Post by jeffolie on Oct 22, 2007 17:28:12 GMT -6
by Martin Hutchinson
The Bear’s Lair: Empowering the fruitcakes
October 22, 2007
Martin Hutchinson is the author of "Great Conservatives" (Academica Press, 2005) -- details can be found on the Web site www.greatconservatives.com
The long world boom, driven by cheap money and resulting in high commodity prices, has had one overwhelming disadvantage: it has empowered a series of economic fruitcakes -- national leaders and private sector investors who operate on principles that make no economic sense. Without Schumpeteran “creative destruction” there is no force separating the sound from the unsound, the valuable from the insane. The long term destruction of wealth through this process will be far greater than the short term profits such people think they are creating.
For example the Center for Economic Policy and Research on Wednesday presented the Bolivian Minister of Hydrocarbons and Energy, Carlos Villegas. Evo Morales, the President of Bolivia, is a follower of Venezuela’s Hugo Chavez, but appears to be considerably less of a thug than Chavez. He also claims to be the first person of indigenous ancestry elected President of Bolivia, which if true indeed shows that the country has been run in the 180 years since independence largely in the interests of the Hispanic-ancestry governing class. If so, they’ve done a lousy job, as Bolivia is the poorest country in Latin America, in spite of having considerable natural resources, which of course is a large part of the problem. As British prime ministers from Sir Robert Walpole to Lord Liverpool could have told you, it’s perfectly possible for an oligarchy to rule in the interests of the country as a whole and enrich everybody including themselves by doing so.
Villegas was in town to give a vigorous defense of Bolivia’s nationalization of its oil and gas resources. All twelve of the foreign oil companies involved were happy to continue providing services to Bolivia without ownership of the oil, he claimed, while doubling production within 5 years would allow the Bolivian government to provide welfare to the poorest in Bolivian society, including those of indigenous origin. 50% of hydrocarbon revenues were to flow to the Bolivian government and the remainder, net of payments to international oil companies for services, would flow to the recently renationalized Bolivian state oil company YPFB. Bolivia intends to build a 1,500km gas pipeline into Argentina, which rations gas prices at about 50% of market price, in order to avoid the vulgar necessity of piping gas to the much closer Chilean coast, as had been agreed by the previous Bolivian government.
Since I was surrounded by True Believers, some of them distractingly beautiful (why do the left-of-center think tanks have all the pretty girls?) I decided against asking an aggressive question. Instead I merely inquired politely what Bolivia would do if the oil price dropped back to say $40, twice its level as recently as 2002. Villegas replied that I was foolish to believe that the oil price would ever drop back; demand from India and China meant that it might stabilize, but could never significantly retreat.
The leftist dream of nationalized Bolivian resources proving wealth to all Bolivians, without the unpleasant necessity of bringing in foreign companies has received majority support in referenda. Its only opposition comes from the oil-rich province of Santa Cruz, which is seeking independence, but as Morales has said his opponents are motivated by a “bourgeois ideology” of “free market, foreign investment, racism, etc.” The bourgeois ideologists have currently seized control of Bolivia’s busiest airport near Santa Cruz city and the dialectical struggle is ongoing.
Economically, the Morales government’s progress even looks plausible. Economic growth was 4.5% in 2006, in spite of an excessive 1.4% population growth rate, while the budget remained in surplus and inflation ran at 4%. Thus, taken on the surface, there is no special reason for the moderately well informed Bolivian voter, uninterested in the arcane corners of economic theory, to suppose that Morales’ policies are nothing other than economically sound; they have indeed produced a better short-term result than the much-maligned “neoliberalism” of 1986-2001. Only we know that if oil prices drop, the Morales experiment will descend into poverty and bankruptcy quickly, whereas if they remain high it will merely take a longer time to do so, as the capacity of government to destroy value, when unhampered by legal and market constraints, is essentially infinite.
It’s not surprising that electorates vote for economically suicidal political parties when the costs of doing so are so well hidden. If voters are given the choice between sound IMF-friendly policies that will improve their lot in the long run, but may cause as much as five years of economic pain as subsidies are removed and interest rates raised, it is by no means clear that they will always vote the “right” way. If in addition they are provided with an economic bonanza from commodity price movements, replacing 15 years of slow growth under IMF tutelage with a cornucopia that appears to make the leftist government’s promises of economic nirvana realistic, their decision making may be warped for a very long time.
Hugo Chavez, after all, has been in power for nearly a decade in Venezuela. The previous governments had been so corrupt and so economically unsuccessful (lowering national productivity by more than 25% in the period 1970-1998) that the vast majority of Venezuelan voters knew a change was needed, but in 1998 they chose the wrong one. Chavez was in severe danger of being ousted in 2001-02 and indeed was temporarily removed by a coup (which in the good old pre-Watergate days of the James Jesus Angleton CIA the US would have supported properly.) However after 2002 the rise in oil prices allowed him to pursue a foreign and domestic policy that won adequate support from his electorate, even though the generation-long decline in Venezuelan productivity only accelerated. Now he has control of the Orinoco tar sands, the United States has suffered severe strategic damage from his rule, at least while oil supplies remain tight.
Similar examples exist outside Latin America. The reformist Iranian government of Mohammad Khatami in 1997-2005 probably had little chance in any case against foolish US intransigence, but the anti-reformist and belligerent Mahmoud Ahmadinejad in power since 2005 has benefited immensely from the flow of oil money under his rule. High commodity prices have also helped in propping up tottering corrupt autocracies in Myanmar, Chad and the Congo, and did so in South Africa in the 1970s.
The most politically important example of an economically counterproductive regime cemented in power by high oil prices is Vladimir Putin’s government in Russia. Putin in his early years was economically reformist, instituting a 13% flat tax that brought massive economic growth. However his seizure of oil assets and harassment of foreign investors since 2003 must by now have had a major negative effect, had it not been for the continually soaring oil price. With high oil and gas prices, Putin can keep Russian business under political control, and can use Gazprom’s supply capabilities to harass both his near abroad in the former Soviet Union and the more distant but more economically powerful countries of Western Europe.
Once oil prices drop, it will be very interesting to see what happens to the Putin regime. My guess is that it will descend into pure autocracy, as it will no longer be able to win elections or pursue an activist foreign policy through building up its military power. But as the old Soviet Union showed, economically sclerotic autocracies can last a remarkably long time.
The political consequences of low interest rates and high commodity prices have been seen within the US as well as overseas. The subsidies for producing ethanol from corn, an environmentally damaging and entropically futile effort, are encouraged by the high price and scarcity of petroleum. The house price boom of 2002-05 was entirely caused by low interest rates; it is now having its inevitable effect in producing calls for bailouts of foolish subprime homebuyers. Most damaging and subtle of all, the continual rise of asset prices has convinced middle-class Americans both that they don’t need to save and that the old paradigm of near-lifetime employment, good pensions and subsidized healthcare was in some way inefficient and can be replaced by workforce turnover and stock option grants.
In the private sector, bull markets always encourage speculators and this has happened with additional force in this cycle. In the late 1990s, analysts who didn’t analyze combined with accountants who didn’t audit and day traders who knew nothing about fundamentals to produce short term profits for some and long term costs for the economy. Since 2002, the mortgage banking industry has been built up on a series of intellectually untenable theories:
Risk in a mortgage transaction can be removed and cost lessened by selling it, slicing it up and selling it in tranches to German and Chinese investors.
Financing long term assets through short term paper is financially sound, provided that the short term paper is issued by “conduits” so everyone can pretend it’s off their balance sheets.
In order to buy a house it is not necessary to have a steady income large enough to meet the mortgage payments; creative mortgage brokers remove this requirement.
House prices will continue rising forever, with an eternally active buyer market, even if you go on building houses like madmen
If as a local government you encourage massive amounts of house-building using illegal immigrant labor, you need not worry about the difficult future social problem of unemployed illegal immigrants, nor about future water shortages and overcrowded schools and roads, as your infrastructure fails to keep up with the overdevelopment.
A decade of loose money and rising asset prices has also made the financial services industry economically illiterate, at least at its margins. Hedge funds, in particular have engaged in a wide variety of short term games that must consume them in the long run. The “carry trade” borrowing yen and lending other currencies, for example, is not a viable long term business strategy. The assumption that Value At Risk models manage risk adequately, and remain equally adequate however arcane the derivatives being managed is also a nonsense that would have been quickly quashed in a normal market. The private equity business, that has landed the banking sector with $200 billion of “bridge financing” with no opposite pier to the bridge in sight, would also have been brought back to earth quickly with tight money, as it was after the RJR Nabisco debacle in 1988. In the 1980s, Mike Milken’s creative usage of junk bonds to finance ever more speculative transactions lasted less than a decade before producing bankruptcy for his firm and imprisonment for him. Equivalent follies have lasted far longer this time around; it is not a good thing.
Bear markets and recessions are unpleasant. However a period of loose money lasting over a decade, with accompanying bull market, rising commodity prices and apparently easy roads to wealth lowers the world’s collective IQ by a substantial percentage.
prudentbear.com/index.php?option=com_content&view=article&id=4798&Itemid=53
The Bear’s Lair: Empowering the fruitcakes
October 22, 2007
Martin Hutchinson is the author of "Great Conservatives" (Academica Press, 2005) -- details can be found on the Web site www.greatconservatives.com
The long world boom, driven by cheap money and resulting in high commodity prices, has had one overwhelming disadvantage: it has empowered a series of economic fruitcakes -- national leaders and private sector investors who operate on principles that make no economic sense. Without Schumpeteran “creative destruction” there is no force separating the sound from the unsound, the valuable from the insane. The long term destruction of wealth through this process will be far greater than the short term profits such people think they are creating.
For example the Center for Economic Policy and Research on Wednesday presented the Bolivian Minister of Hydrocarbons and Energy, Carlos Villegas. Evo Morales, the President of Bolivia, is a follower of Venezuela’s Hugo Chavez, but appears to be considerably less of a thug than Chavez. He also claims to be the first person of indigenous ancestry elected President of Bolivia, which if true indeed shows that the country has been run in the 180 years since independence largely in the interests of the Hispanic-ancestry governing class. If so, they’ve done a lousy job, as Bolivia is the poorest country in Latin America, in spite of having considerable natural resources, which of course is a large part of the problem. As British prime ministers from Sir Robert Walpole to Lord Liverpool could have told you, it’s perfectly possible for an oligarchy to rule in the interests of the country as a whole and enrich everybody including themselves by doing so.
Villegas was in town to give a vigorous defense of Bolivia’s nationalization of its oil and gas resources. All twelve of the foreign oil companies involved were happy to continue providing services to Bolivia without ownership of the oil, he claimed, while doubling production within 5 years would allow the Bolivian government to provide welfare to the poorest in Bolivian society, including those of indigenous origin. 50% of hydrocarbon revenues were to flow to the Bolivian government and the remainder, net of payments to international oil companies for services, would flow to the recently renationalized Bolivian state oil company YPFB. Bolivia intends to build a 1,500km gas pipeline into Argentina, which rations gas prices at about 50% of market price, in order to avoid the vulgar necessity of piping gas to the much closer Chilean coast, as had been agreed by the previous Bolivian government.
Since I was surrounded by True Believers, some of them distractingly beautiful (why do the left-of-center think tanks have all the pretty girls?) I decided against asking an aggressive question. Instead I merely inquired politely what Bolivia would do if the oil price dropped back to say $40, twice its level as recently as 2002. Villegas replied that I was foolish to believe that the oil price would ever drop back; demand from India and China meant that it might stabilize, but could never significantly retreat.
The leftist dream of nationalized Bolivian resources proving wealth to all Bolivians, without the unpleasant necessity of bringing in foreign companies has received majority support in referenda. Its only opposition comes from the oil-rich province of Santa Cruz, which is seeking independence, but as Morales has said his opponents are motivated by a “bourgeois ideology” of “free market, foreign investment, racism, etc.” The bourgeois ideologists have currently seized control of Bolivia’s busiest airport near Santa Cruz city and the dialectical struggle is ongoing.
Economically, the Morales government’s progress even looks plausible. Economic growth was 4.5% in 2006, in spite of an excessive 1.4% population growth rate, while the budget remained in surplus and inflation ran at 4%. Thus, taken on the surface, there is no special reason for the moderately well informed Bolivian voter, uninterested in the arcane corners of economic theory, to suppose that Morales’ policies are nothing other than economically sound; they have indeed produced a better short-term result than the much-maligned “neoliberalism” of 1986-2001. Only we know that if oil prices drop, the Morales experiment will descend into poverty and bankruptcy quickly, whereas if they remain high it will merely take a longer time to do so, as the capacity of government to destroy value, when unhampered by legal and market constraints, is essentially infinite.
It’s not surprising that electorates vote for economically suicidal political parties when the costs of doing so are so well hidden. If voters are given the choice between sound IMF-friendly policies that will improve their lot in the long run, but may cause as much as five years of economic pain as subsidies are removed and interest rates raised, it is by no means clear that they will always vote the “right” way. If in addition they are provided with an economic bonanza from commodity price movements, replacing 15 years of slow growth under IMF tutelage with a cornucopia that appears to make the leftist government’s promises of economic nirvana realistic, their decision making may be warped for a very long time.
Hugo Chavez, after all, has been in power for nearly a decade in Venezuela. The previous governments had been so corrupt and so economically unsuccessful (lowering national productivity by more than 25% in the period 1970-1998) that the vast majority of Venezuelan voters knew a change was needed, but in 1998 they chose the wrong one. Chavez was in severe danger of being ousted in 2001-02 and indeed was temporarily removed by a coup (which in the good old pre-Watergate days of the James Jesus Angleton CIA the US would have supported properly.) However after 2002 the rise in oil prices allowed him to pursue a foreign and domestic policy that won adequate support from his electorate, even though the generation-long decline in Venezuelan productivity only accelerated. Now he has control of the Orinoco tar sands, the United States has suffered severe strategic damage from his rule, at least while oil supplies remain tight.
Similar examples exist outside Latin America. The reformist Iranian government of Mohammad Khatami in 1997-2005 probably had little chance in any case against foolish US intransigence, but the anti-reformist and belligerent Mahmoud Ahmadinejad in power since 2005 has benefited immensely from the flow of oil money under his rule. High commodity prices have also helped in propping up tottering corrupt autocracies in Myanmar, Chad and the Congo, and did so in South Africa in the 1970s.
The most politically important example of an economically counterproductive regime cemented in power by high oil prices is Vladimir Putin’s government in Russia. Putin in his early years was economically reformist, instituting a 13% flat tax that brought massive economic growth. However his seizure of oil assets and harassment of foreign investors since 2003 must by now have had a major negative effect, had it not been for the continually soaring oil price. With high oil and gas prices, Putin can keep Russian business under political control, and can use Gazprom’s supply capabilities to harass both his near abroad in the former Soviet Union and the more distant but more economically powerful countries of Western Europe.
Once oil prices drop, it will be very interesting to see what happens to the Putin regime. My guess is that it will descend into pure autocracy, as it will no longer be able to win elections or pursue an activist foreign policy through building up its military power. But as the old Soviet Union showed, economically sclerotic autocracies can last a remarkably long time.
The political consequences of low interest rates and high commodity prices have been seen within the US as well as overseas. The subsidies for producing ethanol from corn, an environmentally damaging and entropically futile effort, are encouraged by the high price and scarcity of petroleum. The house price boom of 2002-05 was entirely caused by low interest rates; it is now having its inevitable effect in producing calls for bailouts of foolish subprime homebuyers. Most damaging and subtle of all, the continual rise of asset prices has convinced middle-class Americans both that they don’t need to save and that the old paradigm of near-lifetime employment, good pensions and subsidized healthcare was in some way inefficient and can be replaced by workforce turnover and stock option grants.
In the private sector, bull markets always encourage speculators and this has happened with additional force in this cycle. In the late 1990s, analysts who didn’t analyze combined with accountants who didn’t audit and day traders who knew nothing about fundamentals to produce short term profits for some and long term costs for the economy. Since 2002, the mortgage banking industry has been built up on a series of intellectually untenable theories:
Risk in a mortgage transaction can be removed and cost lessened by selling it, slicing it up and selling it in tranches to German and Chinese investors.
Financing long term assets through short term paper is financially sound, provided that the short term paper is issued by “conduits” so everyone can pretend it’s off their balance sheets.
In order to buy a house it is not necessary to have a steady income large enough to meet the mortgage payments; creative mortgage brokers remove this requirement.
House prices will continue rising forever, with an eternally active buyer market, even if you go on building houses like madmen
If as a local government you encourage massive amounts of house-building using illegal immigrant labor, you need not worry about the difficult future social problem of unemployed illegal immigrants, nor about future water shortages and overcrowded schools and roads, as your infrastructure fails to keep up with the overdevelopment.
A decade of loose money and rising asset prices has also made the financial services industry economically illiterate, at least at its margins. Hedge funds, in particular have engaged in a wide variety of short term games that must consume them in the long run. The “carry trade” borrowing yen and lending other currencies, for example, is not a viable long term business strategy. The assumption that Value At Risk models manage risk adequately, and remain equally adequate however arcane the derivatives being managed is also a nonsense that would have been quickly quashed in a normal market. The private equity business, that has landed the banking sector with $200 billion of “bridge financing” with no opposite pier to the bridge in sight, would also have been brought back to earth quickly with tight money, as it was after the RJR Nabisco debacle in 1988. In the 1980s, Mike Milken’s creative usage of junk bonds to finance ever more speculative transactions lasted less than a decade before producing bankruptcy for his firm and imprisonment for him. Equivalent follies have lasted far longer this time around; it is not a good thing.
Bear markets and recessions are unpleasant. However a period of loose money lasting over a decade, with accompanying bull market, rising commodity prices and apparently easy roads to wealth lowers the world’s collective IQ by a substantial percentage.
prudentbear.com/index.php?option=com_content&view=article&id=4798&Itemid=53