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What We Read Today 18 August 2014

Econintersect: Every day our editors collect the most interesting things they find from around the internet and present a summary "reading list" which will include very brief summaries (and sometimes longer ones) of why each item has gotten our attention. Suggestions from readers for "reading list" items are gratefully reviewed, although sometimes space limits the number included.

  • Fed blow to banks over ‘living wills’ (Gina Chon, Financial Times) The Financial Times has obtained information about confidential letters sent to banks by the Fed and the FDIC on 05 August when they rejected a number of drafts of "living wills". The specific guidance included prohibition of assuming access to the Fed discount window when the bank faced failure.

From the Financial Times:

Critics say that instead of creating an environment for an orderly resolution that would avoid the kind of panic that ensued after the failure of Lehman Brothers, regulators are creating more risk by making a bank's failure theoretically inevitable. They added that the prohibition defeats the purpose of the discount window and the role of the Fed as the lender of last resort.

"How are you supposed to write these living wills if the assumptions regulators are making are false and inaccurate?" asked one US commentator. "They are disconnected from what would happen in the real world."

But the Fed and the Federal Deposit Insurance Corporation, which are under pressure to avoid government bailouts in any future crisis, want to force the banks to come up with emergency plans that do not involve any government aid, even when it comes to the discount window, which is available only to banks that are in trouble rather than failing.

Econintersect: Apparently the banks are trying to treat the living wills as bailout prescriptions whereas the intent should be to describe an orderly process of conducting final rights (dissolution or reorganization).

  • Campaign against Scottish independence suffers narrowing of poll lead (Mure Dickle, Financial Times) As the late September vote approaches the support for separation of Scotland from England appears to be gaining support. Earlier this month a poll showed the vote against separation favored by 56% to 44% for. Two polls announced over the weekend shows a narrower majority. One was 55% to 45% and the other 52% to 48%.
  • Humanity May Face Choice by 2040: Conventional Energy or Drinking Water (knarf, Doomstead Diner) Several studies have projected that the growing use of water in energy production (especially cooling for electricity generating plants) and the need for water for human consumption are racing toward a saturation point where available water becomes insufficient. There is about a quarter of a century before the planet hits the wall based on current research.
  • How to Pay off Your Debts (Cina Coren, Daily Forex) Many ways people try to get out of debt are outright mistakes, according to this author, a former Wall Street broker and financial advisor. Her recommendations are quite simple and solid - everyone can do what she suggests but many don't try.
  • What Is the Price of Perfect Equality? (Shannon Chamberlain, The Atlantic) Some of the best analyses lie not in the field of economics, but in books like The Giver—dystopian tales sitting on shelves marked Young Adult. If you dislike inequality you may find that you would like perfect equality even less. It is a possible only in a world where all individual options are determined by formula and some sort of dispassionate "ruling council". Econintersect suggests that inequality has its "benefits" to society as well as its "penalties". Can one reduce the penalties without also reducing the benefits? Be careful what you wish for.
  • WPI to average 5.4 p.c. in FY15: Barclays (The Hindu) A Barclays research report estimates that inflation will change only modestly in India for 2015, with wholesale price slightly higher and consumer prices moderately lower. Wholesale inflation (WPI) is likely to average around 5.4% and CPI (Consumer Price Index) should be between 7% and 7.5%. In July WPI was 5.19% and CPI was 7.96%.

There are 14 articles discussed today 'behind the wall'.

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  • What's the Cheapest Form of Media Entertainment? (Derek Thompson, MSN News) The next time you complain about the cost of basic cable services, refer to this chart. Of course the analysis makes no attempt to normalize cost by perceived benefit. For example, one might enjoy HBO ten times as much as basic cable programming and the cost per hour is "only" 4.7x as much. Does that make HBO a bargain for you?

The tiny note at the bottom says: "Excludes advertising and alternative revenue, except for Hulu."

The United States stock market looks very expensive right now. The CAPE ratio, a stock-price measure I helped develop - is hovering at a worrisome level.

I wrote with some concern about the high ratio in this space a little over a year ago, when it stood at around 23, far above its 20th-century average of 15.21. (CAPE stands for cyclically adjusted price-earnings.) Now it is above 25, a level that has been surpassed since 1881 in only three previous periods: the years clustered around 1929, 1999 and 2007. Major market drops followed those peaks.

The CAPE was never intended to indicate exactly when to buy and to sell. The market could remain at these valuations for years. But we should recognize that we are in an unusual period, and that it's time to ask some serious questions about it.

  • Combating Inflation in Retirement (Bruce W. Fraser, Financial Planning) Don't invest with the assumption that today's low inflation will last forever. (That would be behaving too much like an economist.)
  • The Beveridge Curve hysteresis and the long-term unemployed (Walter Kurtz, Sober Look) Hysteresis is a phenomenon seen in physical processes where the result of increasing a variable produces a different result than the effect of decreasing that variable. See Wikipedia. Kurtz proposes that this occurs for two reasons: (1) employer uncertainty about the future (cyclical factor) and (2) available labor has the wrong skills for the jobs that are available (structural factor). We have discussed this curve before, as well as a related relationship, the Phillips Curve (see next article). But it constitutes macroeconomic relationships that are not effectively integrated into the thinking of many - so we keep coming back.


  • Inflation and Unemployment (Andrew server at Carnegie-Mellon University) There are times when the observations by A. W. H. Phillips of the historical inverse relationship between inflation and unemployment (1861-1957) have been observed in the years since 1958 and times when it has not. See Phillips Curve (Kevin D. Hoover, The Concise Encyclopedia of Economics, Library of Economics and Liberty). As the following animated graphic shows, though, the last 55 years reveal that the "Phillips Curve" should be renamed to the "Phillips Journey". (Andrew server attributes this animation to Brad DeLong, but does not supply a link.)


  • Risk allocation must replace asset allocation (William G. Ferrell, Pensions & Investments) Hat tip to Deborah Fuhr, ETF Network Discussion Group, LinkedIn, who also has contributed to GEI. On the surface this seems like an argument for a particular systematic market timing process. We will have to study in depth and follow further to understand any differences that make it more like what is commonly thought of as allocation. What is very interesting about this is that Ferrell is trying to react to short-term shifts in correlation. This is a factor that is very damaging at times to returns from traditional asset allocation methodologies. So we suggest that Ferrell is on the right track - we just haven't studied this enough to determine if he is on the right train. Below are correlation plots for typical low volatility and high volatility portfolios. Both the parameters (volatility and correlation) can experience dramatic short-term shifts which are not recognized in traditional asset allocation processes.


  • US homeowners stay unemployed for longer (Ahmat Ali Taskin, Lindau Nobel Laureate Meetings) Home ownership correlates with longer unemployment. The inference is that owning a home anchors an individual and moving to find a new job is reduced.
  • Europe’s Greater Depression is worse than the 1930s (Matt O'Brien, The Washington Post) The weak recovery of France and Germany have masked the Eurozone depression now approaching the completion of its seventh year with apparently many more years to run. Once the depression extends into 2015, which is quite certain, the duration will exceed the seven year Great Depression in the United States. For why the U.S. may not have followed, see last article below.


  • China Home Prices Fall in Majority of Cities on Weak Demand (Bonnie Cao, Bloomberg) New home prices fell in 64 of 70 major Chinese markets in June. The volume of home sales (new plus existing) fell 28% month-over-month in July, the largest monthly decline in 2014. Prices are still up year-over-year in many markets but have been falling for most of 2014. This article quotes some analysts who predict the decline will become a crisis of the proportion of the 2008 Lehman Bros collapse unless the government intervenes.
  • China's bad case of data blues will test Beijing (Peter Cai, China Spectator) Except for exports almost everything else looked weak in the Chinese economic data releases in July. Peter Cai wonders how long Beijing will be able to resist the temptation to unleash a large stimulus program - "especially if the data gets worse". Econintersect: The point that Cai doesn't mention is that the data must get worse if China is going to rebalance from massive investments driving the economy, along with large trade surpluses, to a greater proportion of the economy being domestic consumption, especially household consumption, which is a global low of 35% of GDP according to Michael Pettis. Pettis has estimated that to rebalance to 50% plus of the economy being household consumption, which is where most of the world's developed economies are, would require China's GDP to grow less than half the current rate. The problem here is that commercial and business debt in China is greater than the rest of the world and servicing that debt has been predicated on the continuation of high growth rates. GDP growth below 5% would be very stressful to the financial structure of the country. Beijing must walk a tightrope here to get where they want to go without destroying what they have already.
  • America's Shale Oil Renaissance Came Just In The Nick Of Time (Rob Wile, Business Insider) Just as the Great Recession hit its depths in 2009 U.S. crude oil production from shale started to increase. Was this an important factor that kept the U.S. from getting sucked into the Greater Depression of Europe? (See Matt O'Brien article earlier.)


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