Economy Archives - Page 71 of 135 - the patient investor

May 26, 2014

China Isn’t Just Slowing Down — It’s Contracting | Business Insider

Kyle Bass, founder and principal of Hayman Capital Management, on China’s debt bubble:

China’s banking assets have grown to over 100% of its GDP in the last three years, according to Bass. If the U.S. had engaged in similar policies – which he said would translate to $17 trillion in lending over that time period – it, too, would have achieved more than 7% GDP growth.

China’s banking assets now total approximately $25 trillion, or almost three times the size of its $9 trillion economy. Its low default rate on bank loans – about 1% – is about to rise, according to Bass. Much of that lending is construction-related. Bass said that 55% of China’s GDP growth has been in the construction sector. The marginal return on those loans must be very small, he argued.

“A rolling loan gathers no loss,” Bass said, “and that’s what’s been going on in China for the last few years.” He said it is impossible to believe China could “manipulate” the inputs of its financial system without losing control of the outcomes.

Deflation is also threatening China. Bass said that its GDP deflator is now below zero. He expects the PBoC to engineer a devaluation of the renminbi as a way to stimulate exports and avert further deflation…

China may well attempt to engineer a devaluation of the RMB, but neither the Fed nor the ECB are likely to tolerate China exporting their deflation to the US/Europe.

May 26, 2014

China’s export dilemna

Growth in value of exports from China has slowed to single figures since 2012. It will be difficult sustain current GDP growth if this trend continues.

China Exports

The Harper Petersen index of shipping rates for container vessels, the Harpex, remains near its 2010 low, reflecting continued weakness in Asian manufactured goods exports (a rise in exports from Europe or North America would be absorbed by the high percentage of containers returned empty to Asia on the round trip).

US Imports from China

Rising Australian bulk commodity exports reflect the disconnect between Chinese imports and exports, with vast investment in infrastructure and rising stockpiles of raw materials used to sustain economic growth. But diminishing marginal returns on further infrastructure and housing investment mean failed recovery of manufactured goods exports would lead to a hard landing.

Australian Bulk Commodity Exports

A key factor will be the strength of the RMB against the US Dollar. Ambrose Evans-Pritchard suggests that China will meet strong resistance in its attempts to export its deflation to the West. Treasury’s forex report to Congress (April 2014) highlight’s sensitivity toward further exchange rate manipulation:

In China, the RMB appreciated during 2013 on a trade-weighted basis, but not as fast or by as much as is needed, and large-scale intervention resumed. The RMB appreciated by 2.9 percent
against the dollar in 2013. However, as a result of the depreciation of the yen and many emerging market currencies, the RMB strengthened more on a trade-weighted basis, with the RMB’s nominal and real effective exchange rates rising 7.2 and 7.9 percent, respectively. For most of 2013 the RMB exchange rate was at, or very near, the most appreciated edge of the daily trading band, suggesting continuous pressure for greater RMB appreciation. During 2014, however, the exchange rate has reversed direction, depreciating by a marked 2.68 percent year to date.

There are a number of continuing signs that the exchange rate adjustment process remains incomplete and the currency has further to appreciate before reaching its equilibrium value. China continues to generate large current account surpluses and attracts large net inflows of foreign direct investment; China’s current account surplus plus inward foreign direct investment in 2013 exceeded $446 billion. The reduction in the current account surplus as a share of China’s GDP has largely been the reflection of the unsustainably rapid pace of investment growth. Finally, China has continued to see rapid productivity growth, which suggests that continuing appreciation is necessary over time to prevent the exchange rate from becoming more undervalued. All of these factors indicate a RMB exchange rate that remains significantly undervalued. Further exchange rate appreciation would help to smoothly rebalance the Chinese economy away from investment toward consumption.

The Chinese authorities have been unwilling to allow an appreciation large enough to bring the currency to market equilibrium, opting instead for a gradual adjustment which has now been partially reversed . The expectation that the RMB would continue to appreciate over time resulted in large and increasing capital inflows in 2013. The PBOC’s policy of gradual adjustment triggered expectations of continued appreciation, and resulted in large-scale foreign exchange intervention. China’s foreign exchange reserves increased sharply in 2013, by $509.7 billion, which was a record for a single year. China has continued large-scale purchases of foreign exchange in the first quarter of this year, despite having accumulated $3.8 trillion in reserves, which are excessive by any measure. This suggests continued actions to impede market determination.

In short, China has been buying US Treasurys as a form of vendor financing, allowing them to export to the US while preventing the RMB from appreciating to its natural, market-clearing level against the Dollar. The fact that they are attempting to disguise this manipulation, using third parties, means that Congress is unlikely to tolerate further suppression of the RMB against the Dollar and will be forced to take action.

Is China hiding its FX reserves in…Belgium? MT @michaellachlan A picture tells the story? pic.twitter.com/cTSwssLLKq

— Robin Harding (@RobinBHarding) May 20, 2014

Feared sales of US Treasury investments by China, leading to a collapse of the Dollar, are most unlikely and would be a death knell for Chinese exports. Reversal of capital flows would cause rapid appreciation of the RMB against the Dollar, up-ending China’s former competitive advantage and boosting US exports.

Even without a reduction of existing Treasury holdings, appreciation of the RMB against the Dollar and Euro appears inevitable. This would be disastrous for China, causing them to forfeit their competitive advantage in export markets. And without access to the level of technology and global branding enjoyed by their Western counterparts, Chinese exporters are likely to struggle to hold existing markets, let alone achieve further growth. With diminishing returns on infrastructure and housing investment, China could soon run out of options to stimulate its economy. And its path as a global economic powerhouse may well follow that of its predecessor, Japan.

May 24, 2014

Piketty Problems: Top 1% Shares of Income and Wealth Are Nothing Like 1917- 28 | Cato @ Liberty

From Alan Reynolds:

First of all, the Piketty and Saez estimates do not show top 1 percent income shares nearly as high as those of 1916 or 1928 once we use the same measure of total income for both prewar and postwar data.

Second, contrary to Summers, there is no data from Piketty, Saez or anyone else showing that the top 1 percent’s share of wealth “has risen sharply [if at all] over the last generation” – much less exhibited a “return to a pattern that prevailed before World War I.”

Dealing first with income, it is interesting that the first graph in Piketty’s book is about the top 10 percent – not the top 1 percent. Saez likewise writes that “the top decile income share in 2012 is equal to 50.4%, the highest ever since 1917 when the series start.” That is why President Obama said, “The top 10 percent no longer takes in one-third of our [sic] income – it now takes half.” A two-earner New York City family of six with a pretax income of only $110,000 would be in this top 10 percent, and they are certainly not taking “our” income. Regardless whether we examine the Top 10 percent or Top 1 percent, however, it is absolutely dishonest to compare the postwar estimates with prewar estimates.

The Piketty and Saez prewar estimates express top incomes as a share of Personal Income, after subtracting 20% to account for tax avoidance. Postwar estimates, by contrast, express top incomes as a share of only that fraction of income that happens to be reported on individual income tax returns – rather than being unreported, in tax-free savings or assets, or sheltered as retained corporate earnings.

Transfer payments are not counted as income in either series (as though federal cash and benefits were worthless); this distinction is inconsequential for the prewar figures but increasingly important lately. “Total income” as Piketty and Saez define it accounted for just 61.8 percent of personal income in 2012, down from 67 percent in 2000.

May 22, 2014

Norway teaches Britain how to choke house booms without killing economy – Telegraph Blogs

Ambrose Evans-Pritchard reports the resounding success of Norway’s central bank in using macroprudential tools to take the steam out of a housing bubble:

if the Bank [BOE] wishes to contain credit, it should learn from Norway’s success. Instead of raising rates, it has used “macroprudential” tools. It cut the loan-to-value ceiling on mortgages from 90pc to 85pc. It forced the banks to raise to capital buffers further.

The Norges Bank has recommended a 1pc counter-cyclical buffer based on its view of what constitutes a safe level of credit growth.

Contrary to claims that these tools never work, they worked splendidly, as you can see from this chart today from HSBC’s David Bloom.

The RBNZ adopted similar measures and it is puzzling why the RBA, which faces an equal threat, is not doing the same.

May 21, 2014

Is the market overpriced? Episode V

In my last post I concluded that the same factors driving rising inequality — new technologies and access to cheap labor through increased globalization — may also be driving a sustainable increase in corporate profits. While we may be understandably wary of “this time is different”, consider the following:

The rise of China as a trading partner over the last two decades.

US Imports from China

Corporate profits at 11% of GNP suggest a new paradigm when compared to the historic (normal) range of 5% to 7%.

Corporate Profits/GNP

The decline in employee compensation as a percentage of corporate value added mirrors the rise in corporate profits.

Employee Compensation/Value Added

And Robert Shiller’s CAPE, normally used to argue that the market is currently overpriced. If we stood in 1994 and looked at the range of CAPE values for the past century, we would no doubt have concluded that a CAPE value greater than 20 indicates the market is overpriced. In the last two decades, the CAPE only briefly dipped below 20 at the height of the global financial crisis. Now pundits argue that a CAPE value greater than 25 indicates the market is overpriced. Something has definitely changed.

Shiller CAPE

Whether the change is sustainable, only time will tell. But one thing is clear. Of the 466 corporations who have so far reported earnings for the first quarter 2014, 77% have either beaten (68%) or met (9%) their estimates. Corporate profits are not in imminent danger of collapse.

May 21, 2014

Is the market overpriced? Episode IV

In my last post I said that, with interest rates, tax rates and real wages at historic lows, corporations are likely to make fat profits over the next few years and stocks remain reasonably buoyant. But at least one of these factors can be expected to change.

Recovery of the housing market would cause the Fed to lift interest rates;
Revision of the tax code by a President who can work with both sides of the House; or
A dramatic fall in exchange rates placing upward pressure on wages as manufacturers regain export markets.

What I did not emphasize is that none of the above are likely to occur without a strong economic recovery — and the net effect of any change could well be a boost to corporate earnings.

What also dawned on me after reading The Inequality Puzzle by Larry Summers is that there may be a common thread. The impact of new technologies over the last two decades and access to cheap labor through increased globalization may have created a sustainable increase in corporate profits as a percentage of GNP. Could this time really be different? Only time will tell. I will be watching sales growth and profit margins over the next few years with interest.

May 20, 2014

Use land taxes to plug budget holes || Macrobusiness

Great post from Unconventional Economist (reproduced with kind permission from Macrobusiness) gets to the heart of the current budget stoush.
Land Taxes

Cross-posted from David Collyer at Prosper Australia

Sometimes, through the smoke and fireworks of the national debate a political commentator sees the path forward and points the way.

Today in the Australian Financial Review, Alan Mitchell takes a far-sighted approach to the crisis provoked by the Abbott government in its attempt to raise and broaden the GST.

The Liberal Party has long been host to the clearest thinkers on the federal system embedded in Australia’s Constitution. Malcolm Fraser tried to unravel the ‘Canberra taxes, States spend’ dilemma that divorces revenue raising from program responsibility.

Civic society demands taxes and spending be tightly linked for accountability and fair scrutiny. Transparency is an essential feature of good government.

The first Abbott/Hockey budget seeks to end $80 billion in federal transfers to the states for health and education. The game plan is to force the states to beg for a tax on food.

Mitchell has a better idea, based on the principle of subsidiarity. This directs that matters ought be handled by the smallest, lowest or least centralised competent authority. Central government should perform only those tasks which cannot be performed at a more immediate or local level. This includes taxation.

State governments have quality tax bases – they just choose to use bad taxes and blame distant mandarins in Canberra for their self-imposed weakness. Voters struggle to see which level of government is responsible for which stuff-up.

Mitchell:

“In fact, they have all the efficient tax bases they need to raise a very large share of the spending now financed by grants from Canberra.

“They just prefer not to use them. They would rather rely on federal money and complain about “vertical fiscal imbalance.”

“Vertical imbalance is largely a myth perpetuated by state politicians who would rather avoid the responsibility for raising their own taxes.

Good can come from this Abbott/Hockey confected crisis. The Premiers are under no obligation to follow Canberra’s lead and destroy their narrow political capital by assuming responsibility for raising and broadening the regressive GST.

The states could instead take up the reforms urged on them by every genuinely independent tax review in living memory.

“Residential land tax also should be revived, and the most convenient way to do that probably is for state governments to gradually transfer more responsibilities to local government.

“Local government land rates based on unimproved property values are an efficient form of land tax, and while no one would enjoy paying higher rates, increased community control of schools, for example, might be quite popular. The availability of reverse mortgages also makes it more feasible for governments to rely more on the taxation of residential land.

State governments are sovereign. They do have choices. Rather than submit to a very bad deal from Canberra, they can reform themselves – and make Prime Minister Abbott responsible for the political costs of good public policy.

May 19, 2014

Where are the Budget alternatives? | | MacroBusiness

Hats off to Leith van Onselen for his perceptive comments on Australia’s current budget stoush:

The point is, it’s fine to oppose Budget savings if you can provide an alternative plan to cut expenditure and/or raise taxes. But simply opposing measures without providing alternatives, as has been done by the opposition parties, ignores the very real structural pressures facing the Budget from falling commodity prices and an ageing population….

Some low hanging fruit that could be targeted by the opposition parties as alternatives to budgetary reform could include closing Australia’s more egregious tax expenditures – including overly generous superannuation concessions (which mostly benefit the wealthy), quarantining negative gearing so that losses from an asset can only be claimed against income from that same asset, removing the capital gains discount on investments, and removing tax concessions on company cars – as well as abolishing Abbott’s paid parental leave scheme.

Reforms to these areas alone would save many billions of dollars and improve equity in the process.

May 19, 2014

The Inequality Puzzle | Lawrence H. Summers

Larry Summers exposes the flaw in Thomas Piketty’s Capital in the Twenty-First Century. Piketty argues that inequality is rising because the rate of return on capital is higher than the economy’s growth rate.

Does not the rising share of profits in national income in most industrial countries over the last several decades prove out Piketty’s argument? Only if one assumes that the only factors at work are the ones he emphasizes. Rather than attributing the rising share of profits to the inexorable process of wealth accumulation, most economists would attribute both it and rising inequality to the working out of various forces associated with globalization and technological change. For example, mechanization of what was previously manual work quite obviously will raise the share of income that comes in the form of profits. So does the greater ability to draw on low-cost foreign labor.

Correlation does not imply causation. The fact that two events occur together does not prove that one has caused the other.

Summers also addresses whether returns on capital are largely reinvested:

A brief look at the Forbes 400 list also provides only limited support for Piketty’s ideas that fortunes are patiently accumulated through reinvestment. When Forbes compared its list of the wealthiest Americans in 1982 and 2012, it found that less than one tenth of the 1982 list was still on the list in 2012, despite the fact that a significant majority of members of the 1982 list would have qualified for the 2012 list if they had accumulated wealth at a real rate of even 4 percent a year. They did not, given pressures to spend, donate, or misinvest their wealth. In a similar vein, the data also indicate, contra Piketty, that the share of the Forbes 400 who inherited their wealth is in sharp decline.

That income inequality is rising is undisputed, but the causes are not as simple as Piketty assumes. His proposal of a progressive tax on wealth is unlikely to see the light of day: the history of inheritance taxes is an indication of their ineffectiveness. But a shift away from income taxes towards land taxes and other flat rate, indirect taxes would provide a significant boost to the economy as illustrated by the following chart from the Henry Review.

Marginal welfare loss from a small increase in selected Australian taxes

Marginal welfare loss is the loss in consumer welfare per dollar of revenue raised for a small increase in each tax (the extent of compensation required to restore consumer satisfaction reflects the distorting effect of the tax on the economy). A decrease in the level of tax, on the other hand, would be likely to produce a similar-sized benefit. So a trade off between taxes at the top of the scale and those at the bottom would be expected to deliver a substantial net benefit.

April 30, 2014

No Alan, more income tax is not the answer | MacroBusiness

Leith van Onselen comments on Alan Kohler’s support for a proposed debt levy:

The first best solution is to shift Australia’s tax base away from productive enterprise (both individuals and companies) towards more efficient sources, such as land, resources and consumption. According to the Henry Tax Review, the marginal excess burden (i.e. the loss in consumer welfare relative to the net gain in government revenue) from the GST is just 8%, whereas it is near zero for taxes on land and resources. They also compare very favourably against the two biggest current sources of tax revenue – personal income tax (24% marginal excess burden) and company taxes (40% marginal excess burden) – offering the nation large productivity pay-offs from fundamental tax reform.