Sunday, December 13, 2015

Weekend Reading Links

1. Larry Summers has a very dismal prognosis for the US and world economy. He has one more reason to be sceptical of any significant rise in the real interest rates,
the increases in demand achieved through low rates in recent years have come from pulling demand forward, resulting in lower levels of demand for the future. For example, lower rates have accelerated purchases of cars and other consumer durables and created apparent increases in wealth as asset prices inflate. In a sense, monetary easing has a narcotic aspect. To maintain a given level of stimulus requires continuing cuts in rates.
And this argument about the possibility of a recession in the US and the weakness of monetary policy in combating it is disturbing,
The experience of the US and others suggests that once a recovery is mature the odds of it ending within two years are about half and of it ending in less than three years over two-thirds... History suggests that when recession comes it is necessary to cut rates more than 300 basis points. I agree with the market that the odds are the Fed will not be able to raise rates 100 basis points a year without threatening to undermine recovery. Even if this were possible, the chances are very high that recession will come before there is room to cut rates enough to offset it. The knowledge that this is the case must surely reduce confidence and inhibit demand.
Central bankers bravely assert that they can always use unconventional tools. But there may be less in the cupboard than they suppose. The efficacy of further quantitative easing in an environment of well-functioning markets and already very low medium-term rates is highly questionable. There are severe limits on how negative rates can become. A central bank forced back to the zero lower bound is not likely to have great credibility if it engages in forward guidance.
2.  The aftermath of the sub-prime crisis has upended many a conventional wisdom. One of them was on interest rates - that zero is the lower limit, below which people will pull out their money and stash it under their mattresses. But, as we have seen with negative rates across Europe, no such thing has happened. While the ECB has cut its main target interest rate to minus 0.3% and the Swiss National Bank is aiming for even minus 1.25%, the total deposits in European banks were 327 bn Euros higher in October 2015 than in June 2014 when the negative rates were introduced. As ECB has reiterated its commitment to go even lower, it remains to be seen how low is too much for savers to start pulling back. For the time being, the conventional wisdom has been replaced by this,
There are a lot of benefits to keeping money in a bank besides the interest you earn. If you keep $10,000 in savings in a bank, and the bank gets robbed, you’re unaffected; the bank is on the hook for the losses. If you keep it in your freezer, theft is your problem. The peace of mind of having your $10,000 in a federally insured bank account and the ability to write a check to make a purchase or wire money to a family member are valuable. More valuable, it seems likely, than the $30 in annual costs that would apply if the Fed put in place the E.C.B.’s new negative 0.3 percent rate.
3. As its own economy slows down and its mills, smelters, and refiners struggle with their excess capacity, Chinese manufacturers have been exporting massive amounts of  steel, aluminium, and oil products, hurting producers across the world. 
This Bloomberg report captures the scale of the problem,
Net fuel exports surged to an all-time high of 2.22 million metric tons in November, 77 percent above the previous month, customs data showed. Aluminum shipments jumped 37 percent to the second-highest level on record while sales of steel products climbed 6.5 percent, taking annual exports above 100 million tons for the first time... there is almost 700 million tons of excess capacity around the world, with the Asian nation contributing as much as 425 million tons.
4. Ikea is iterating with a new business strategy. In a break from big box, large storefront retailing, the privately held company now proposes to try out three new strategies - pick-up points, smaller stores, and city center stores. Its CEO, Peter Agnefjall describes how it proposes to adopt these changes,
That’s what we’re doing and then it will be trial and error — that’s what an entrepreneurial business is about. You don’t get everything right from the beginning and in some cases it will fail. In some cases this will be a super success, and in some cases it will be something that we can tweak and improve and that’s the way we develop Ikea constantly.
5.  A friend sends this cartoon which captures the essence of the negotiating positions in the climate change meeting at Paris.
6. Talking of climate change, the most striking image of its impact is this.

The website has excellent illustrations of the impact of climate change. 

7. India's National Green Tribunal (NGT) has ordered an interim stay on registration of new diesel vehicles and renewal of registration of those older than 10 years in National Capital Region (NCR). This follows its earlier orders banning the plying of diesel vehicles older than 15 years in NCR, pollution tax on all commercial vehicles entering Delhi, closure of all roadside hot-mix plants in Delhi, and directions to the Delhi government to identify critically polluted areas and issue stay-at-home warnings to elderly and children. In fact, the recent decision of the Delhi government to ban cars with odd and even numbers on alternate days is itself motivated by NGT directions to improve air quality levels in the capital city.

It is another example of how, in the absence of political leadership, judicial activism may be the only way that vexed public policy challenges with strong inertia can be addressed.

8. As the Fed's reversal of monetary accommodation nears, the corporate bond markets appear to have become spooked with borrowing costs for the lowest rated companies spiking sharply. UBS has estimated that $1 trillion worth US corporate bonds and loans below investment grade may be under stress as borrowing costs rise. The ultra-low interest rate environment had driven large volumes of money into high-yield debt in search for yields. 

The clearest evidence of trouble is the decision by asset manager, Third Avenue to stop withdrawals and liquidate its high-yield bond fund, $788 million Third Avenue Focused Credit Fund. This follows the Fund's 27% slump this year which has resulted in investors rushing to redeem their assets. Third Avenue says it has run out of money to "pay redeeming investors without having to dump bonds at fire-sale prices", which would further drag down the Fund's valuation and usher in a death spiral. This is the largest mutual fund failure in the US since the Reserve Primary money market fund shut shop in the immediate aftermath of the Lehman collapse in September 2008, heralding the bursting of the sub-prime mortgage bubble. This from the FT captures the risks,
The Third Avenue fund closure underscores a situation that has raised worries since the financial crisis. Mutual funds have been piling into corporate bond markets in recent years, even as the ability to trade these debts has atrophied as regulation and risk-aversion has spurred investment banks to curtail their market-making activities. That has raised fears over a toxic “liquidity mismatch” in corporate bond markets, a phenomenon that people from Jamie Dimon to Stephen Schwarzman have said could exacerbate or even cause a crisis. The crux is that investors can exit from mutual funds rapidly, which could create a so-called “flighty capital” stampede. However, the funds hold increasingly illiquid securities that are harder to sell... The average yield of the most lowly rated US corporate bonds has rocketed from 10 per cent earlier this year to over 17 per cent this week, and the woes have begun to spread from the energy sector that was the epicentre earlier this year.
The liquidity crunch and the contagion effect on other assets and intermediaries/institutions from forced fire-sales is also a reminder about the systemic importance of asset managers. 

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