONAL TRIUMPH
Writing in ‘Wall Street Journal’ and saying China needs “a new national story”, Orville Schlee and John Delury basically claim China has for too long been hobbled and fettered, ideologically, by its modern history of humiliation. This was due to the so-called unequal treaties it was forced to sign with what for Chinese, were the Western Barbarians. These unequal treaties started with the British in 1842.
The cult of national humiliation was used by Mao Zedong, founding the Peoples Republic in 1949 when he said “Ours will no longer be a nation subject to insult and humiliation.”
Schlee and Delury contrast that with the US and France:
“Every July, amid festivities and fireworks, the U.S. and France mark their birth as nations”. They claim that in both cases this started with triumph:  “Accustomed as we are in the West to histories that begin with triumph—the signing of the Declaration of Independence, the storming of the Bastille—it may seem strange that China, the fast-rising dynamo of the East, marks the beginning of its journey to modern nationhood in a very different way: with the shock of unexpected defeat and the loss of national greatness”.
Chinese state mythology, to be sure, makes it obligatory for every schoolchild to know China’s official Before and After – Before and After the First Opium War of 1839-42. Schlee and Delury say this is comparable with Americans teaching children the preamble of the Declaration of Independence, and French forcing all schoolchildren to learn La Marseillaise, but in China’s case it is a cult of national humiliation and the natural desire for revenge.
In fact all three events were revolutionary, included ‘revanchist’ motives, involved mass killing and were overturned and superceded by the real world. Teaching everybody, not only schoolchildren the differences between Before 2008, and After the crisis, are a lot more relevant to the modern world.
CHINA’S REBALANCING IS ALSO CULTURAL
When or if China experiences a massive financial and economic crisis comparable to that of 2008 in the US, France, other European countries, Japan, and other developed countries this may be as humilating for China as its 1842 defeat by the British in the First Opium War. It will be humiliating in the same way, but possibly not as intensely, as the deep humiliation suffered by the populations of the PIIGS countries, doomed to years (even a decade) of austerity, their youth forced to emigrate.
China’s slowing economy is taken as “a danger signal”, by many in the West, only for what Chinese slowing will or can do to global economic growth.
It is usually ignored for what it is: a danger signal generated by and inside the Chinese economy and society. It warns that China can suffer a finance-triggered crash exactly like the Western economies. Very little prevents this – and the reason is because China has caught up. China is so far from a humiliated nation that, although Scheel and Delury don’t exactly say this, its “170-year-old cult of national humilation” is a lot more than simply dangerous, if it affected Chinese political decisions.
This is not the case, but the reasons should alarm us even more. China has learned from the Western crisis of 2008 and its sequels. China is alarmed and perplexed, confused in the same way as Western deciders, or non-deciders. China knows this is a terminal crisis, but does not know what comes next.
The almost natural reflex action is to slow down, like driving in fog, hail or heavy rain.
National symbols, historical myths are in any case unrelated to the modern global economy. It is also arguable China has re-interpreted its 170 years of humiliation much more constructively than Americans, today, treat and mistreat the Declaration of Independence, and French fumble with the “real meanings” of the Storming of the Bastille.
All three were war-related events. All three events presaged future wars – civil wars. None of then had anything to do with the global economy’s fantastic morph into uncharted waters since 2008. Inside the US and France, today, their historical relics are criticised by some as a “distraction”, even an irritation. 
For Chinese, national mythology makes The Temple of the Tranquil Seas, in Nanjing, the place where Chinese forces signed a humiliating surrender deal with British forces, a “curious porthole into the bitter past of foreign incursion and exploitation”. Today, countries like Cyprus must sign with the Troika, for last-minute bailouts under humiliating conditions. Across the OECD countries and with very few exceptions, the tens of millions of additional unemployeds since 2008 must accept the humiliation of long-term joblessness.
FORGET THE FIREWORKS
As it is, this July 14, many French towns and smaller cities have quietly shelved their traditional fireworks shows. Even when produced and sold by China, as most are, they are too expensive.
As we know, both Republicans and Democrats trace their ideologies to July 4. Both Napoleon and French Republicans claimed legitimity from July 14. In China, both the Nationalists and Communists constructed their ideologies with claimed inspiration from the August 1842 Nanjing Treaty. In no case did this prevent intense conflict, even civil war. Arguments can be made that all three “founding national events” sowed the seeds of civil war.
Facing economic crisis and being unable to trace it to unequal trade treaties, dumping, currency devaluation, commodity or stock price manipulation – or any other hostile action called Economic War – the fireworks of Great Power conflict, spurred by economic war, are at present very unlikely. This is because the crisis is too grave, not the opposite.
The fact that the Asian Locomotives, following the Asian Tigers, have slowed and then slowed again, while the other BRICs and G20 former high-growth Emerging economies, such as Brazil, are almost in recession should alert us to the real situation. For China, simply because of its massive size and long history, its deep experience of the recent high-growth phase of economic globalization, the roles of rebalancing – firstly to slow the economy – are clearly understood.
The motives for this are however more complex in the Chinese case, than in the Western economies which were subjected to chaotic and unexpected slowing, turning it into an inevitable crash. China in now way wants to repeat that humiliation, dealt to and inflicted on the West by itself. China therefore plans for controlled slowing – with all the dangers that implies.
As the Western economies have slowly understood, since 2008, there is little or no symmetry between the growth economy and decline economy. They are not simple red lines and blue lines on a chart, the one canceling the other. They are different processes – understood, now, by the admission of some Western economists, if not politicians, that “restoring growth” may not be conventionally possible or may have to be “heterogeneous”, spread over a long time period, staggered, or suchlike.  This recognition is often given coded language for example “double dip and triple dip”, “negative growth”.
China rides the Dragon. The capture by British forces of a Chinese Imperial Rising Dragon flag at the Battle of Chusan, during the First Opium War, was a key event in this key war. The Dragon, in Chinese mythology, can disappear in a flash and as a mythological animal is both revered and feared. Growth of the economy, in China, may be so extremely compressible that for all intents and purposes it disappears from view.
This would be more than simply a national humiliation – it would be a global catastrophe.
By Andrew McKillop
Former chief policy analyst, Division A Policy, DG XVII Energy, European Commission. Andrew McKillop Biographic Highlights
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A 21st Century Glass-Steagall Act

Elite Forex Blog - Market Research & Analysis
We are confident the following amusing bill titled grandiosely enough “A 21st Century Glass-Steagall Act” (the Bill text here) by Elizabeth Warren, John McCain et al, to pretend Congress is not a bought and paid for by Wall Street marionette, will have a last minute rider that says “Compliance with any or all of the above provisions is purely voluntary.”
Senators Warren, McCain, Cantwell, and King Introduce 21st Century Glass-Steagall Act
Senators Elizabeth Warren (D-MA), John McCain (R-AZ), Maria Cantwell (D-WA), and Angus King (I-ME) today will introduce the 21st Century Glass-Steagall Act, a modern version of the Banking Act of 1933 (Glass-Steagall) that reduces risk for the American taxpayer in the financial system and decreases the likelihood of future financial crises.
The legislation introduced today would separate traditional banks that have savings and checking accounts and are insured by the Federal Deposit Insurance Corporation from riskier financial institutions that offer services such as investment banking, insurance, swaps dealing, and hedge fund and private equity activities. This bill would clarify regulatory interpretations of banking law provisions that undermined the protections under the original Glass-Steagall and would make “Too Big to Fail” institutions smaller and safer, minimizing the likelihood of a government bailout.
“Since core provisions of the Glass-Steagall Act were repealed in 1999, shattering the wall dividing commercial banks and investment banks, a culture of dangerous greed and excessive risk-taking has taken root in the banking world,” said Senator John McCain. “Big Wall Street institutions should be free to engage in transactions with significant risk, but not with federally insured deposits. If enacted, the 21st Century Glass-Steagall Act would not end Too-Big-to-Fail.  But, it would rebuild the wall between commercial and investment banking that was in place for over 60 years, restore confidence in the system, and reduce risk for the American taxpayer.”
“Despite the progress we’ve made since 2008, the biggest banks continue to threaten the economy,” said Senator Elizabeth Warren.  “The four biggest banks are now 30% larger than they were just five years ago, and they have continued to engage in dangerous, high-risk practices that could once again put our economy at risk.  The 21st Century Glass-Steagall Act will reestablish a wall between commercial and investment banking, make our financial system more stable and secure, and protect American families.”
“Too many Main Streets across America have paid the price for risky gambling on Wall Street,” Senator Maria Cantwell said. “This bill would restore clear bright lines that separate risky activities from the traditional banking system. It’s time to restore faith in our financial institutions by rebuilding the firewall that protected our economy for decades in the wake of the Great Depression. Restoring Glass-Steagall would focus our financial system where it belongs: getting capital into the hands of job creators and businesses on Main Streets across America.”
“As Maine families continue to feel the sting of the 2008 economic downturn, America’s largest financial institutions continue to engage in risky banking and investment activities that threaten the health of our financial sector and our economy as a whole. While recent efforts at financial sector regulatory reform attempt to address the ‘too big to fail’ phenomenon, Congress must take additional steps to see that American taxpayers aren’t again faced with having to bail out big Wall Street institutions while Main Street suffers,” Senator Angus King said. “While the 21st Century Glass-Steagall Act is not the silver bullet to end ‘too big to fail,’ the legislation’s re-establishment of clear separations between retail and investment banking, as well as its restrictions on banking activities, will limit government guarantees to insured depository institutions and provide strong protections against the spillover effects should a financial institution fail.”
The original Glass-Steagall legislation was introduced in response to the financial crash of 1929 and separated depository banks from investment banks. The idea was to divide the risky activities of investment banks from the core depository functions that consumers rely upon every day.  Starting in the 1980s, regulators at the Federal Reserve and the Office of the Comptroller of the Currency reinterpreted longstanding legal terms in ways that slowly broke down the wall between investment and depository banking and weakened Glass-Steagall. In 1999, after 12 attempts at repeal, Congress passed the Gramm-Leach-Bliley Act to repeal the core provisions of Glass-Steagall.
WASHINGTON — Sens. Elizabeth Warren and John McCain, along with two other colleagues, introduced legislation Thursday to reinstate the Glass-Steagall prohibition on federally insured banks from also operating as investment banks.
The legislation would minimize the risk of future goverment bailouts by forcing banks some still consider “too big to fail” to become smaller.
Warren (D-Mass.), an outspoken liberal, and McCain (R-Ariz.), a conservative who was his party’s 2008 presidential nominee, are an unlikely pair.
But they are united in the belief that separating traditional deposit-taking from investment activities would reduce risk in the banking system and lessen the chance of future bailouts.
The two were joined by Sens. Maria Cantwell (D-Wash.) andAngus King (I-Maine) in introducing the 21st Century Glass-Steagall Act. Sen. Tom Harkin (D-Iowa) proposed similar legislation in May.
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9 Plagues That Are Collapsing Capitalism

Elite Forex Blog - Market Research & Analysis
Via Jim Quinn’s Burning Platform blog (authored by Paul Rosenberg of FreemansPerspective blog),
Let me be blunt: Our capitalist system is approaching failure.
Or, perhaps better said: Our marginally capitalist, partly-free market systems are approaching a massive collapse.
Not because of what capitalism is, mind you, but because the powers that be have bastardized it.
Capitalism can bear many distortions and abuses, but it is not indestructible.
And, make no mistake, the ‘capitalist’ system we have today has been massively corrupted, so much so that it’s sagging under the load… and will continue to do so until the proverbial straw breaks its back.

The 9 Plagues

1. The average producer is being stripped bare. In the US, for example, the total take of taxes has not risen dramatically, but fewer and fewer people actually pay them. There was a big uproar during the last election cycle over the fact that 47% of working-aged Americans paid no income tax. That means that the half who do work (read suckers) are paying the whole. And more than that, they are also paying for the many millions who are on food stamps and disability. Producers are being punished and abused, made into chumps.
2. Thrift is essentially impossible. I’ve explained this in detail previously, but a hundred years ago, it was possible for an average person to accumulate money. Mechanics, carpenters, and shop owners slowly filled their bank accounts with gold and silver. It was common for them to make business loans and to retire comfortably. But now, all of our surplus is drained away to capital cities, where it is poured down the drains of welfare, warfare, and political lunacy. Money has been removed from the hands that made it, and moved into the hands of non-producers, liars, and destroyers.
3. In 2008, US federal government regulations cost an estimated $1.75 trillion, an amount equal to 14 percent of US national income. Let me restate: Simply complying with regulations costs American businesses more than $1,750,000,000,000 (that’s $1.75 Trillion) every year. This, again, is money taken out of production and wasted on political lunacy.
4. Small businesses are being squeezed out. Take a look at the two graphs below, and understand that as small businesses are squeezed out, only the large corporations remain. These days, only the largest and best-connected entities are able to get their concerns dealt with (by the politicians they fund). Small operations are cut off from the redress of their grievances and are crushed by taxes and regulation. And don’t forget the comments of Mussolini:
Fascism should more properly be called corporatism, since it is the merger of state and corporate power.
While there may be no dictator, state/corporate partnerships are taking over commerce in the West.
Freeman's Perspective
Freeman's Perspective
5. The military industrial complex is out of control. Their lobbying, fear-mongering, and spending can only be characterized as obscene. Dwight Eisenhower was right when he warned us about this in 1960. It is sad beyond measure that so few Americans took him seriously. Trillions of dollars and millions of productive lives are being spent on the war machines of the West. Never forget that wars destroy massively and produce nothing.
6. All the Western nations now feature large enforcer classes, composed of bureaucrats, law enforcement units, inspectors, and so on. In the US alone this amounts to several million people – none of whom produce anything, and all of whom restrain producers from producing. Millions of people are paid to restrain commerce.
7. We now have a very large financial class in which blindly aggressive people make millions of dollars. The problem is that finance is not productive. It may allocate money in beneficial ways (though it often allocates mainly to itself), but it doesn’t actually produce anything. At present, the allocators get the big bucks, and the producers get scraps.
8. The modern business ethic has become about acquisition only. In more enlightened times, it was also about creating benefit in the world, or at least creating newer and better things. Mere grasping is an insufficient philosophy for capitalism; it leads to dark places.
9. Every nation on the planet is using play money and forcing their inhabitants to use their play money. Moreover, they have super-empowered a small class of Central Banking Elites, who make fortunes on their currency monopolies, and who are entirely unknown to the producers who unwillingly (and unknowingly) purchase jets and yachts for them. Our money systems have brought back aristocracies; a class that is both hidden and immensely powerful.

So What’s Next?

That’s up to the producers. Everything hinges upon them. The game, as it is, depends entirely on them being willing to accept abuse.
All that is necessary to fix this is for the producers to stop being willing victims. Simple, I know, but there is a problem with such a sensible idea:
The producers are convinced that their role in life is only to struggle and obey.
Modern producers believe that the ruling classes have a legitimate right to tell them how much of their money they are entitled to keep, which charity causes they’ll be forced to contribute to, which features their car is required to have, and much, much more. Why? Simply because those other people are in “high positions,” and they (the producers) are in “low positions.” An evil assumption has been planted in their minds:
It is right for important people to order me around.
The productive class holds all the real power, but they are nearly devoid of moral confidence. So, they are abused without end.
Right now, a parasitic ethic rules the West and will continue to rule so long as producers play the part of the suckers. If this continues, what remains of capitalism will grind to a halt and will be overrun by a Neo-Fascist arrangement – not the dictator and swastika variety – but one where the state and powerful business interests merge into one unstoppable and insatiable force.
On the other hand, if ever the producers wake up from their moral coma and reject the role of doormat, they will build a society embodying the ethics of production. It almost sounds impossible, I know. But it is has happened before and could happen again.
It’s up to us.
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Interactive Brokers fined 225k

Elite Forex Blog - Market Research & Analysis

CFTC Orders Connecticut-based Interactive Brokers LLC, a Registered Futures Commission Merchant, to Pay a $225,000 Civil Monetary Penalty

Firm failed to supervise its employees, failed to maintain sufficient U.S. dollars in customer segregated accounts, and failed to compute on a currency-by-currency basis the amount of customer funds on deposit and required to be on deposit in segregated accounts

Washington, DC – The U.S. Commodity Futures Trading Commission (CFTC) today issued an Order requiringInteractive Brokers LLC (IB) of Greenwich, Conn., to pay a $225,000 civil monetary penalty for failing to calculate the amount of customer funds on deposit, the amount of funds required to be on deposit in customer segregated accounts, failing to maintain sufficient U.S. dollars (USD) in customer segregated accounts in the United States to meet all USD-denominated obligations, and supervision failures. The CFTC’s Order also requires IB to cease and desist from violating CFTC Regulations, as charged.
IB, an on-line brokerage firm, is a Futures Commission Merchant and Retail Foreign Exchange Dealer with more than 140,000 customer accounts.
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Argentina creates virtual currency Cedin to attract black money back

Elite Forex Blog - Market Research & Analysis
President Cristina Fernandez de Kirchner’s wish of being able to print dollars is coming true as the central bank begins issuing dollar-denominated certificates today that trade in pesos.
Argentina is issuing the certificates, known as Cedines, as part of a tax amnesty plan to attract undeclared cash back into the economy. The nation’s foreign reserves have fallen at the fastest pace in more than a decade to a six-year low of $37.2 billion, as Argentina uses the money to pay debt instead of borrowing dollars at interest rates that are more than double the 5.95 percent average in emerging markets.
“The deliberate intention of the government is for the Cedin to trade like a quasi-currency,” Hernan Lacunza, a former general manager of the central bank who runs research firm Empiria, said by telephone from Buenos Aires. “People will probably go running to exchange them for dollars as soon as they can so the effect on reserves will be ephemeral.”
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Bankruptcy Bail-Ins Are Retirement Accounts Next?

Elite Forex Blog - Market Research & Analysis

One of the biggest concerns of savvy investors since the ongoing crisis began in 2008 has been the safety and longevity of the various types of retirement accounts and systems. Throwing gasoline on the flames have been the decisions rendered by courts of ‘law’ regarding the treatment of customer money in the case of the bankruptcy of several brokerage firms, most notably, MFGlobal. The susceptibility of bank deposits has already been firmly established in prior issues of this column. To our alarm and dismay it appears, at least on the surface, as though few are doing anything to prepare for such an eventuality.
Our hope in authoring this collaborative piece is that it will cause more people to assess matters as circumstances pertain to them, and then take proper evasive action. If you still believe in the system and that it exists for your benefit and protection then you may stop reading now.
The bail-in concept actually began to be implemented here in the United States before anywhere else. When a federal appellate court gave its stamp of approval in the Sentinel case, it gave the green light to the theft of customer funds whether they be segregated in a brokerage account (but held in street name) or held as deposits in a traditional banking arrangement. The quiet and subtle change in status from depositors to unsecured creditors that took place back in 2010 has been well documented in this column. The fact that, since the publishing of that seminal work on 4/12/2013, Japan, Britain, and the EU have officially adopted the bail-in doctrine should be very alarming, yet it is nearly uncovered by the lapdog media.
The outrage over the theft of segregated money in the cases of Sentinel, MFGlobal, and PFGBest has been all but absent. Nobody seems to care that they’re fleeced. The Cypriots are looted over the course of several weeks and other than the cries of the people of Cyprus there is nary a whimper of protest. So, how safe is the $18 trillion in retirement assets in America? Well, after the latest ‘clean-out’ beta test (more on this later) it is probably a good portion less than $18 trillion.
The Sustainability of QE
Most thinking individuals will quickly come to the conclusion that quantitative easing (aka printing money from nothing to buy debt) or monetization is not sustainable in the long run. This creates an immediate problem because our economy and financial system are now addicted to these monthly liquidity injections. The economy and financial system are hooked on the bubbles QE produces. The bottom line is someone has to buy all those new Treasury bonds otherwise deficit spending goes away and an instant depression ensues. It is that simple: someone has to buy the bonds otherwise the economy buys the farm.
There is another problem with QE. Unlike retirement savings, QE is not capital. The work of von Mises and Rothbard, among others, clearly delineates the differences between capital and currency so we won’t expound on that topic here. QE is currency. It is anti capital. Basically QE destroys capital. When all the capital is gone, the economy is gone and in this case, so is the goose that lays the golden eggs for the banksters. And we can’t have that. There is still plenty of fleecing to be done. People are still lining up to take on more debt and pledge more of their future economic output to people who create the enslaving debt from thin air without breaking a sweat. Why should they work when you’re willing to do it for them? Who in their right mind would want to put an end to such a great racket prematurely?
It is this very unsustainable nature of QE that will cause the banksters to go hunting for other liquid sources of capital. There are two big ones in America: bank deposits and retirement savings.
Potential Mechanisms for Confiscation
Contrary to the popular undertone of most hucksters (even in the alternative media) who are constantly warning of ‘imminent financial/economic collapses’ and the theft of everything including the nickel between the couch cushions, it won’t necessarily work that way. We’ve got a distinct socialist trend going in America now and have had one for quite some time.
One likely eventuality is that the government, acting in its now accustomed role as the primary enforcement arm of the banking establishment, would ‘nationalize’ the retirement system. This would likely start with public pension plans and a mandate that these plans invest a minimum percentage of their portfolio in Treasury securities. The Thrift Savings Program (TSP) here in the US is already a major purchaser of Treasury securities for its ‘G’ Fund. Coercing other public pension plans to do the same is the next logical step although it is not without severe consequences. The actuarial models of nearly all pension funds are based on the idiotic notion that portfolios always produce a near 7% rate of return over the long run.
The last decade has put a huge dent in these models, which is one reason why many plans are now underfunded. Demographics and wage shifts are other major problems. We know, you have 101 reasons why your plan is the only one that is safe. We’ve heard them all. We also heard the 101 reasons why your house was the only one on the block that was immune from the housing crash and so forth. Regardless, nearly all plans are underfunded now, to varying degrees. If these plans were forced to take a significant position in Treasury bonds above what they already own, those actuarial models would become absolutely worthless. That is, unless interest rates adjust dramatically upward, which would cause a raft of other problems.
What the nationalization concept would mean for nearly all recipients of pension payments is an immediate and significant cut in their distribution. There are laws against that, right? There are also laws against stealing client money and we saw how well that worked out for the clients so we would suggest taking this possibility rather seriously.
The second potential mechanism is an outright bail-in where the funds are re-hypothecated (stolen) under the guise of some type of 2008-style crisis, whether it be manufactured or real. Under this type of eventuality, there would be the perceived need for recapitalization of the banking system either in its entirety or majority and the segregated monies in retirement accounts and bank deposits would be used to bail-in the system. The securities in those accounts could be sold to raise more funds to complete the bail-in. Obviously in this scenario the pensioner or IRA account owner would be left with little or nothing. At a minimum they’d get what was dubbed a ‘haircut’ when it was done in Cyprus.
Potential Timetables & Triggers
At current there is no timetable for any of this nor are we going to propose one. There is a smattering of information here and there, mostly from sources who are either dubious or compromised, however there is a certain tenor that we can establish from the actions of central banks, policy think tanks, and governments around the world that strongly suggests the eventual nationalization/confiscation is one of the next steps.
Our best projections regarding potential signposts are precisely the kinds of events we’ve seen over the past two weeks: massive volatility and sell-offs, particularly in the bond markets. Japan is a huge potential trigger. The BOJ is walking the razor’s edge with its Abenomics sham and one mistake and over they go and the rest of the globe with them. Increases in both the frequency and magnitude of central bank easing are another signpost. Stunts such as the Bank of Japan directing pension plans where to invest are another good signpost that it is well past time to begin planning.
The past few weeks have produced what we’re going to call a beta test of one of the potential takedown mechanisms. We’ve previously mentioned the addiction of western economies and their financial systems to QE stimulus. For months now market and economic spectators have been wondering aloud what would happen if and when all this QE stops. The mere mention of such an eventuality causes volatility. There is no possible way that the monetary ‘authorities’ don’t know this.
So in that context we present Ben Bernanke’s suggestion a few weeks back that QE may be ‘tapered’. Then the banksters stepped back and watched the fireworks. Predictably the world sold off. Stocks, bonds, and commodities all went down. It was a mini deleveraging event. Then the banksters stepped in and restored a bit of stability to the system before things really got out of hand.
That exercise demonstrated several things. First, it proved beyond any shadow of a doubt that nobody has any idea what any financial asset is actually ‘worth’. All we know is that they are worth more when there is QE than when there isn’t. We have a QE pumped market, which we already knew, but there have been some detractors that have been painting the picture of a bull market based on fundamentals. That is utter nonsense. Secondly, the shock to interest rates caused some major cracks in the financial façade. Interbank rates in China skyrocketed and at least one bank allegedly hit the mat and had to be bailed out (CIBC). There were probably more. Keep in mind there are several hundred trillion dollars worth of derivatives tied to interest rates alone.
The trigger is obvious. The ‘end’ or even suggested end of QE causes a spike in interest rates, which wipes out a good portion of the world’s banks.  Essentially allowing what started after Bernanke’s speech to proceed unchecked and gain momentum. The bail-in is on. There aren’t nearly enough deposits or retirement savings to cover the derivatives market. The leverage is enormous and even the smallest of moves is going to cause problems. The banksters, including their spokesman, the little professor in DC, know all this.
Others might not be willing to say this, but we are. If we end up with a spike in interest rates because of the end (or threatened end) of QE with the banks of the world needing to be bailed in with your savings, then it was done intentionally. It was not an accident as will undoubtedly be reported. It wasn’t a ‘black swan’. They did their test the other week and saw the results. We are hostages to QE forever. Without it, the entire system perishes. And, as we pointed out earlier, even that isn’t enough. One way or another America’s retirement savings are on borrowed time. Sadly there are no other conclusions that really make sense given all that has already happened.
Conclusions
One thing we wonder at with amazement is the absolute unwillingness of most first world citizens to even consider making changes in their standard of living. A simple 20% cut in standard of living by Americans would provide a huge degree of flexibility with regards to weathering the storm that lies dead ahead, yet people won’t do it. They won’t even talk about it for the most part and your authors have seen this mentality on two continents. Standard of living is sacrosanct. The second thing that is truly amazing is the lengths people will go to in order to remain in denial. We cannot state strenuously enough that you ignore the events going on around you at your own extreme risk and peril.
We’ve gone out on a limb here, presenting what is basically a circumstantial case against central banks and governments when it comes to the matter of your retirement accounts. We’ve demonstrated the need for your capital to keep their Ponzi scheme going. We’ve demonstrated their willingness to swipe other types of assets with the full blessing of the judicial system. We don’t have whitepapers such as the FDIC/BOE and BIS position papers on bank deposits – yet. We have no inside information and don’t purport to have secret contacts with Dick Tracy watches as many others do. We’re merely presenting what has already taken place and the fact that the current paradigm is in great jeopardy unless your savings are separated from you and placed under their control to some degree or another. The world would be much better off if the paradigm just ended, however it won’t go quietly into that good night and neither should you. However, with information and knowledge come responsibility and a call to action. Posterity strongly suggests it. Freedom absolutely demands it.
Graham Mehl is a pseudonym. He currently works for a hedge fund and is responsible for economic forecasting and modeling. He has a graduate degree with honors from The Wharton School of the University of Pennsylvania among his educational achievements. Prior to his current position, he served as an economic research associate for a G7 central bank.
Andy Sutton holds a MBA with Honors in Economics from Moravian College and is a member of Omicron Delta Epsilon International Honor Society in Economics. His firm, Sutton & Associates, LLC currently provides financial planning services to a growing book of clients using a conservative approach aimed at accumulating high quality, income producing assets while providing protection against a falling dollar. For more information visit www.suttonfinance.net
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Collateral Transformation: The Latest, Greatest Financial Weapon Of Mass Destruction

Elite Forex Blog - Market Research & Analysis
Back in 2002 Warren Buffet famously proclaimed that derivatives were ‘financial weapons of mass destruction’ (FWMDs). Time has proven this view to be correct. As The Amphora Report’s John Butler notes, it is difficult to imagine that the US housing and general global credit bubble of 2004-07 could have formed without the widespread use of collateralized debt obligations (CDOs) and various other products of early 21st century financial engineering. But to paraphrase those who oppose gun control, “FWMDs don’t cause crises, people do.” But then who, exactly, does? And why? And can so-called ‘liquidity regulation’ prevent the next crisis? To answer these questions, John takes a closer look at proposed liquidity regulation as a response to the growing use of ‘collateral transformation’ (a topic often discussed here): the latest, greatest FWMD in the arsenal.
Submitted by John Butler of The Amphora Report,
Back in 2006, as the debate was raging whether or not the US had a mortgage credit and housing bubble, I had an ongoing, related exchange with the Chief US Economist of a large US investment bank. It had to do with what is now commonly referred to as the ‘shadow banking system’.
While the debate was somewhat arcane in its specifics, it boiled down to whether the additional financial market liquidity created through the use of securities repo and other forms of collateralized lending were destabilizing the financial system.
The Chief US Economist had argued that, because US monetary aggregates were not growing at a historically elevated rate, the Fed was not adding liquidity fuel to the house price inflation fire and that monetary policy was, therefore, appropriate. (Indeed, he denied that the rapid house price inflation at the time was cause for serious concern in the first place.) I countered by arguing that these other forms of liquidity (eg. securities repo) should be included and that, if they were, then in fact the growth of broad liquidity was dangerously high and almost certainly was contributing to the credit+housing bubble.
We never resolved the debate. My parting shot was something along the lines of, “If the financial markets treat something as a money substitute—that is, if the incremental credit spread for the collateral providing the marginal liquidity approaches zero— then we should treat it as a form of de facto money.”
He dismissed this argument although I’m not sure he really understood it; at least not until there was a run on money-market funds in the wake of the Lehman Brothers bankruptcy in November 2008. It was at that point that economic officials at the Fed and elsewhere finally came to realize how the shadow banking system had grown so large that it was impossible to contain the incipient run on money-market funds and, by extension, the financial system generally without providing explicit government guarantees, which the authorities subsequently did.
This particular Chief US Economist had previously worked at the Fed. This was and remains true, in fact, of a majority of senior US bank economists. Indeed, in addition to a PhD from one of the premiere US economics departments, a tour of duty at the Fed, as it were, has traditionally been the most important qualification for this role.
Trained as most of them were, in the same economics departments and at the same institution, the Fed, it should perhaps be no surprise that neither the Fed, nor senior economists at the bulge-bracket banks, nor the US economic academic and policy mainstream generally predicted the global financial crisis. As the discussion above illuminates, this is because they failed to recognize the importance of the shadow banking system. But how could they? As neo-Keynesian economists, they didn’t—and still don’t—have a coherent theory of money and credit.[1]

FROM BLISSFUL IGNORANCE TO PARANOIA

Time marches on and with lessons learned harshly comes a fresh resolve to somehow get ahead of whatever might cause the next financial crisis. For all the complacent talk about how the “recovery is on track” and “there has been much economic deleveraging” and “the banks are again well-capitalized,” the truth behind the scenes is that central bankers and other economic officials the world over remain, in a word, terrified. Of what, you ask? Of the shadow banking system that, I believe, they still fail to properly understand.
Two examples are provided by a recent speech given by Fed Governor Jeremy Stein and a report produced by the Bank of International Settlements (BIS), the ‘central bank of central banks’ that plays an important role in determining and harmonising bank regulatory practices internationally.
The BIS report, “Asset encumberance, financial reform and the demand for collateral assets,” was prepared by a “Working Group established by the Committee on the Global Financial System,” which happens to be chaired by none other than NYFed President William Dudley, former Chief US Economist for Goldman Sachs. (No, he is not the Chief US Economist referred to earlier in this report, although as explained above these guys are all substitutes for one another in any case.) [2]
In the preface, Mr Dudley presents the report’s key findings, in particular “evidence of increased reliance by banks on collateralized funding markets,” and that we should expect “[t]emporary supply-demand imbalances,” which is central banker code for liquidity crises requiring action by central banks.
He also makes specific reference to ‘collateral transformation’: when banks swap collateral with each other. This practice, he notes, “will mitigate collateral scarcity.” But it will also “likely come at the cost of increased interconnectedness, procyclicality and financial system opacity as well as higher operational, funding and rollover risks.”
Why should this be so? Well, if interbank lending is increasingly collateralized by banks’ highest quality assets, then unsecured creditors, including depositors, are being de facto subordinated in the capital structure and are highly likely to ‘run’ at the first signs of trouble. And if banks are holding similar types of collateral that suddenly fall in value, then they can all become subject to a run at the same time, for the same reason.
Collateral transformation is thus a potentially powerful FWMD. But don’t worry, the BIS and other regulators are on the case and doing the worrying. As a belated response to the financial crisis that they all failed to foresee, the latest, greatest trend in financial system oversight is ‘liquidity regulation’. Fed Governor Jeremy Stein explains the need for it thus:
[A]s the financial crisis made painfully clear, the business of liquidity provision inevitably exposes financial intermediaries to various forms of run risk. That is, in response to adverse events, their fragile funding structures, together with the binding liquidity commitments they have made, can result in rapid outflows that, absent central bank intervention, lead banks to fire-sell illiquid assets or, in a more severe case, to fail altogether. And fire sales and bank failures–and the accompanying contractions in credit availability–can have spillover effects to other financial institutions and to the economy as a whole. Thus, while banks will naturally hold buffer stocks of liquid assets to handle unanticipated outflows, they may not hold enough because, although they bear all the costs of this buffer stocking, they do not capture all of the social benefits, in terms of enhanced financial stability and lower costs to taxpayers in the event of failure. It is this externality that creates a role for policy. [3]
Ah yes, wouldn’t you know it, that ubiquitous, iniquitous enigma: market failure. Regulators have never found a market that doesn’t fail in some way, hence the crucial need for regulators to prevent the next failure or, at a minimum, to sort out the subsequent mess. In the present instance, so the thinking behind liquidity regulation goes, prior to 2008 the regulators were overly focused on capital adequacy rather than liquidity and, therefore, missed the vastly expanded role played by securitised collateral in the international shadow banking system. In other words, the regulators now realise, as I was arguing back in the mid-2000s, that the vast growth in shadow banking liquidity placed the stability of the financial system at risk in the event that there was a drop in securitised collateral values.
In 2007, house prices began to decline, taking collateral values with them and sucking much of the additional, collateral-based liquidity right back out of the financial system, unleashing a de facto wave of monetary+credit deflation, resulting in the subsequent financial crisis. But none of this was caused by ‘market failure’, as Governor Stein contends. Rather, there is another, simpler explanation for why banks were insufficiently provisioned against the risk of declining collateral values, yet it is not one that the regulators much like to hear, namely, that their own policies were at fault.
In one of my first Amphora Reports back in 2010 I discussed in detail the modern history of financial crises, beginning with the 1980s and concluding with 2008. A pattern rapidly becomes apparent:
[Newton’s] third law of universal motion was that for each and every action there is an equal and opposite reaction. While applicable to the natural world, it does not hold with respect to the actions of financial markets and the subsequent reactions of central banks and other regulators. Indeed, the reactions of regulators are consistently disproportionate to the actions of financial markets. In sinister dialectical fashion, the powers assumed and mistakes made by policymakers tend to grow with each crisis, ?thereby ensuring that future crises become progressively more severe…
[W]as the Fed’s policy reaction to the 1987 crash proportionate or even appropriate? Was it “an equal but opposite reaction” which merely temporarily stabilised financial markets or did it, in fact, implicitly expand the Fed’s regulatory role to managing equity prices? Indeed, one could argue that this was merely the first of a series of progressively larger “Greenspan Puts” which the Fed would provide to the financial markets during the 18 years that the so-called “Maestro” was in charge of monetary policy and, let’s not forget, bank regulation…
By the late 1980s, a huge portion of the S&L industry was insolvent. The recession of 1990-91, made a bad situation worse. FSLIC funds were rapidly depleted. But a federal guarantee is supposed to be just that, a guarantee, so Congress put together a bailout package for the industry. A new federal agency, the Resolution Trust Corporation (RTC), issued bonds fully backed by the US Treasury and used the proceeds to make insolvent S&L depositors whole…
In retrospect, the entire S&L debacle, from its origins in regulatory changes and government guarantees, through the risky lending boom, bust, credit crunch and fiscal and monetary bailout can be seen as a precursor to the far larger global credit bubble and bust of 2003-2008: Just replace the S&Ls with Fannie/Freddie and the international shadow banking system. But there is no need to change the massive moral hazard perpetrated by incompetent government regulators, including of course the Fed, and the reckless financial firms who played essentially the same role in both episodes.[4]
Notwithstanding this prominent pattern of market-distorting interest-rate manipulation, guarantees, subsidies and occasional bailouts, fostering the growth of reckless lending and other forms of moral hazard, the regulators continue their self-serving search for the ‘silver bullet’ to defend against the next ‘market failure’ which, if diagnosed correctly as I do so above is, in fact, regulatory failure.
Were there no moral hazard of guarantees, explicit or implicit, in the system all these years, the shadow banking system could never have grown into the regulatory nightmare it has now become and liquidity regulation would be a non-issue. Poorly capitalised banks would have failed from time to time but, absent the massive systemic linkages that such guarantees have enabled—encouraged even—these failures would have been contained within a more dispersed and better capitalised system.
As it stands, however, the regulators’ modus operandi remains unchanged. They continue to deal with the unintended consequences of ‘misregulation’ with more misregulation, thereby ensuring that yet more unintended consequences lurk in the future.

MIGHT COLLATERAL TRANSFORMATION BE THE CRUX OF THE NEXT CRISIS?

In his speech, Governor Stein also briefly mentions collateral transformation, when poor quality collateral is asset-swapped for high quality collateral. Naturally this is not done 1:1 but rather the low quality collateral must be valued commersurately higher. In certain respects these transactions are similar to traditional asset swaps that trade fixed for floating coupons and allow financial and non-financial businesses alike to manage interest rate and credit risk with greater flexibility. But in the case of collateral transformation, what is being swapped is the principal and the credit rating it represents, and one purpose of these swaps is to meet financial regulatory requirements for capital and, in future, liquidity.
An obvious consequence of such collateral transformation is that it increases rather than decreases the linkages in the financial system and thus in effect replaces firm-specific, idiosyncratic risk with systemic risk, exactly the opposite of what the regulators claim they are trying to do by increasing bank regulatory capital ratios. Liquidity regulation is an attempt to address this accelerating trend and the growing systemic risks it implies.
Those financial institutions engaging in the practice probably don’t see things this way. From the perspective of any one institution swapping collateral in order to meet changing regulatory requirements, they see it as necessary and prudent risk management. But within a closed system, if most actors are behaving in the same way, then the net risk is not, in fact, reduced. The perception that it is, however, can be dangerous and can also contribute to banks unwittingly underprovisioning liquidity and undercapitalizing against risk.
Viewed system-wide, therefore, collateral transformation really just represents a form of financial alchemy rather than financial engineering. It adds no value in aggregate. It might even detract from such value by rendering opaque risks that would otherwise be more immediately apparent. So I do understand the regulators’ concerns with the practice. I don’t, however, subscribe to their proposed self-serving remedies for what they perceive as just another form of market failure.

PLAGARISED COPIES OF AN OLD PLAYBOOK

Already plagued by the ‘Too Big to Fail’ (TBTF) problem back in 2008, the regulators have now succeeded in creating a new, even more dangerous situation I characterise as MAFID, or ‘Mutual Assured FInancial Destruction.’ Because all banks are swapping and therefore holding essentially the same collateral, there is now zero diversification or dispersion of financial system risk. It is as if there is one massive global bank with thousands of branches around the world, with one capital base, one liquidity ratio and one risk-management department. If any one branch of this bank fails, the resulting margin call will cascade via collateral transformation through the other branches and into the holding company at the centre, taking down the entire global financial system.
Am I exaggerating here? Well, if Governor Stein and his central banking colleagues in the US, at the BIS and around the world are to be believed, we shouldn’t really worry because, while capital regulation didn’t prevent 2008, liquidity regulation will prevent the scenario described above. All that needs to happen is for the regulators to set the liquidity requirements at the right level and, voila, financial crises will be a thing of the past: never mind that setting interest rates and setting capital requirements didn’t work out so well. Setting liquidity requirements is the silver bullet that will do the trick.
Sarcasm aside, it should be clear that all that is happening here is that the regulators are expanding their role yet again, thereby further shrinking the role that the markets can play in allocating savings, capital and liquidity from where they are relatively inefficiently utilized to where they are relatively more so. This concept of free market allocation of capital is a key characteristic of a theoretical economic system known as ‘capitalism’. But capitalism cannot function properly where capital flows are severely distorted by regulators. Resources will be chronically misallocated, resulting in a low or possibly even negative potential rate of economic growth.
The regulators don’t see it that way of course. Everywhere they look they see market failure. And because Governor Stein and his fellow regulators take this market failure as a given, rather than seeking to understand properly how past regulatory actions have severely distorted perceptions of risk and encouraged moral hazard, they are naturally drawn to regulatory ‘solutions’ that are really just plagiarised copies of an old playbook. What is that definition of insanity again, about doing the same thing over and over but expecting different results?
[1] Neo-Keynesians will deny this, claiming that their models take money and credit into account. But they do so only to a very limited extent, with financial crises relegated to mere aberrations in the data. The Austrian economic school of Menger, Mises, Hayek, etc, by contrast, has a comprehensive and consistent theory of money and credit that can explain and even predict financial crises.
[2] The entire paper can be found at the link here (PDF).
[3] This entire speech can be found at the link here.
[4] FINANCIAL CRISES AND NEWTON’S THIRD LAW, Amphora Report Vol. 1 (April 2010). The link is here.
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Europe Make Cyprus “Bail-In” Regime Continental Template

Elite Forex Blog - Market Research & Analysis
Turns out that for Europe, Cyprus was a “bail-in” template after all, and following an agreement reached early this morning, Europe now has a joint failed-bank resolution mechanism. Several hours ago, EU finance ministers announced that they had reached agreement on the principles governing the imposition of losses on creditors in bank ‘bail ins’. Having already agreed to establish “depositor preference” in the pecking order of creditors at risk, the stumbling block to agreement was the availability of flexibility at the national level to complement the bail in with injections of funds from other sources. Under the compromise achieved overnight, once a bail in equivalent to 8% of total liabilities has been implemented, support from other sources can be used (up to 5% of total liabilities) with approval from Brussels.
So investors (i.e. yield chasers) and not taxpayers will foot the cost of bank bailouts going forward for a change? Maybe on paper: “From 2018, the so-called “bail-in” regime can force shareholders, bondholders and some depositors to contribute to the costs of bank failure. Insured deposits under €100,000 are exempt and uninsured deposits of individuals and small companies are given preferential status in the bail-in pecking order.” In reality, last night’s agreement is the usual fluid melange of semi-rigid rules filled with loopholes designed to benefit large banks whose impairment may be detrimental to “systemic stability”.
To wit, from the FT: “While a minimum bail-in amounting to 8 per cent of total liabilities is mandatory before resolution funds can be used, countries are given more leeway to shield certain creditors from losses in defined circumstances.” In other words, here is the bail in regime… which we may decide to ignore under “defined circumstances.”
Next, since the “package must be agreed with the European parliament, a process that could stretch until the end of 2013” we urge no breath holding, especially since it was in late 2012 that news of a joint European bank regulator was announced, and one year later this concept has crashed and burned. In fact the bail-in deal will “open debate on further stages of financial integration, including on establishing a central authority to shut down eurozone banks” and “Germany is strongly resisting centralising such important powers to shut down banks under existing treaties.”
In other words, yet another European agreement that is at best worth the price of the paper it is printed on. In the meantime, if indeed some of the systemic European banks keel over and die – say Credit Lyonnaise, Natexis or Deutsche – the last thing that anyone will think about to avoid a systemic collapse will be impairing even more banks. As a reminder, these are the most undercapitalized banks in Europe as reported by Goldman yesterday:
But golf clap to Europe for finally admitting that reason and logic also apply to the most banana continent of all: after all, it took years of legislating to realize that the insolvency impairment waterfall, a concept rooted in logic and not in political BS, applies in Europe as it does everywhere else in the world too (except for the TBTFs in the US of course).
And all of the above, from a slightly less jaded perspective, via Reuters:
The European Union agreed on Thursday to force investors and wealthy savers to share the costs of future bank failures, moving closer to drawing a line under years of taxpayer-funded bailouts that have prompted public outrage.
After seven hours of late-night talks, finance ministers from the bloc’s 27 countries emerged with a blueprint to close or salvage banks in trouble. The plan stipulates that shareholders, bondholders and depositors with more than 100,000 euros ($132,000) should share the burden of saving a bank.
The deal is a boost for EU leaders, who meet later on Thursday in Brussels, and can show that they are finally getting to grips with the financial crisis that began in mid-2007 with the near collapse of Germany’s IKB.
“For the first time, we agreed on a significant bail-in to shield taxpayers,” said Dutch Finance Minister Jeroen Dijsselbloem, referring to the process in which shareholders and bondholders must bear the costs of restructuring first.
The rules break a taboo in Europe that savers should never lose their deposits, although countries will have some flexibility to decide when and how to impose losses on a failing bank’s creditors.
“They can affect German savers just as well as they can affect any other investor in the world,” German Finance Minister Wolfgang Schaeuble said after the meeting.
* * *
But thorny issues lie ahead, not least whether countries or a central European authority should have the final say in shutting or restructuring a bad bank.
The European Commission, the EU executive, is expected to unveil its proposal for a new agency to carry out this task of “executioner” as early as next week, officials said.
“The most important discussion has yet to start and that is how decisions on restructuring will be made,” said Nicolas Veron, a financial expert at Brussels-based think tank Bruegel. “It’s premature to say that Europe is getting its act together.”
Many Europeans remain angry with bankers and the easy credit that helped create property bubbles in countries including Ireland and Spain, which then burst and plunged Europe into a recession from which it has yet to recover.

http://www.zerohedge.com/news/2013-06-27/europe-make-cyprus-bail-regime-continental-template

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Some Hard Numbers On The Western Banking System

Elite Forex Blog - Market Research & Analysis

Submitted by Simon Black via Sovereign Man blog,
At our Offshore Tactics Workshop in Santiago three months ago, Jim Rickards (author of the acclaimed Currency Wars) told the audience of roughly 500 people– (paraphrased)
‘If one of you stands up right now and heads for the exit, the rest of the audience probably won’t pay much attention. If ten of you do it, one or two people may notice and follow. But if 400 of you suddenly head for the exit, the rest of the audience would probably follow quickly.’
It’s a great metaphor for how our financial system works. The entire system is based on confidence. And as long as most people maintain this confidence, everything is fine.
But as soon as a critical mass of people loses confidence in the system, then it starts a chain reaction. More people start heading for the exit. Which triggers even more people heading for the exit.
This is the model right now across the system. And it’s especially pervasive in the banking system.
Modern banking is based on this ridiculous notion that banks don’t actually have to hang on to their customers’ funds.
Banks in the United States typically hold less than 10%, and even less than 5%, of their customers’ savings. This is particularly true among smaller regional banks.
As an example, BB&T bank is holding about $3.2 billion in cash equivalents on $131 billion in customer deposits. That’s a ratio of just 2.4%.
The rest of customer deposits are mostly invested in residential mortgage backed securities (similar to those which collapsed in 2008) and commercial loans. In fact, the bank’s loan portfolio exceeds total customer deposits. Not exactly the picture of financial health.
In the UK, the situation has become so absurd that British regulators are allowing some banks (Lloyds, Royal Bank of Scotland) to plug their gaping capital deficits with FUTURE earnings.
Now, I’m not trying to badmouth any particular bank here; these example are representative of the entire western financial system.
Yet few people give much thought to where they park their hard-earned savings. We’re deluded into believing that our bank is safe. It must be, after all. It’s a bank! And… it’s backed by the government!
Sure, never mind that the balance sheets of insurance funds and sovereign governments are in even worse shape.
That this system is still functioning at all is due almost entirely to confidence. There is no fundamental support propping it up. And a system built exclusively on confidence can unravel quickly.
This is why it’s so important to give a lot of thought to your financial partner. Do they have a fundamentally safe balance sheet? Or is it just smoke and mirrors?
Take a look at your own bank’s balance sheet. How much cash do they hold as a percentage of deposits? How big is the loan portfolio as a percentage of deposits? How much equity does the bank have as a percentage of deposits?
If you’re not satisfied, find another bank. And you may have to look overseas at stronger jurisdictions.
Singapore is one place where I’m happy to park capital. OCBC for example, holds a whopping 38% of customer deposits in cash equivalents… ten times as much as many banks in the West.
Its total loan portfolio is far less than customer deposits. Total equity exceeds assets by a margin of 2:1. And it resides in a nation with effectively no net debt.
I’m not necessarily endorsing OCBC, but rather citing it as an example of what a healthy bank balance sheet is supposed to look like. Many banks in Singapore hold similar figures.
Bottom line, it matters where you hold your savings. Balance sheet fundamentals are critical.
And moving your hard-earned savings to a well-capitalized, highly liquid bank is one of those things that makes sense, no matter what.
If nothing happens, you won’t be worse off for it. Yet if the confidence game collapses, you’ll be one of the few left standing with your savings intact.

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