Second summer crisis on financial markets

Panic selling of shares in Spain as country's bond yields go above 7.5%

Big falls on world financial markets as fears grow of second successive eurozone summer crisis

the Guardian,

23 July, 2012

Spain announced tough curbs on the short-selling of shares on the Madrid stock exchange on Monday after fears of a second successive summer crisis for the eurozone triggered big falls on the world's financial markets.

Interest rates on US Treasury bonds dropped to levels not seen since the 19th century as investors sought safe havens in anticipation that Greece would be the first country to exit the 17-nation single currency area.

Madrid announced that it would ban short-selling – the process whereby dealers sell shares they do not have in the hope of buying them back more cheaply later – after the interest rate on 10-year Spanish bonds rose to 7.59%, a level unprecedented since the birth of monetary union more than a decade ago.

Speculation that Spain will become the fourth eurozone country after Greece, Portugal and Ireland to require formal assistance from the International Monetary Fund (IMF) and the rest of Europe sent share prices tumbling by 6% in early trading.

Other European bourses were also gripped by panic selling – Italy also announced a short-selling ban – as it became clear that more Spanish regions, including Catalonia, would follow Valencia in asking for financial help from Madrid.

Nick Parsons, of National Australia Bank, said: "It looks as if we are in for another August crisis. The question for Europe is whether things have got better over the past year, and the answer is no. Very little progress has been made."

Markets were also unsettled by reports that the failure of Greece to stick to its austerity programme will lead to the IMF cutting off support.

The IMF said it was still working with Athens to get the programme back on track, adding that its officials would be arriving in Athens on Tuesday for talks with the coalition government.

Reports from Berlin suggested that the mood in Germany is hardening towards providing any more assistance to Greece unless fresh austerity measures are both agreed and implemented.

Markets fear that in the absence of bailout cash Greece could be unable to pay its debts by the middle of next month.

Spain's emergency action to ban short-selling led to a late rally in share prices, although analysts warned that the respite was likely to prove temporary.

Spain's borrowing costs soared higher on Monday, taking it closer to a dangerous national bailout as concern switched from the country's ailing banks to its struggling regional governments.

The IBEX index in Spain closed 1.1% down on the day, registering smaller falls than in Germany's DAX (3.2%), France's CAC (2.9%) and Italy's FTSE MIB (2.8%).

In London there was not a single gainer in the FTSE 100, which closed 2.1% lower after a fall of more than 117 points.

New York's Dow Jones Industrial Average was down more than 100 points by lunchtime, while fears that Europe's recession-hit economy would drag down global growth led to a drop of $3 a barrel in the price of oil.

Spain's finance minister, Luis de Guindos, was adamant on Monday that his country would not need to ask for more outside help following the decision by last month's European summit to provide €100bn (£78bn) for Spain's banks. De Guindos, who will travel to Berlin on Tuesday for talks with Germany's finance minister, Wolfgang Schäuble, said: "Markets are overreacting."

Jonathan Loynes, of Capital Economics, said: "It looks almost certain that Spain will need a sovereign bailout as well as a banking package.

"People were hoping that the eurozone crisis would die down over the summer and we could all forget about it until September. It doesn't look like that."

Analysts estimate it would cost at least €300bn to bail out the eurozone's fourth-largest economy for the next two and a half years, with estimates going as high as €400bn.

European commissioner Joaquin Almunia suggested on Monday that Spain should try to activate the recently-approved bond-buying powers of the eurozone's rescue funds.

De Guindos is likely to repeat Spanish pleas for pressure to be put on the European Central Bank (ECB) for it to buy Spain's debt and help push down yields.

"Spain right now is the breakwater in the current uncertainty surrounding the euro. But this goes beyond Spain," De Guindos said, adding that the country had done its part by approving economic reforms.

ECB president Mario Draghi said in a Sunday interview in France's Le Monde newspaper that buying sovereign bonds was not part of his job.

The Bank of Spain, meanwhile, confirmed on Monday that Spain's double-dip recession was getting worse. The country's economy shrank by 0.4% in the second quarter, compared with 0.3% in the first three months of the year.

A €65bn austerity package approved earlier this month has not calmed markets and is expected to deepen Spain's double-dip recession even further.

The government now believes recession will extend into next year, with the economy shrinking another half a percent in 2013. Spain's 24% unemployment rate is also thought to be set to remain steady until well into next year.

Louise Cooper, of BGC Partners, said the €100bn package agreed for Spain's banks would not be nearly enough to deal with the country's debt problems. "I think the austerity package is the last thing Spain needs at the moment," she said.

Eurozone danger mounts as Spain spins out of control

Spain is battling to avert a fully-fledged sovereign rescue after borrowing costs spiralled out of control, with dangerous knock-on effects in Italy and Eastern Europe.

Ambrose Evans-Pritchard,

the Telegraph,

23 July, 2012

The yields on closely-watched two-year debt surged by 78 basis points to a modern-era high of 6.42pc, leaving it unclear how long the country can continue funding itself. Italy’s two-year yields vaulted to 4.6pc.

“We can’t keep going like this for another 15 days,” said Prof Miguel Angel Bernal from Madrid’s Institute of Market Studies. “The European Central Bank has to bring out its heavy artillery.”

Andrew Roberts, credit chief at Royal Bank of Scotland, said the dramatic spike in short-term borrowing costs marked a key inflexion point in the crisis, replicating the pattern seen in Greece, Ireland and Portugal as they lost access to market finance. “We are fast approaching the endgame,” he said.

Exchange clearer LCH Clearnet raised margin requirements on both Spanish and Italian bonds, a move that will automatically cause further selling by some funds.

Confidence has evaporated since Germany effectively blocked plans for the European Union bail-out machinery to recapitalise the Spanish banking system directly, as originally announced after the EU summit deal in June.

The EU’s €100bn (£78bn) package will be a loan to the Spanish state. This fails to sever the fatal link between banks and vulnerable states, each pulling the other down.

The mood has gone from bad to worse as Spain’s regional governments line up for internal rescues, with Catalonia preparing a €3.5bn bail-out request following moves by Valencia and Murcia in recent days. The regions must roll over €15bn of debt by the end of the year.

The Spanish newspaper El Confidencial reported sources close to premier Mariano Rajoy complaining bitterly that the crisis engulfing Spain was a “failure of the whole European Project and the incompetence of its leaders”.

There is deep shock in government circles that the €65bn austerity package passed by the Spanish parliament last week amid bitter protests across the country – and imposed by the EU – has failed to make any difference.

El Confidencial said the Rajoy team was thinking of “putting on the table” a possible withdrawal from the euro, a dramatic escalation in the game of brinkmanship between the eurozone’s Latin bloc and German-led creditor core.

“We would have our own currency again and restore competitiveness. It would have some disastrous consequences at first, but we would regain control over our own policies and we would escape from the crisis sooner,” a government source reportedly said.

Spain has enough funds to muddle through into the autumn, but it is under mounting pressure from the EU authorities to swallow its pride and accept rescue to halt contagion to Italy, where bond yields are testing danger levels.

Joaquin Almunia, the European Competition Commissioner, said the proper course of action at this stage was direct purchases of Spanish debt by the eurozone bail-out fund (EFSF). “Spain can’t do this alone,” he said.

The surge in Spain’s short-term yields adds another twist to the banking crisis, a cost that now falls on the state. Spanish banks borrowed €315bn from the ECB under the long-term refinancing operation (LTRO) and “parked” a large chunk in Spanish two-year to five-year sovereign bonds until they need the money to cover their own debt rollovers.

While this so-called “carry trade” helped to stabilise the Spanish bond market for a few months during an exodus by foreign investors, it has now backfired badly. The two-year bond has shed 9pc in face value since the second LTRO in February, leaving the banks heavily under water. “This has turned into an unmitigated disaster. They will have to crystallise these losses when they sell,” said Mr Roberts.

The latest Fiscal Monitor by the International Monetary Fund has pencilled in public debt to GDP of 96pc in Spain by next year, up from 84pc just two months ago – a sign of how quickly the situation is snowballing out of control.

Gary Jenkins from Swordfish said the EU may be able to “rustle up” just enough money to finance an EU-IMF Troika rescue for Spain – probably around €400bn – but Italy is too big to handle.

The existing EU bail-out fund (EFSF) is down to about €160bn after covering the needs of Greece, Ireland, Portugal, Cyprus and the Spanish banks. The new permanent fund (ESM) will have €500bn, but is facing a challenge in the German constitutional court. It is far from clear whether these funds can raise large sums on the open market at viable cost.

Mr Jenkins said the fire must be contained before it reached the next big country, either by massive ECB intervention or full fiscal union. Germany is still blocking both. “The battle for Spain is already lost. The battle for Italy has begun,” he said.

Towards the Greek elections

Countries across world gird for Greece turmoil

 The threat of turmoil sweeping across global markets next week if Greece's election prompts a panicky flight of money from the euro zone has policymakers from Beijing to Zurich preparing to protect their currencies and economies from an unwelcome influx.

Reuters,

14 June, 2012

Swiss National Bank President Thomas Jordan is among the most vociferous, dangling the threat on Thursday of imposing capital controls to stop the Swiss franc from soaring as a result of investors seeking the currency's relative safety.

"The SNB will not tolerate this," he said bluntly.

Switzerland is not alone. The Bank of Japan is prioritising market stability, according to one source, with economists saying the bank's main concern would be to stop the yen taking off.

Intervention would be a likely response should the yen rise too high for the authorities' taste. With G20 leaders meeting in Mexico next week there is even speculation of a coordinated global response although no evidence of that has emerged so far.

India has a range of crisis management groups within the government set up to deal with euro zone-triggered financial stress, according to Kaushik Basu, the finance minister's chief economic adviser.

In China, key agencies including the central bank, have been asked to come up with similar plans, sources said last week. Measures may include keeping the yuan steady and stepping up policies to stabilise the economy, they said.

The big concern for all these countries - and others across Europe and the Americas - is that a victory on Sunday by parties in Greece opposed to austerity attached to its second bailout will send the euro zone further into crisis by pushing the country towards the currency bloc's exit door.

There are already signs of contagion. Spanish 10-year bond yields rose above 7 percent for the first time in the euro era on Thursday, hitting a level widely seen as being unsustainable.

It has all triggered concerns about another global financial market spasm similar to the one that followed the collapse of Lehman Brothers in 2008.

"Europe's debt problems are the biggest risk to the global and Japanese economies," BOJ Governor Masaaki Shirakawa told parliament this week. "A loss of market stability will lead to a severe economic slump, as we experienced during the Lehman crisis.

Norway could also suffer a hot money surge. It could cut interest rates in extremis to curb its currency, and has a monetary policy meeting next week, but with an already thriving economy it would risk overheating

.

Fellow euro outsider Denmark is in a similar camp. Its central bank, and a top Swiss central banker, said last month that they were looking at the possibility of deploying negative interest rates.

DEFENDING THE FORT

Switzerland is already working to protect its economy from uncontrollable franc strength, a condition that damages exports and raises the danger of deflation.

It imposed a cap of 1.20 francs to the euro last September and pledged on Thursday to defend it.

"Even at the current rate, the Swiss franc is still high. Another appreciation would have a serious impact on both prices and the economy in Switzerland," Jordan, the SNB chairman, said.

"If necessary (the bank) stands ready to take further measures at any time."

Jordan did not say whether capital controls - stopping money from flowing in and out - were under consideration, but he pointedly did not rule them out, saying: "We are continuously looking at all possible other measures."

Sources in Tokyo said capital controls had been discounted in Japan because of the size of the economy, the world's third largest.

But with the shock of the 2008/2009 crisis still fresh, the country is not taking any chances. Indeed, many of the policies adopted in 2008/2009 are still in place, such as near zero central bank interest rates and easier collateral terms for short-term funding operations.

The Bank of Japan still has a Lehman-legacy dollar-swap arrangement with the U.S. Federal Reserve, as do others. The latest extension of the deal, which allows the BOJ to tap unlimited amounts of dollars, runs to February 2013.

The most probable scenario Japanese policymakers are looking at is a flood of money rushing into yen assets, according to several interviews in the past week with central bank and government officials who craft economic policy.

Money has flowed into the yen fairly persistently since the euro area crisis erupted in late 2009 and the currency hit a record high of 75.31 yen per dollar in October.

Further upward pressure would spark fresh currency intervention by authorities, especially after the IMF said this week such a measure was an option to ease volatility. The BOJ could also ease policy by increasing the spending limit on its main tool - a 40 trillion yen asset buying fund.

China stock market

-- In case you haven't noticed, people are fleeing the markets from all corners of the globe. This is the tipping point we have been waiting for, and all the warnings have been screaming at us all week. As MCR says, "Even a caveman can see this." Time to wake up because things ain't looking bueno. -- JB, Managing Editor

China Stocks In Trouble As Hang Seng Breaks Support Again

Forbes,

17 May, 2012

Bearish sentiment from investors has taken the Hang Seng Index through its 19,000 support level for the second time in less than 72 hours, opening nearly 500 points lower Friday in Hong Kong to 18782 points. Investors seem to be heading for the mattress and safety deposit boxes, avoiding even the dollar and euro fixed income.

On Wall Street, Fears Of New Crisis Growing Kenneth Rapoza Kenneth Rapoza Contributor

There’s a “flight from the dollar and the euro,” Daisuke Uno, a strategist at Sumitomo Mitsui Banking Corporation told Dow Jones Newswires in Hong Kong on Friday.

Mainland Chinese stock indices opened lower as well, with the benchmark Shanghai Composite Index down 0.59% to 2,364.90 and the Shenzhen Component Index opened at 9,995.91, down 0.83%.

MSCI’s broadest index of Asia-Pacific shares ex-Japan was down 0.6% early Friday after briefly ending a four-day losing trend on Thursday. The index slid more than 3% — its biggest one-day drop in six months — and hit a four-month low on Wednesday. MSCI Asia Pacific is off around 10% this month alone

The global crisis

This article appeared prominently in Melbourne's the Age today. The other Australian dailies relegated the story to the financial pages and it did not even figure in the NZ print media - overseas headlines were dominated by the headline 'Presidential penis portrait riles SA's ANC'

Global crisis as shares crash
GLOBAL financial markets have slid into a crisis of confidence, with depositors reportedly pulling their money out of banks in Greece and Spain, and Australia's share prices crashing yesterday in their biggest fall of the year.

The Age,

19 May, 2012

More than $110 billion has been wiped off the value of Australian stocks in May, with $35 billion stripped from share values yesterday alone. The ASX/S&P 200 index fell 2.7 per cent or 131 points to close at 4026.5, its lowest level for six months.


The Australian dollar fell briefly below US98¢ before closing local trade at US98.18¢, also a six-month low. It has fallen 9.25 per cent since the start of March, amid growing concerns about recession in Europe and a slowdown in China.

Gloomy data from China sent markets down further yesterday afternoon. Official figures showed home prices falling in 46 out of 70 cities surveyed and stockpiles of unsold cars rising sharply. Goldman Sachs lowered its June quarter growth forecast from 8.6 to 8.1 per cent, while economists from the China's State Information Centre forecast growth to fall to 7.5 per cent.


Federal Treasurer Wayne Swan last night issued a reassurance that prospects for Australia and the region remained healthy. But Mr Swan spent much of the afternoon and night on the phone with other finance ministers, debating what steps could be taken to restore confidence.


Australia is seen by global markets as a fair-weather investment. Money piles in here when times are good, and moves out when times are bad.


The plunge so far bears no comparison to the panic of September 2008, but with no light showing in Europe's tunnel, the future is uncertain.


Financial markets believe the Reserve Bank board will deliver another interest rate cut to restore confidence when it meets on June 5. It remains to be seen whether the banks will pass on all the cut to customers.


ANZ bank chief Mike Smith said Australian banks were still able to raise finance on global markets. ''European funding markets are essentially closed at the moment because of the uncertainty in Europe, however Asian and US markets remain open'', he said. ''Australian banks are well placed right now''.


Mr Swan said Australia's fundamentals remained solid.


''We have rock-solid public finances, one of the strongest financial systems in the world, low unemployment, solid growth, a massive pipeline of investment over long-term horizons, a reaffirmed AAA credit rating from all three global ratings agencies, world-class regulators, and a proven track record of dealing with global instability,'' he said.


Yesterday's market plunge was part of a global slump, after a report that nervous investors in Spain withdrew more than €1 billion on Thursday from the troubled Bankia group.


The Spanish government, which has taken over the bank, denied the report, but shares in Bankia slumped 30 per cent.


Earlier, the head of Greece's central bank said depositors had taken €700 million (about $A900 million) out of Greek banks after the May 6 election left the country without an elected government.


A run on the banks would create a serious risk that the European crisis could spiral out of control. The Greek crisis has left no one in charge, just a caretaker government that has no ability to borrow the funds its banks might need to survive.


Overnight in Europe, Moody's cut the ratings of 16 Spanish banks, citing the country's deepening recession and increasing losses on real estate loans. Fitch Ratings dumped Greek government bonds into a C-class rating, saying the Greek election results showed a lack of public and political support for the austerity pact the previous Greek government had negotiated with European authorities.
Investors are retreating from sharemarkets to park their money in safe places, such as government bonds, where their capital will remain intact even if the yield is low.


On Wednesday, the Australian government sold a new tranche of 10-year bonds at a record low yield of just 3.36 per cent, compared with 5.48 per cent a year ago. But yesterday the demand for bond futures was so intense that the implied yield sank to 3.035 per cent.

Other stories on the economic crisis:

Greece tops G8 agenda as markets tumble

Obama calls for action to tackle European crisis

Eurozone's storms to unsettle trade winds
The Greek crisis is not expected to send a tsunami this far south, but Australia's economy will feel the tremors.

European money markets dry up (Australia)

Spanish Bad-Loans Ratio at 8.37 Percent, a 17-Year High; CDS at Record High

Spain may again revise 2011 deficit upward

Ex-ECB Chief Trichet Unveils Bold Plan to Save Euro

"Europe could strengthen its monetary union by giving European politicians the power to declare a sovereign state bankrupt and take over its fiscal policy, the former head of the European Central Bank said on Thursday in unveiling a bold proposal to salvage the euro."

Dow Swoons for Sixth Day

Facebook Stalls in Public Debut After Record $16B in IPO

JPMorgan unit has $100 billion in risky bonds

Where nervous Greeks are stashing cash (CNN Money video)

Derivatives and the World Economy

"NATO and the United States should change their policy because the time when they dictate their conditions to the world has passed," Ahmadinejad said in a speech in Dushanbe, capital of the Central Asian republic of Tajikistan

Chaos, Derivatives, and Quantum Physics

By Cris Sheridan

Financial Sense,

11 May, 2012

Every day the financial markets get more chaotic—a fact that couldn't be made any more clear than with a recent revelation given by ex-physicist and author, Nick Dunbar, in describing a new level of complexity facing banks and derivatives. Ironically, Thurdsay night's emergency conference call by JP Morgan of a massive $2 billion unavoidable loss is perhaps a confirmation of what banks are now starting to grapple with. 

After attending a recent conference in Barcelona featuring some of the top thinkers in quantitative analysis, Dunbar says that the financial crisis has now left "quants grappling with a new landscape...that has turned the old world upside down." 
What is this new landscape he's referring to? One in which derivatives have become so chaotic that they no longer obey the classical laws of physics. The derivatives world now, he says, is beginning to operate at a level of mathematical complexity associated with quantum physics—specifically, a field known as "Quantum Chromodynamics".
Up until now derivatives mostly obeyed "simple" and definable mathematical models first invented in the 1970s. However, today, in the aftermath of the financial crisis, a new level of hyperconnectedness has resulted where "complex interactions between banks and within portfolios dominate the pricing of derivatives, as opposed to the behavior of the assets the contracts are supposedly ‘derived’ from." This math, he says, is the same for "unseen particles" like quarks and gluons "trapped within atomic nuclei."
Keep in mind that the massive multi-trillion unregulated derivatives market is what triggered the financial crisis in the first place. Even the "simple" math of the 1970s, ruled by the Black-Scholes model, was complicated enough that the balance sheets of major global banks were simultaneously wiped out due to their extremely high sensitivity to the underlying assumptions implicit in valuing derivatives. 
But now, how do you price something that defies the classical boundaries of time and space, or that changes value when a butterfly flaps its wings on the other side of the globe? The quantum realm deals with forces that are so tightly interwoven that separating one from another is nearly impossible. It would appear that Mr. Dunbar has perhaps enlightened us to an inescapable reality that, whether we like to admit it or not, the entire financial system is now bound by a single fate. 
Unfortunately, it didn't have to be this way. Through heavy lobbying and financial incentives banks convinced politicians long ago that synthetically-created derivatives didn't require regulation or oversight. Now, they've created a monster they cannot control—a monetary system that operates at a level beyond human comprehension.
Perhaps, like progress, this was all inevitable though? As the co-creator of the Black-Scholes model once said:

"The fundamental issue is that quantitative technologies in finance will survive, and will grow, and will continue to evolve over time"

Of course, this leads me back to a question I often raise: If quantitative technologies, algorithms, or—yes—machine intelligence evolves beyond our ability to control it, who then is in control? Will we really allow the financial system to slip further into the Twilight Zone or cry "Uncle!" and let Watson help manage the financial system for us? 
Then again, maybe I'm not giving those in charge enough credit? Clearly the most intelligent, well-educated scholars of human history and the markets we've been able to produce so far are fully capable of governing the financial system and seeing disasters before they erupt, right? (The video below will answer that.) 
"Hey Watson? How would you like to run the central banking system?"

How Wall Street killed Financial Regulation

MATT TAIBBI: The Complete Story Of How Wall Street Killed Financial Regulation In 5 Terrifying Steps 

 

Business Insider,

12 May, 2012

From the moment Congress started working on writing new regulations for the financial industry, Wall Street started working on them too — working on killing them.
So writes Rolling Stone's Matt Taibbi. Not that we didn't know that, but his newest piece in this month's issue of the magazine walks us through Wall Street's strategy to patiently and painstakingly maim, and then kill the rules meant to constrain their industry.
From the piece:

This was supposed to be the big one. At 2,300 pages, the new law ostensibly rewrote the rules for Wall Street. ...Two years later, Dodd-Frank is groaning on its deathbed. The giant reform bill turned out to be like the fish reeled in by Hemingway's Old Man – no sooner caught than set upon by sharks that strip it to nothing long before it ever reaches the shore. In a furious below-the-radar effort at gutting the law – roundly despised by Washington's Wall Street paymasters – a troop of water-carrying Eric Cantor Republicans are speeding nine separate bills through the House, all designed to roll back the few genuinely toothy portions left in Dodd-Frank.

So if any of you readers are planning on going to Washington to do a hit on proposed legislation (or even some legislation that's already been passed) this is handy guide. Taibbi broke the whole process down to 5 steps.
Step 1 — "Kill it in the womb," says Taibbi. He points out the Dodd-Frank wasn't that tough to begin with. He argues that Obama was in the same position as President Roosevelt after the 1929 crash — In order to protect Americans from another catastrophe, he needed to force Wall Street to make their deals and trades in public, rather than in the dark. But that's not what happened:

...behind the closed doors of Congress, Wall Street lobbyists and their allies got to work. Though many of the new regulatory concepts survived in the final bill, most of them wound up whittled down to such an extreme degree that they were barely recognizable in the end. Over the course of a ferocious year of negotiations in the House and the Senate, the rules on swaps were riddled with loopholes...the best example of how the watering-down process helped make Dodd-Frank ripe for a later killing was the question of Too Big to Fail. Obama, Geithner and the Democratic leadership in Congress never seriously entertained enacting the most obvious and necessary reform at all – breaking up the

Step 2 — "Sue, Sue, Sue"... if killing the litigation in Congress didn't work, the banks simply took the new laws to Court (from the piece):

"First, they hire a shit-ton of lobbyists to go to the regulators," says Jim Collura, spokesman for the Commodity Markets Oversight Coalition. "Then, they beat the crap out of them during the rule making process. And then, when that's over, they litigate the hell out of them."

On a few occasions, Wall Street sued regulators for not running new legislation through enough 'cost benefit analysis.' Or they get more creative — here's what they did when the CFTC tried to implement commodities position limits (from the piece):

"In an even more awesome demonstration of sheer balls, Scalia & Co. also argued that the CFTC's vote to establish position limits was invalid because one of the agency's commissioners, Michael Dunn, did not really believe in the law."

Step 3 — "If you can't beat it, stall." Dodd-Frank is the perfect example of this. It was supposed to be implemented in October 2010, but the SEC decided on a stay at the last minute, "essentially giving the Chamber of Commerce time to prepare its lawsuit to permanently kill the rule," Taibbi writes. Or how about the Volcker Rule which regulators have stalled to April 2014?
Step 4 — "Bully the regulators." Congress can (and has) slash/freeze their budgets, and don't forget all that suing, which can serve as a powerfully deterrent as well (from the piece).

Even the CFTC admits this pressure exists: Commissioner Bart Chilton warned in March that his regulators risk being "scared into making rules and regulations that are weak or ineffective because we are overly concerned about what we call 'litigation risk.'" According to Marcus Stanley, policy director for Americans for Financial Reform, one regulator admitted that he worries in advance about Wall Street going over his head. "If we make this rule too tough," the regulator told Stanley, "industry is just going to go to Congress and punch it full of holes."

Step 5 — "Pass a gazillion loop holes." Wall Street does have useful friends in Congress, so when the going gets tough, it just have friends write some loopholes. Or, as Taibbi reports, Wall Street writes the legislation and then its friends pass it along (from the piece).

You might wonder how a bunch of lunkhead Republican congressmen would even know how to write a coordinated series of "technical fixes" to derivatives regulation, a universe so complicated that it has become hard to find anyone on the Hill who truly understands the subject. (One congressman who sits on the Financial Services Committee laughingly admitted that when the crash of 2008 happened, he had to look up "credit default swaps" on Wikipedia.) It turns out, they had help from the inside. Scott O'Malia, a Republican commissioner on the CFTC who formerly served as an aide to Senate Minority Leader Mitch McConnell, apparently sent a member of his staff over to the House to help the Republicans write bills to undercut the CFTC's authority.

In case you've been living under a rock, you know this strategy works. That's partly because most people don't know what these regulations are meant to regulate anyway. Ask your average person if they know how the swaps market is and you'll likely get a furrowed brow and quizzical glance.
So Wall Street has that going for it — the American people don't understand what they do in the first place.

Now you have the strategy, though. Great, right? Now go undo some good.

Chinese protest

Protest Disrupts World Bank News Conference in Beijing

NDTV

A press conference held by the World Bank in Beijing was interrupted when a protester jumped at the podium, seizing the opportunity to speak out against the multilateral lender. The protest comes after a World Bank report on China's economy was released this week.

A protester disrupted a World Bank news conference in Beijing on Tuesday. He claims the multilateral lender's new report on China's economic future was "poison" and it would not bring benefits to the country.

Du Jianguo, describing himself as a self-taught independent researcher, jumped up to the podium during Tuesday's news conference... declaring his views seconds after World Bank chief Robert Zoellick began speaking. 

[Du Jianguo, Protester]: 

"They (World Bank) nevertheless sell the plan to China, suggesting Chinese banks learn from the US and learn from Wall Street. Do they want Chinese banks to become cheaters and parasites just like those American banks? Chinese state-owned enterprises are now very powerful and therefore become competitors of the Western countries. You (World Bank) suggest dividing the state-owned enterprises, this is in fact helping the American and other Western enterprises ruin their competitors."

In face of Du's criticism, Zoellick insisted in the World Bank's stance upon the launch of the report on China's financial future.

[Robert Zoellick, World Bank President]:

"I think many experts have the view that state-owned enterprises have benefited from very inexpensive financing, preferred positions in the market. And they've gained very large retained earnings that have led to China savings but have not necessarily benefited all the Chinese people."

He argued that the changes put forward in the newly released report have the interests of the Chinese people at heart.

[Robert Zoellick, World Bank President]: 

"So to reduce China's global savings rate and also benefit the Chinese people, if a lot of those dividends are sent back to provide social benefits for China's people, you'll have structural change and help support some of the social security systems." 

The protest came as the World Bank released a report that examines the country's strategic choices, the risks and opportunities in the next two decades, and makes a series of recommendations for the country's growth model.

The breakdown of Bretton Woods

I see this the same way Zero Hedge does. The world is abandoning or evading the dollar in increasingly more-effective steps. And those steps are revealing that the teeth of the American tiger are old and increasingly ineffective. I am not worried for Iran. We are watching the United States lose its grip on world economic activity. We are entering the post-Bretton Woods world. -- MCR

A Very Different Take On The 'Iran Barters Gold For Food' Story

Zero Hedge,

9 Feburary, 2012

Much has been made of today's Reuters story how "Iran turns to barter for food as sanctions cripple imports" in which we learn that "Iran is turning to barter - offering gold bullion in overseas vaults or tankerloads of oil - in return for food", and whose purpose no doubt is to demonstrate just how crippled the Iranian economy is as a result of the ongoing US embargo. Incidentally this story is 100% the opposite of the Debka-spun groundless disinformation from a few weeks ago that India was preparing to pay for Iran's oil in gold (they got the asset right, but the flow of funds direction hopelessly wrong). While there is certainly truth to the fact that the US is actively seeking to destabilize the local government, we wonder why? After all as the opportunity cost for the existing regime to do something drastic gets ever lower as the popular resentment rises, leaving the local administration with few options but to engage either the US or Israel. Unless of course, this is the ultimate goal. Yet going back to the Reuters story, it would be quite dramatic, if only it was not the case that Iran has been laying the groundwork for a barter economy for many months now, something which various other analysts perceive as the basis for the destruction of the petrodollar system. Perhaps regular readers will recall that back in July, we wrote an article titled "China And Iran To Bypass Dollar, Plan Oil Barter System." Specifically, we wrote that "according to the FT, 

China has decided to commence a barter system in which Iranian oil is exchanged directly for Chinese exports. The net result: not only a slap for the US Dollar, but implicitly for all fiat intermediaries, as Iran and China are about to prove that when it comes to exchanging hard resources for critical Chinese goods and services, the world's so called reserve currency is completely irrelevant." Seen in this light the fact that Iran is actually proceeding with a barter system, something that had been in the works for quite a while, actually puts the Reuters story in a totally different light: instead of one predicting the imminent demise of the Iranian economy, the conclusion is inverted, and underscores the culmination of what may have been an extended barter preparation period, has finally gone from beta to (pardon the pun) gold, and Iran is now successfully engaging in global trade without the use of the historical reserve currency.

Here is how Reuters presents its findings:

Difficulty paying for urgent import needs has contributed to sharp rises in the prices of basic foodstuffs, causing hardship for Iranians with just weeks to go before an election seen as a referendum on President Mahmoud Ahmadinejad's economic policies.

New sanctions imposed by the United States and European Union to punish Iran for its nuclear program do not bar firms from selling Iran food but they make it difficult to carry out the international financial transactions needed to pay for it.

Reuters surveys of commodities traders around the globe show that since the start of the year, Iran has had trouble securing imports of basic staples like rice, cooking oil, animal feed and tea. Grain ships have been held at its ports, refusing to unload until payment can be received for cargo.

With Iran's rial currency tumbling, the prices of rice, bread and meat in Iranian bazaars have doubled or more in dollar terms in recent months.

Iranian grain importers have in the past side-stepped sanctions by booking business through the United Arab Emirates, traders said, but this option was cut off by the UAE government in response to sanctions.

Iran has been trading oil in currencies like Japanese yen, South Korean won and Indian rupees, but such deals make it difficult to repatriate profits.

Deals revealed Thursday appear to be among the first in which Iran has had to result to offering cashless barter to avoid sanctions, a sign of new urgency as it seeks to buy food and get around the financial restrictions.

The article's punchline:

Another trader said: "As the shipments of grain are so large, barter or gold payments are the quickest option."

Details of how the barter deals work are still unclear as the payments problem is so new, and traders did not disclose the exact size of such deals.

Perhaps a different spin on the news is that gold is "suddenly" just as equially accepted as a pseudo-reserve currency virtually everywhere in the world, as the dollar: a blasphemous concept to many legacy economists for sure. But the truth is that gold and barter appear to be working. Especially when one considers what the FT had to say on this topic back in July 2011:

Tehran and Beijing are in talks about using a barter system to exchange Iranian oil for Chinese goods and services, as US financial sanctions have blocked China from paying at least $20bn for oil imports.

The US sanctions against Iran, which make it extremely difficult to conduct dollar-denominated business, mean that China could owe the oil-rich nation as much as $30bn, according to people familiar with the problem.

They said the unpaid oil bills had built up over the past two years and the governments, which are in early-stage talks, were looking at how to “offset” the debt.

Some Iranian officials are growing increasingly angry about the inability of the country’s largest oil customers to pay cash, a problem that has contributed to a shortage of hard currency and has hindered the central bank from defending the Iranian rial, which has been sharply devalued over the past month.

China and India together buy about one-third of Iran’s oil, the country’s economic lifeblood. China’s oil imports from Iran have risen 49 per cent this year, according to Reuters.

And what prevents China, whose secretive gold stockpiling is the stuff of legends to migrate from a barter system to one of gold, whereby the two countries exchange goods not in the form of barter but using the yellow metal currency equivalent. 

Furthermore, how would the world react if the entire Asian continent was found to be transacting in gold, coupled with the discovery that China's gold holdings have soared, very much the same way it disclosed its shocking gold expansion back in April 2009 when overnight its gold holdings went from 600 tonnes to 1054 tonnes:

Shanghai/Beijing: China disclosed on Friday that it had secretly raised its gold reserves by three-quarters since 2003, increasing its holdings to 1,054 tonnes and confirming years of speculation it had been buying.

Hu Xiaolian, head of the State Administration of Foreign Exchange (SAFE), told Xinhua news agency in an interview that the country’s reserves had risen by 454 tonnes from 600 tonnes since 2003, when China last adjusted its state gold reserves figure.

The confirmation of its surreptitious stockpiling is likely to fuel market talk about Beijing’s ability to buy secretly and its ambitions for spending its nearly $2 trillion (around Rs100 trillion) pile of savings. And not just in gold: copper and other metals markets are booming thanks to China’s barely visible hand.

Speculation has gathered speed over the last year, since the tumbling dollar has threatened to weaken China’s buying power—and give it yet more reason to diversify into gold, oil and metals.

Not only that, but consider our post from September 2011: 

"Wikileaks Discloses The Reason(s) Behind China's Shadow Gold Buying Spree"

Wondering why gold at $1850 is cheap, or why gold at double that price will also be cheap, or frankly at any price? Because, as the following leaked cable explains, gold is, to China at least, nothing but the opportunity cost of destroying the dollar's reserve status. Putting that into dollar terms is, therefore, impractical at best, and illogical at worst. We have a suspicion that the following cable from the US embassy in China is about to go not viral but very much global, and prompt all those mutual fund managers who are on the golden sidelines to dip a toe in the 24 karat pool. The only thing that matters from China's perspective is that "suppressing the price of gold is very beneficial for the U.S. in maintaining the U.S. dollar's role as the international reserve currency. China's increased gold reserves will thus act as a model and lead other countries towards reserving more gold. Large gold reserves are also beneficial in promoting the internationalization of the RMB." Now, what would happen if mutual and pension funds finally comprehend they are massively underinvested in the one asset which China is without a trace of doubt massively accumulating behind the scenes is nothing short of a worldwide scramble, not so much for paper, but every last ounce of physical gold...

In other words, we humbly submit that instead of taking the Reuters article at face value, and one may certainly do that, what may instead be happening as Iran migrates to a non-dollar based international trade system is the testing of the waters of a non-USD regime, more impotantly, one quietly encourage by  China, who is a very complicit participant in the transition to a world in which the US Dollar suddenly finds itself irrelvant. Whether replaced by gold, or a currency backed by a basket of hard assets (the CNY?) we don't know. However, we know one thing: China needs Iran's crude, which at last check was among the world's top 5 oil producers, and had the world's third largest proven oil reserves after Saudi Arabia and Canada, and despite media reports that it is actively looking for crude import alternatives, we would allege that this is nothing but purposeful disinformation. After all why would China comply with US demands for an enhanced Iranian embargo? The whole point of China's foreign policy to date has been to counteract US pushes and provocations abroad without fail. Why should it make an exception now. Frankly, we don't buy it, especially when one considers last summer's FT piece.

Finally, we leave readers with this interesting take from Casey Research's Marin Katusa, who looks at recent development in a rather comparable light.

Will Iran Kill the Petrodollar? (source)

The official line from the United States and the European Union is that Tehran must be punished for continuing its efforts to develop a nuclear weapon. The punishment: sanctions on Iran's oil exports, which are meant to isolate Iran and depress the value of its currency to such a point that the country crumbles.

But that line doesn't make sense, and the sanctions will not achieve their goals. Iran is far from isolated and its friends – like India – will stand by the oil-producing nation until the US either backs down or acknowledges the real matter at hand. That matter is the American dollar and its role as the global reserve currency.

The short version of the story is that a 1970s deal cemented the US dollar as the only currency to buy and sell crude oil, and from that monopoly on the all-important oil trade the US dollar slowly but surely became the reserve currency for global trades in most commodities and goods. Massive demand for US dollars ensued, pushing the dollar's value up, up, and away. In addition, countries stored their excess US dollars savings in US Treasuries, giving the US government a vast pool of credit from which to draw.

We know where that situation led – to a US government suffocating in debt while its citizens face stubbornly high unemployment (due in part to the high value of the dollar); a failed real estate market; record personal-debt burdens; a bloated banking system; and a teetering economy. That is not the picture of a world superpower worthy of the privileges gained from having its currency back global trade. Other countries are starting to see that and are slowly but surely moving away from US dollars in their transactions, starting with oil.

If the US dollar loses its position as the global reserve currency, the consequences for America are dire. A major portion of the dollar's valuation stems from its lock on the oil industry – if that monopoly fades, so too will the value of the dollar. Such a major transition in global fiat currency relationships will bode well for some currencies and not so well for others, and the outcomes will be challenging to predict. But there is one outcome that we foresee with certainty: Gold will rise. Uncertainty around paper money always bodes well for gold, and these are uncertain days indeed.

The Petrodollar System

To explain this situation properly, we have to start in 1973. That's when President Nixon asked King Faisal of Saudi Arabia to accept only US dollars as payment for oil and to invest any excess profits in US Treasury bonds, notes, and bills. In exchange, Nixon pledged to protect Saudi Arabian oil fields from the Soviet Union and other interested nations, such as Iran and Iraq. It was the start of something great for the US, even if the outcome was as artificial as the US real-estate bubble and yet constitutes the foundation for the valuation of the US dollar.

By 1975, all of the members of OPEC agreed to sell their oil only in US dollars. Every oil-importing nation in the world started saving its surplus in US dollars so as to be able to buy oil; with such high demand for dollars the currency strengthened. On top of that, many oil-exporting nations like Saudi Arabia spent their US dollar surpluses on Treasury securities, providing a new, deep pool of lenders to support US government spending.

The "petrodollar" system was a brilliant political and economic move. It forced the world's oil money to flow through the US Federal Reserve, creating ever-growing international demand for both US dollars and US debt, while essentially letting the US pretty much own the world's oil for free, since oil's value is denominated in a currency that America controls and prints. The petrodollar system spread beyond oil: the majority of international trade is done in US dollars. That means that from Russia to China, Brazil to South Korea, every country aims to maximize the US-dollar surplus garnered from its export trade to buy oil.

The US has reaped many rewards. As oil usage increased in the 1980s, demand for the US dollar rose with it, lifting the US economy to new heights. But even without economic success at home the US dollar would have soared, because the petrodollar system created consistent international demand for US dollars, which in turn gained in value. A strong US dollar allowed Americans to buy imported goods at a massive discount – the petrodollar system essentially creating a subsidy for US consumers at the expense of the rest of the world. Here, finally, the US hit on a downside: The availability of cheap imports hit the US manufacturing industry hard, and the disappearance of manufacturing jobs remains one of the biggest challenges in resurrecting the US economy today.

There is another downside, a potential threat now lurking in the shadows. The value of the US dollar is determined in large part by the fact that oil is sold in US dollars. If that trade shifts to a different currency, countries around the world won't need all their US money. The resulting sell-off of US dollars would weaken the currency dramatically.

So here's an interesting thought experiment. Everybody says the US goes to war to protect its oil supplies, but doesn't it really go to war to ensure the continuation of the petrodollar system?

The Iraq war provides a good example. Until November 2000, no OPEC country had dared to violate the US dollar-pricing rule, and while the US dollar remained the strongest currency in the world there was also little reason to challenge the system. But in late 2000, France and a few other EU members convinced Saddam Hussein to defy the petrodollar process and sell Iraq's oil for food in euros, not dollars. In the time between then and the March 2003 American invasion of Iraq, several other nations hinted at their interest in non-US dollar oil trading, including Russia, Iran, Indonesia, and even Venezuela. In April 2002, Iranian OPEC representative Javad Yarjani was invited to Spain by the EU to deliver a detailed analysis of how OPEC might at some point sell its oil to the EU for euros, not dollars.

This movement, founded in Iraq, was starting to threaten the dominance of the US dollar as the global reserve currency and petro currency. In March 2003, the US invaded Iraq, ending the oil-for-food program and its euro payment program.

There are many other historic examples of the US stepping in to halt a movement away from the petrodollar system, often in covert ways. In February 2011, Dominique Strauss-Kahn, managing director of the International Monetary Fund (IMF), called for a new world currency to challenge the dominance of the US dollar. Three months later a maid at the Sofitel New York Hotel alleged that Strauss-Kahn sexually assaulted her. Strauss-Kahn was forced out of his role at the IMF within weeks; he has since been cleared of any wrongdoing.

War and insidious interventions of this sort may be costly, but the costs of not protecting the petrodollar system would be far higher. If euros, yen, renminbi, rubles, or for that matter straight gold, were generally accepted for oil, the US dollar would quickly become irrelevant, rendering the currency almost worthless. As the rest of the world realizes that there are other options besides the US dollar for global transactions, the US is facing a very significant – and very messy – transition in the global oil machine.

The Iranian Dilemma

Iran may be isolated from the United States and Western Europe, but Tehran still has some pretty staunch allies. Iran and Venezuela are advancing $4 billion worth of joint projects, including a bank. India has pledged to continue buying Iranian oil because Tehran has been a great business partner for New Delhi, which struggles to make its payments. Greece opposed the EU sanctions because Iran was one of very few suppliers that had been letting the bankrupt Greeks buy oil on credit. South Korea and Japan are pleading for exemptions from the coming embargoes because they rely on Iranian oil. Economic ties between Russia and Iran are getting stronger every year.

Then there's China. Iran's energy resources are a matter of national security for China, as Iran already supplies no less than 15% of China's oil and natural gas. That makes Iran more important to China than Saudi Arabia is to the United States. Don't expect China to heed the US and EU sanctions much – China will find a way around the sanctions in order to protect two-way trade between the nations, which currently stands at $30 billion and is expected to hit $50 billion in 2015. In fact, China will probably gain from the US and EU sanctions on Iran, as it will be able to buy oil and gas from Iran at depressed prices.

So Iran will continue to have friends, and those friends will continue to buy its oil. More importantly, you can bet they won't be paying for that oil with US dollars. Rumors are swirling that India and Iran are at the negotiating table right now, hammering out a deal to trade oil for gold, supported by a few rupees and some yen. Iran is already dumping the dollar in its trade with Russia in favor of rials and rubles. India is already using the yuan with China; China and Russia have been trading in rubles and yuan for more than a year; Japan and China are moving towards transactions in yen and yuan.

And all those energy trades between Iran and China? That will be settled in gold, yuan, and rial. With the Europeans out of the mix, in short order none of Iran's 2.4 million barrels of oil a day will be traded in petrodollars.

With all this knowledge in hand, it starts to seem pretty reasonable that the real reason tensions are mounting in the Persian Gulf is because the United States is desperate to torpedo this movement away from petrodollars. The shift is being spearheaded by Iran and backed by India, China, and Russia. That is undoubtedly enough to make Washington anxious enough to seek out an excuse to topple the regime in Iran.

Speaking of that search for an excuse, this is interesting. A team of International Atomic Energy Agency (IAEA) inspectors just visited Iran. The IAEA is supervising all things nuclear in Iran, and it was an IAEA report in November warning that the country was progressing in its ability to make weapons that sparked this latest round of international condemnation against the supposedly near-nuclear state. But after their latest visit, the IAEA's inspectors reported no signs of bomb making. Oh, and if keeping the world safe from rogue states with nuclear capabilities were the sole motive, why have North Korea and Pakistan been given a pass?

There is another consideration to keep in mind, one that is very important when it comes to making some investment decisions based on this situation: Russia, India, and China – three members of the rising economic powerhouse group known as the BRICs (which also includes Brazil) – are allied with Iran and are major gold producers. If petrodollars go out of vogue and trading in other currencies gets too complicated, they will tap their gold storehouses to keep the crude flowing. Gold always has and always will be the fallback currency and, as mentioned before, when currency relationships start to change and valuations become hard to predict, trading in gold is a tried and true failsafe.

2012 might end up being most famous as the year in which the world defected from the US dollar as the global currency of choice. Imagine the rest of the world doing the math and, little by little, beginning to do business in their own currencies and investing ever less of their surpluses in US Treasuries. It constitutes nothing less than a slow but sure decimation of the dollar.

That may not be a bad thing for the United States. The country's gargantuan debts can never be repaid as long as the dollar maintains anything close to its current valuation. Given the state of the country, all that's really left supporting the value in the dollar is its global reserve currency status. If that goes and the dollar slides, maybe the US will be able to repay its debts and start fresh. That new start would come without the privileges and ingrained subsidies to which Americans are so accustomed, but it's amazing that the petrodollar system has lasted this long. It was only a matter of time before something would break it down.

Finally, the big question: How can one profit from this evolving situation? Playing with currencies is always very risky and, with the global game set to shift to significantly, it would require a lot of analysis and a fair bit of luck. The much more reliable way to play the game is through gold. Gold is the only currency backed by a physical commodity; and it is always where investors hide from a currency storm. The basic conclusion is that a slow demise of the petrodollar system is bullish for gold and very bearish for the US dollar.