Putting the F Back in Fatherland

Age of Wisdom, Age of Foolishness (19)

Written by Adam Whitehead, KeySignals.com

Fatherland, Homeland and Motherland

Homeland, Fatherland or “Muti”land?

Vote Fatherland or Motherland?

In Age of Wisdom, Age of Foolishness “Putting the F Back in the Federal Reserve” it was observed that Liberal Democracies have evolved conspiracies to deal with Dictatorships^[i]. A classic illustration of this observation is currently evinced in Ukraine and Crimea.

“So you see,my dear Coningsby, that the world is governed by very different personages from what is imagined by those who are not behind the scenes.” (Sidonia)

The “New Generation” in Ukaine is led by an unbelievable Unholy Trinity of a Jewish Prime Minister, a Neo-Nazi and a Germanophile ex-pugilist.

The Good, The Bad and The Ugly

Each shady character provides great material for conspiracy theorists of all political persuasions. Such an implausible Unholy Trinity is either a sign of true Democracy or evidence of one of the greatest conspiracies yet. This Unholy Trinity also provides plausible denial to connections of each individual with any infamous unattributed acts in the crisis.

Further scope for conspiracy theorists has now been provided as the smoke clears above the “grassy knoll” in Maidan Square; and speculation begins about who really killed the “Heavenly Hundred”. Controversy began when it became known that a former IDF Special Forces operative named “Delta” was leading the most “Spartacist” of the street fighters in the square^[ii].

The Controversy increased when an intercepted phone call, between Estonian Foreign Affairs Minister Urmas Paet who had just been in the Ukraine and EU Foreign Affairs chief Catherine Ashton, came into the public domain. Paet could be heard telling Ashton that it was not Ukrainian President Viktor Yanukovich who was behind the sniper killings of people in the Maidan; “but it was somebody from the new coalition”^[iii].

One can imagine Ashton wriggling with embarrassment, at the thought of having to explain the phone call with Urmas Paet to the Russians if and when she meets them. One senses that the Russian silence and also Ashton’s lack of denial of this phone call have effectively “compromised” the EU’s moral stand in Ukraine. Such “compromise” is no doubt part of a real compromise between Russia and the EU.

“Shah Mat” Ms Ashton

Ashton’s next mission was to Tehran, to try and turn the tentative agreement between the EU and Iran into something permanent and meaningful^[iv]. This mission was then accused of hypocrisy by Prime Minister Netanyahu; from Los Angeles where he accused the West of double standards for failing to acknowledge the interception of Iranian missiles bound for Gaza^[v]. How will Ashton not look like an even bigger hypocrite when she tries to elicit Russian support for the EU initiative with Iran? Clearly a compromise by the “compromised” Ashton is now required. Just as Obama found himself “Shah Mated” (check mated) by Russia in Age of Wisdom, Age of Foolishness (18)“ Beyond the Pale”, the EU now finds itself in a similar position on the same Cold War chessboard that allegedly does not exist any-more.

Even more controversial was the information that two Iranians with stolen passports were on-board a Malaysian Airlines plane, which mysteriously vanished last weekend^[vi].  Al Jazeera was then swift to allege that Iran was behind the Lockerbie bombing^[vii].  The dotted line between Iran and the missing Malaysian Airlines plane was thus pencilled in.

The apparent confluence of all these events is undeniable; as is the fact that the Middle East Peace Process is now dead and the re-engagement between Iran and the West is still just about alive. Skeptics will say the confluence is coincidental; and not causal. Conspiracy theorists will say the probability of all these events happening together is too low to be anything other than by design. Causality is in the eye and mind of the beholder. It was observed in Age of Wisdom, Age of Foolishness “‘Putin’ the F Back in CFR”, that President Putin was the riddle, inside the mystery wrapped in the enigma who was common to all events^[viii]. Going forward, skeptics and conspiracy theorists will get to see just how common and important he is.

To occupy the moral high ground, when promoting Democracy, America is now going through the embarrassing makeover of addressing its failings in relation to torture. This exercise has proven to be somewhat more difficult, since the behaviour of those doing the torturing was unconstitutional. It is imperative however for America to do all this image rebranding in the international spotlight, to avoid further claims of hypocrisy from putative dictators. Relations between Congress and the CIA therefore hit an all-time low, when it was found that the style gurus behind this rebranding of Democracy were themselves being “surveilled”, by the agency that is not constitutionally allowed to “surveil” Americans on their own soil^[ix].

Neither side should have bothered, as surveys show that this is the least of Americans’ worries.

Americans Slightly More Upbeat About Country’s Direction

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A recent Gallup Poll suggests that 75% of Americans are dissatisfied with the Economy. A recent Bloomberg Poll found that whilst the nation was split on Obama’s performance, that nearly 70% agreed with the minimum wage hike^[x]. It is therefore no surprise to see that both parties have adopted the Alexandre Ledru-Rollin style of leadership; and decided to follow the people who they are supposed to be leading. In the absence of conspiracy to motivate the crowd, the leadership must then follow it blindly.

Unfortunately however, crowds never know when to stop once their inertia has been overcome; and always demand to have (and always end up getting) too much of a “good thing”. This “good thing” would seem to be price inflation; after the monetary inflation from QE is transferred from, where it can do no inflationary damage in financial assets, on “Wall Street” to “Main Street” where it will wreak havoc ultimately. All that is missing from the policy leadership’s repertoire are cheesy commercials with Creedence Clearwater Revival’s “Fortunate Son” playing in the background.

“It ain’t me, it ain’t me
I ain’t no millionaire’s son
It ain’t me, it ain’t me
I ain’t no fortunate one, no”
(Creedence Clearwater Revival)

This abrogation of leadership style conforms to the “Robin Hood” policy observed in “‘Putin’ the F Back in CFR”, in which income redistribution is engineered via the tax code^[xi]. No prisoners are being taken on “Wall Street” either, as wealth is transmitted to “Main Street”. The latest plans to wind down the Federal involvement in Fannie and Freddie, in effect expands this Federal Involvement (and compensation) at the expense of the private investors who have hitched a ride by acquiring common equity in the two during the bailout process^[xii]. It has been instructive to watch the more hawkish FOMC members dancing uneasily to this tune of wealth redistribution, which is being echoed by an accommodative Fed. Richard Fisher gave the first signal of unease and impotence in the face of this new bipartisan fiscal agenda^[xiii].

More recently Charles Plosser signalled that the Fed would be complicit in enabling this monetary transfer, using the fiscal agency of the tax code, when he conceded that the Taper would be stuck at $10 billion a month when it should actually be accelerating^[xiv]. The fear of this complicity was palpable in the BIS’s latest communique in relation to central bank forward guidance^[xv].

The BIS is concerned that the inherent equivocation, involved in forward guidance, allows the central banks room to remain easy whilst talking future restrictive policy; which may never come once the markets have transmitted these restrictive words via higher interest rates to the real economy. Central banks have been called out as being “all words and no action”, or “all hat and no cattle” in Richard Fisher’s manor, when it comes to the removal of quantitative easing. The BIS was originally unconcerned about this verbal monetary policy zero-sum game; until it got a hint that inflationary fiscal policy, enabled by accommodative central bank policy, was imminent. Having been happy with forward guidance, when there was fiscal contraction, the BIS has now aggressively reversed its position in the light of imminent inflationary fiscal policy action.

A Holistic Chinese Peoples’ Congress

China’s “holistic” People’s Congress provided further signals that a hard landing should be viewed as a soft landing; as the policy makers deflate the “Shadow Banking” bubble and the misallocation of resources that it has created. Premier Li tried to frame the volatility by saying that growth targets would now be “flexible” going forward^[xvi]. To illustrate his logic, a speech was made on a day that official data showed falling industrial production and retail sales.

Latest data confirm China slowdown

Commentators were supposed to see “flexibility”; in practice they chose to see a bursting credit bubble^[xvii]. Bill Gross’s “dubious” Chinese pork is starting to smell bad. Consequently, JP Morgan and Goldman’s big “Team America” call of two weeks’ ago, to get long China, unravelled very swiftly^[xviii]. The final call to arms from the leadership however, provided tenuous room for long term optimism. Whilst the Mandarins were being given their new balanced scorecard, by which their performance (and hence promotion) will be evaluated in the future, President Xi gave the strongest hint that individual political advancement will be accelerated for those who are going “Green”^[xix]. By doing so, President Xi signalled that future Chinese economic growth will be congruent with environmentally sustainable investment.

One can therefore see that the next phase of growth, which JP Morgan and Goldman heralded, is contingent upon the transformation of the economy to one that is economically and environmentally sustainable. After the JP Morgan/Goldman bounce has collapsed, real fundamental value will then be found again for those who believe in President Xi’s intentions and capabilities in relation to sustainability. It is undoubtable that China is now in the liquidation phase of bad debt in its credit cycle. It does however have a significant foreign exchange surplus to act as a cushion against the more painful adjustments, as are being felt by other Emerging Nations. China will therefore pass through this phase with some pain, but nothing terminal. It will then emerge leaner, more focused and literally much healthier. As the speculators throw out the baby with the bathwater, it is worth bearing all this in mind when looking for value.

It is also worth bearing in mind that at some stage the more Dovish members of the FOMC will start to opine the headwind from China as a reason to blow away the “Taper” and to consider more stimulus. “Team America” has already established that it attaches great significance to the situation in China; and that this situation is an opportunity for capital gains. The Fed must therefore make good on its bargain with “Team America”; and deliver the liquidity upon which these gains are predicated.

“Beggar Thy Neighbour Tightening”

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Stanley Fischer is currently going through the formal process of confirmation; however once confirmed he has signalled that his experience with Emerging Markets’ crises will be useful in the current conditions^[xx].

Age of Wisdom, Age of Foolishness (Part 16) “The Quiet American” March 4th 2014
“I never knew a man who had better motives for all the trouble he caused.”
― Graham Greene, The Quiet American

The “Quiet American” Nathan Sheets is already operating at the Treasury^[xxi].

Bloom Raskin Redefines the Employment Mandate March 24th 2013
“Gatsby” Confirmed

It has now been confirmed that he will be joined by, the not so quiet American on the subject of Unemployment, Sarah Bloom Raskin; most recently of the Fed, who will now become the number two at Treasury. Readers are reminded to re-read Bloom Raskin’s self-defining speech dated March 22^nd 2013, when she was at the Fed^[xxii]. This speech was entitled “Focusing on Low- and Moderate-Income Working Americans”. The speech was basically a re-interpretation of the Fed’s Employment Mandate^[xxiii], to specifically focus on “Low and Moderate Income Working Americans”. The title says it all. They are not unemployed, they are just poorly compensated.

All this resonates with other Fed speakers who have been opining that the level of unemployment is no longer what matters. The Evan’s Rule is dead; and the Helicopter is on its way. The Employment Mandate has thus become the Compensation Mandate. Bloom Raskin therefore advocates giving them a pay rise. Since they don’t work for her, the only way to do this is through the tax code; hence she is off to Treasury to do this rebalancing. We would say that she was referring to the “Middle Class”, a nebulous and emotive cause which the Obama Administration subsequently adopted; and we discussed in Terminal Velocity (15) “Gatsbied” on July 18^th 2013^[xxiv]. We are now at the point where the “Middle Class” gets “Gatsbied” via the tax code. Clearly Bloom Raskin is a key individual in this process; and clearly her old employer is a key agent in enabling the wealth transfer implicit in the policy execution. As we have stated, this is our Helicopter. It has all the hallmarks of the permanent creation of money in selected individuals’ accounts, recommended by Michael Woodford at Jackson Hole in 2012^[xxv]. It was also noted that Janet Yellen became a late convert to this strategy in April 2013^[xxvi].

The Committee to Save the World (II) September 16th 2013
“Now and Then”

The Committee to Save the World is just finding its feet, with some new personnel^[xxvii]. The conditions precedent upon this global salvation, involving Russia and Asia (again!!!), are already unfolding. It’s déjà vu all over again for those who were involved in the markets back in 1997 when it all started to unwind. The monetary reaction to this unwinding created the “Dot.com Bubble”; so it pays handsomely to buy the dip when Emerging Markets take everything down with them. On the European front, all is not going exactly to plan though.

“Team America” has thus far on day six made limited progress, in recreating “Team Europe” in its own image, before it breaks for the weekend rest. “Team America” has therefore responded with mendacious flattery, which suggests that “Team Europe” is already a “Team America” clone with European idiosyncrasies attached. One such idiosyncrasy is the European Central Bank settlements system known as Target 2. Target 2 balances the national central bank trade debits and credits at the ECB. Initially this settlement system allowed the Bundesbank to amass large credits against trading partner debits; as the Eurozone fixed exchange rate system gave German industry a competitive export advantage.

During the European Sovereign Debt Crisis, Target 2 enabled further capital flight from the “Periphery” to the Bundesbank. Mario Draghi’s use of the OMT facilitated this transfer, by allowing national central banks to hold their own sovereign debt; which could then be used as collateral to borrow from the ECB in order to credit the Bundesbank’s account at the ECB. Having extracted as many Euros as possible from the “Periphery”, Germany then informed that these countries taxpayers should pay for the debts run up by the national central banks in order to enable the capital flight. Originally these taxpayers were the consumers who created the first German trade surplus. Secondly, these consumers became the taxpayers who would now have to finance capital flight to Germany from their national central banks. Justifiably these consumers/taxpayers turned on their own politicians for failing to protect their financial interests in the way that German politicians protect their own people.

The Bundesbank was silent on the perversely destabilising mechanism of Target 2, whilst the Euros flowed to its own account at the ECB in Frankfurt. Germany effectively has physical as well as book-entry custody of this Euro surplus. The New York Fed, never one to be shy about central bank enabling of monetary excess in the name of economic stimulus, was fulsome of its praise for Target 2 in a recent report entitled “The Balance of Payments Crisis in the Euro Area Periphery”^[xxviii]. This mendacious report identified all the destabilising features of Target 2 as blessings and salvation. It seems more like a case of engineer the crisis to provide the solution. Said solution hiding in plain sight as the original cause known as Target 2. It is a great piece of rhetoric, even if it falls down as a rational intellectual critique of a clearly failed economic system.

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Target 2 is “Team Europe’s” equivalent of the Fed’s QE programme, if the New York Fed is to be understood correctly. The implication, of this fulsome praise, is that going forward Target 2 should be used as a Pan-European monetary stimulus programme, rather than just a mechanism for enriching Germany’s intra-Eurozone current account surplus.

As Mario Draghi looks around for new unconventional policy tools to stimulate the contracting credit picture, he is being directed to Target 2 by the New York Federal Reserve. To be effective however there must be some debt instrument, rather than trade finance instrument, available that creates economic growth within a nation to which Target 2 can be applied. Thus far, Target 2 settles inter-nation trade receipts only, which effectively transmit all Eurozone growth to Germany ultimately.

Recent economic data has shown a small modicum of European growth, which is translated into a much larger modicum of German economic growth. Target 2 is a valve which sends liquidity and hence economic growth to Germany.

If Target 2 settled direct investments, a solution would have been found to recycle the Euro surplus from Germany to stimulate growth in the rest of the Eurozone.

Germany’s current account surplus within the Eurozone would then become a capital account surplus. German Euros would be recycled, so that it held the promises to pay debts by its trade partners rather than their promises to pay for German goods. Recent discussion, at the EU level, has focused on the National Development Banks within Eurozone countries; and how they can be engaged to stimulate the growth of credit.

Making the cross border liabilities they create a focus of Target 2, would be a neat solution. In effect, the ECB would then be monetising the capital accounts, rather than the current accounts, of member nations. This would then be a new take on the current issue of Bank Mutualisation which is being so hotly debated. We will watch closely to see how this debate evolves into policy action.

The big question is whether the Germans will opine that this represents a breaking of the rules on deficit monetisation. They were happy to allow it when this monetisation involved the private debts of citizens which financed the purchase of German goods; which no doubt Draghi (and the New York Fed) will remind them of.

Target 2 facilitated a balance of payments crisis in Europe. The Germans were careful to make sure that the ECB was allowed to monetise balance of payments deficits; as long as this was not connected directly to the budget deficits, which were created as a consequence of the nation states having to stand behind their private citizens’ debts to their banks when they defaulted.

Commentators have always agonised over defining the Eurozone Crisis as either a liquidity or a solvency crisis. This comes about as an inherent failure to understand the mechanism of Target 2, which flexibly interchanges a balance of payments crisis for a debt crisis. Target 2 makes the liquidity crisis and solvency crisis the two faces of the same thing. Dogmatic economists lack the flexibility inherent in Target 2.

One suspects that Draghi is about to make this duality abundantly clear, in a way that his predecessor Trichet was afraid to do. It is a brave thing to do, because it is admitting that Target 2 and hence the Eurozone itself was constructed in error; or perhaps by design as some conspiracy theorists would opine. This admission calls into question the very reason to exist for the Eurozone; and also tramples the legacies of those who are still alive today that have upheld it. There are signs of push-back from Germany growing already; which suggests that this issue will indeed be the next battle. Already Mr Schaeuble has suggested that European interest rates are too low^[xxix].

Higher interest rates would make it expensive for Peripheral nations to finance their capital accounts through Target 2. Schaeuble’s demand for higher interest rates, clearly illustrates that Target 2 is a valve which sends liquidity and growth to Germany. Germany then responds by demanding an interest rate environment which would further erode the competitive position of other Eurozone economies; and would in effect make the valve mechanism of Target 2 even more powerful.

The Hawks at the Core of the ECB also signalled that a great internal policy debate is about to commence^[xxx]. Jens Weidmann and Klaas Knot, disguised their intentions by opining that deflation is not a current threat which requires stimulative policy action. They could have left it at that; however they gave the game away, through qualifying their opinion by accepting that the ECB has run out of unconventional policy tools, should it need them in the future. They then dug themselves into the trenches, for a war of attrition with Mr Draghi, by opining that further unconventional tools tested the legality of the ECB’s mandate.

It doesn’t take a genius to see that a new wave of unconventional policy is under consideration by Draghi. Since the Hawks have used the word “legality”, this can only mean that the new unconventional policy may be interpreted as breaking the ECB’s legal directive not to monetise budget deficits. Target 2, as this unconventional tool, is an obvious place to look for “legally” questionable unconventional policy. The Fatherland does not want its adopted children to mature into financially independent adults. Let’s see what kind of conspiracy the Liberal Democracies have evolved, in relation to Target 2, in order to overcome the dictatorship of Germany.

One could easily argue that a system which by design and default upholds one nation above all others is itself illegal. Germany’s assertion that deficit monetisation is illegal, therefore becomes a minor misdemeanour in comparison to the greater crime.

References

1. Age of Wisdom, Age of Foolishness (15)
2. In Kiev, an Israeli army vet led a street-fighting unit
3. The Vineyard of the Saker
4. EU foreign policy chief Catherine Ashton makes first visit to Iran
5. Israel’s Netanyahu slams world community for ‘hypocrisy’ over Iran
6. Two Iranian men identified as stolen passport holders on missing Malaysia Airlines flight
7. Lockerbie bombing ‘was work of Iran, not Libya’ says former spy
8. Putting the ‘F’ in CFR
9. Obama battles to contain CIA-Senate feud in wake of Feinstein accusations
10. Americans Split on Obama as 69% Back Minimum Wage Hike
11. Putting the ‘F’ in CFR
12. Fanny and Freddie shares plunge on Senate bill
13. Putting the ‘F’ Back in Federal Reserve
14. Fed’s Plosser Sees High Bar for Change in Tapering Pace
15. Forward Guidance Risks Stoking Instability, BIS Says
16. China’s Growth Target Flexible, Li Says
17. China Data Show Economy Cooling
18. China Data Show Economy Cooling
19. Chinese Cadres Told Going Green Rivals GDP to Rise in Party
20. Beggar Thy Neighbour Tightening June 14th 2013
21. Age of Wisdom, Age of Foolishness (Part 16) “The Quiet American” March 4th 2014
22. Speech
23. Bloom Raskin Redefines the Employment Mandate March 24th 2013
24. Terminal Velocity (15) – “Gatsbied”
25. Terminal Velocity (4) – “Bernanke’s Helicopter Landing At Jackson Hole”
26. Speech
27. The Committee to Save the World (II) September 16th 2013
28. The Balance of Payments Crisis in the Euro Area Periphery
29. German finmin says interest rates too low for medium term
30. ECB hawks play down deflation risk and need for policy action