War Games

By Grant Williams

January 29, 2013

The Asian currency crisis of 1997 contained the seeds of an East vs. West currency conflict, but catastrophe was averted, despite the damage that was done to the US deficit and the seeds that were sown for a decade-long war of words between the US and China — all of which brings us right back to today and the currency war that is just getting going.

Whenever such things are talked about, it is invariably in the context of the US dollar; but the trade war I want to take a look at specifically is the one brewing in my part of the world, between two powerhouses who bear considerable enmity towards one another. No, not China and Japan (that has the makings of a war of an altogether different kind), but Korea and Japan.

The rather unfortunate-looking vehicle (left) is the Sibal — the first car ever produced in South Korea. It was developed by the Choi brothers in 1955 and was based (as you can clearly see) on the chassis of the Willy’s Jeeps left behind by departing US troops — only about 50% of its parts were locally produced.

This put the Korean automobile industry about 40 years behind that of Japan, whose storied zaibatsu (conglomerates) began building in the 1910s the cars that would eventually come to dominate the world.

The other area where Japan had it over Korea was consumer electronics.

Back in the 1980s and into the 1990s, companies such as Sony, Pioneer, Hitachi, and Sharp were producing consumer electronics widely recognized as the best in the world; and alongside the likes of Toyota, Nissan, and Honda they helped Japan Inc. stand astride the world.

Back then, Korean cars and consumer electronics were, frankly, a bit of a joke.

Nobody who could afford not to would buy a Daewoo or a Hyundai car. Nobody wanted an LG television. In fact, in 1981 Samsung Electric (the forerunner to Samsung Electronics) proudly boasted that it had manufactured its 10 millionth black & white TV.Fast forward to 2012, and the change in the landscape has been nothing short of seismic.

Sharp sits on the verge of bankruptcy, once-mighty Sony has seen its share price plummet and is now the subject of speculation as to who may buy it and Hitachi is known more for computer disk drives than consumer electronics. Meanwhile, Samsung Electronics is the only company in the world giving Apple a run for its money.

Samsung surpassed Sony in 2005 to become the world’s 20th-largest brand, and by 2012 it had not only become the world’s largest-selling mobile phone company (some feat in today’s Apple-dominated world) but had spent a brief period in 2007 as the world’s largest technology company, when it leapfrogged the then-incumbent, Hewlett-Packard.

How did all this come about? Simple:

Source: Bloomberg

As the yen strengthened due to its anchor role in the carry trade, the won weakened substantially, making Korean products far cheaper than those of their Japanese counterparts. Simultaneously, the quality of Korean cars and consumer electronics was improving dramatically, enabling Korean consumer electronics to sweep past those of Japan and their car industry to reach heights never dreamed of when the Choi brothers cobbled together the Sibal, as a look at the best-selling cars of 2012 demonstrates:

✔1. Toyota Corolla (Japan)

✔2. Hyundai Elantra (Korea)

✔5. Kia Rio (Korea)

✔8. Toyota Camry (Japan)

Having been gifted a huge headstart by Japan, South Korea is not about to allow the Japanese to claw that advantage back by standing still and letting them weaken the yen, as was made apparent by comments from South Korea’s finance minister, Kim Choong-soo, in Davos this past week:

(CNBC): Basically, the level of foreign exchange has to be determined by market fundamentals in the medium to long-run. But in the short run, we all know that there are times where noises can matter, disturbances can take effect. But that’s only for the short-term period,” Kim told CNBC on the sidelines of the WEF in Davos.

“We all know the grave consequences of competitive devaluation efforts, which we experienced some decades ago. So I think it’s time to sit together to talk about that. We live in a global economy, so you yourself cannot do something alone,” Kim said. “You have to cooperate with your partners.”…

Asked whether South Korea would be forced to respond to the Bank of Japan by managing the won in a more meaningful way for the country’s manufacturers, Kim said: “It all depends upon how markets respond to such moves, and the markets have changed over time… our central bank will do whatever it’s supposed to do to protect the high volatilities in the financial sector.”

“And I’m particularly concerned about the volatilities. If changes are made too rapidly, we all know that will create uncertainties, and we have to do something to prevent that from happening,” Kim added.

Source: Bloomberg

Japan’s currency has been strengthening for two decades, while its competitors have been happy to sit back and let the weakening effects of that move on their own currencies continue. Now Japan has decided it needs a weaker yen, and though the move has thus far been fairly powerful, we have reached the point where the likes of Korea will step in and defend the advantage they have gained over the last twenty years. As can clearly be seen from the graph (previous page), Korea’s KOSPI Index has decoupled from the Nikkei as the yen slide has picked up speed, and that is a phenomenon South Korea simply cannot allow to continue.

This is how it starts with Currency Wars.

When it comes to ammunition reserves, Japan’s balance sheet dwarfs that of Korea, with almost four times the amount of foreign currency at their disposal; but they will be fighting this currency war on multiple fronts, and those reserves can quickly become exhausted.

Source: IMF

Printing money or devaluing your currency in a vacuum is one thing. Generally, you can make a difference up to the point where those against whom you are attempting to weaken push back (ask the Swiss National Bank); but once it becomes a competitive sport, all bets are off.

This past week, Japan announced that, as of January 2014, it will begin an open-ended, unlimited QE program to monetize Japanese debt (they are currently buying 36 trillion yen a month, or about $410 billion) and attempt to generate the magical 2% inflation that will decimate its bond market solve all its problems. Sadly, this does no more than allow Japan to catch up with other central bankers around the world who are already monetizing like crazy; but, purely on the basis that something is better than nothing, this change in policy has been cheered to the echo.

As we head into 2013, we find ourselves in a situation unlike any that has ever occurred in the history of global finance. The ability to simplify the complexity of that situation is something only the very brightest amongst us are able to do, and one such man is Raoul Pal of the Global Macro Investor (with whom I have recently been fortunate enough to have a fascinating dialogue). Raoul put together a very simple list which, at the time he compiled it in late December, beautifully highlighted the utter absurdity of today’s central banking folly.

The list was split into sections that grouped the 38 countries that had negative or zero real rates (yes: THIRTY. EIGHT.), as well as the countries that either had explicit QE programs in place or were actively intervening in or verbally manipulating their currencies:

Source: Raoul Pal, Global Macro Investor

Now, does it seem remotely possible that all these countries can have weak currencies at the same time? Of course it isn’t possible. Not without rampant inflation, it isn’t. But that doesn’t appear to be a problem for the central bankers of the modern world, who are confident that inflation is ‘contained’. Yes, ‘contained’. Is anyone paying attention, I wonder?

The competitive devaluation merry-go-round will continue, because these buffoons have left themselves no other options. A currency war will break out in earnest; because none of them will be able to generate the weaker currency they need, and that will in turn lead to several exits from the EU, because the weaker economies will need to regain control of their own currencies and not be beholden to Brussels. This is the way things go, I am afraid.

“One, two, three, four, I declare a currency war!”

http://www.ritholtz.com/blog/2013/01/one-two-three-four-i-declare-a-currency-war/?utm_source=dlvr.it&utm_medium=twitter

Hell ya Iceland

Strock, Charmichael, Armstrong

From Dr John

"The newest iteration of the bullish case is the idea of a “great rotation” from bonds and cash to stocks, as if the outstanding quantity of each is not held by someone at every point in time. The head of a “too big to fail” investment firm argued last week that stocks are “underowned” – as if every share of stock presently in existence is not actually owned by someone. To assert that stocks can be “underowned” seems to reflect either a misunderstanding of how markets work, or a desire to distribute overvalued institutional holdings onto the unwashed muppets. Likewise, the idea of a “rotation” out of bonds and into stocks begs the question of who will buy the bonds and sell the stocks, as someone must be on the other side of that trade. Similarly, to “move cash into the market” requires a seller of stock who becomes the new holder of said cash.

Quite simply, the reason that pension funds and other investors hold more bonds relative to stocks than they have historically is that there are more bonds outstanding, relative to stocks, than there have been historically. What is viewed as “underinvestment” in stocks is actually a symptom of a rise in the gross indebtedness of the global economy, enabled and encouraged by quantitative easing of central banks, which have been successful in suppressing all apparent costs of that releveraging.

The "rotation" fallacy has emerged even in the work of analysts that we admire. Ray Dalio of Bridgewater talked on CNBC last week of a move “out of” cash and “into” stocks, seemingly reversing comments he made only weeks ago at the Dealbook conference (h/t PragCap) where he suggested that risk premiums are likely to expand, that the effects of QE are diminishing as we do more rounds, that we’re facing austerity, that growth is flagging, that the economy is facing unprecedented risk, and that we face a slowdown with very little room to maneuver. Meanwhile, Albert Edwards of SocGen suggested that there has been an excessive “move away from equities” in recent years – instead of noting, for example, that the volume of U.S. government debt foisted upon the public (even excluding what has been purchased by the Fed) has doubled since 2007, not to mention other sources of global debt issuance, while the market capitalization of stocks has merely recovered to its previously overvalued highs.

It’s fine to argue that perhaps investors are momentum chasers, and with profit margins now about 70% above historical norms (making stocks seem both "safe" and misleadingly cheap), with stock prices up, and with low returns on cash, investors not holding stocks will be the greater fools that allow investors who do hold stocks to get out. Indeed, that is an argument that I fully embrace as logical – the only issue being the extent to which one wants to assume the perpetual existence of a greater fool, as the supply of greater fools seems increasingly exhausted. But the problem with the “great rotation” argument is that somebody has to hold the debt. Somebody has to hold the cash. It cannot go anywhere, and it is impossible – in aggregate – for the markets to “rotate” out of it."

..."As of last week, market conditions joined 1929, 1972, 2000, 2007 and 2011 (less memorable, but still associated with a near-20% market decline) as one of the worst periods on record to accept market risk, based on the syndrome of overvalued, overbought, overbullish, rising-yield conditions presently in place. These conditions comprise the following: S&P 500 overvalued with the Shiller P/E (the ratio of the S&P 500 to the 10-year average of inflation-adjusted earnings) greater than 18; overbought with the S&P 500 within 3% of its upper Bollinger band (2 standard deviations above the 20-period average) at daily, weekly, and monthly resolutions, more than 7% above its 52-week smoothing, and more than 50% above its 4-year low;overbullish with the 2-week average of advisory bullishness (Investors Intelligence) greater than 52% and bearishness below 28%; and yields rising with the 10-year Treasury bond yield higher than 6-months earlier. The present instance may turn out differently than past ones. The enthusiasm of investors here certainly encourages that belief. Then again, virtually by definition of the foregoing syndrome, investors were equally enthusiastic at those prior market peaks."


http://www.hussman.net/wmc/wmc130128.htm

China’s Yi Warns on Currency Wars as Yuan in ‘Equilibrium’

By Jeff Black & Zoe Schneeweis - Jan 26, 2013 5:07 PM CT

The deputy governor of China’s central bank signaled he’s comfortable with the yuan’sexchange rate and urged Group of 20 nations to improve collaboration if so-called currency wars are to be avoided.

“Right now, it is pretty much close to the equilibrium level,” Yi Gang said in an interview at theWorld Economic Forum’s annual meeting in Davos, Switzerland. On a global level, there needs to be “better communication and coordination” on foreign exchange among G-20 countries.

Debate has reignited as Japan’s new prime minister, Shinzo Abe, pushes for laxer monetary policy, sparking a slide in the yen. Bundesbank President Jens Weidmann has warned against “increasing politicization of the exchange rate” that might undermine the Bank of Japan’s independence.

At the same time, criticism over China’s exchange rate regime has abated in recent months.Lawrence Summers, the former top economic adviser to U.S. President Barack Obama, said Jan. 14 that China’s yuan is no longer as undervalued as it was five years ago. The currency has appreciated about 17 percent against the dollar since the end of 2007.

Yi said that he expects China’s current account deficit to narrow, which would slow the accumulation of foreign reserves.

Foreign Reserves

China’s foreign-exchange reserves, the world’s largest, rose the least since 2003 last year, according to data published Jan. 10. The holdings increased to $3.31 trillion at the end of December from $3.18 trillion a year earlier. Reserves may rise to $3.45 trillion this year, according to the median estimate of 16 economists in a Jan. 24 Bloomberg survey.

“Accumulation of official reserves would be slower and converging to a more or less stable level,” Yi said.

Earlier, during a panel discussion, Yi said that “for the foreseeable future probably we still have the potential of 7 to 8 percent growth.” Growth will be mainly be led by domestic demand “as people’s income continues to increase.”

China is seeking to shift from exports and investment to a consumer-driven economy and achieve a more sustainable growth trajectory than the rates of 10 percent and more over the past decade. At the same time, the Communist Party leadership headed by Xi Jinping needs to head off any social unrest.

The rising wages fueling gains in Chinese consumption are eroding the nation’s role as the world’s low-cost manufacturer. Twenty-five provinces raised minimum pay by an average 20.2 percent last year, the Ministry of Human Resources and Social Security said on Jan. 25.

Single-Digit Growth

Yi’s growth estimates are in line with projections from the nation’s statistics bureau, which show that the world’s second- biggest economy is entering a period of slower growth as the working-age population declines and resources become more scare.

“China’s double-digit growth is no longer the norm” and its traditional model is no longer sustainable, Zeng Peiyan, a former vice premier in charge of economic planning, said at a forum in Beijing yesterday. The nation is “entering a single- digit phase of growth,” said Zeng, who now heads the China Center for International Economic Exchange.

China may grow 7.8 percent to 7.9 percent in the first quarter, Zhang Xiaoqiang, the deputy head of the National Development and Reform Commission, said in an interview in Davos yesterday. That compares with the 8.1 percent median estimate in a Bloomberg News survey of 30 analysts this month and 7.9 percent in the fourth quarter.

QE Infinite

Yi, who also heads the State Administration of Foreign Exchange, said he’s concerned about the potential fallout from quantitative easing in the world’s advanced economies.

“Quantitative easing for developed economies is generating uncertainties,” he told reporters in Davos.

The foreign-exchange regulator has renewed concerns that China will see fresh speculative inflows of money after the U.S. and Japanese central banks said they would pump more funds into their financial systems.

“The policies in major economies of monetary easing and low interest rates will boost global liquidity, increase risk preferences in the market and drive speculative funds into China,” SAFE said in a statement on its website on Jan. 25.

Speaking in Beijing, Lou Jiwei, head of the country’s sovereign wealth fund, said he expects loose monetary policies to continue.

“When everybody talks about whether the U.S. will have a QE4, I say no,” Lou, chairman of China Investment Corp., said at a forum. “The feature in the future is called QE infinite. Global central banks will adopt an infinite QE policy.”

http://www.bloomberg.com/news/2013-01-26/china-s-yi-warns-on-currency-wars-as-yuan-in-equilibrium-.html

Johnny F'n Football

LA and Oprah

Hedgeye Outlook Q1 2013

Azerbaijan to add to gold reserves and repatriate reserved held in London

 17 January 2013 10:40

Baku. Nijat Mustafayev – APA-Economics. Azerbaijan will reach gold reserves up to 30 tonnes within this year, executive director of SOFAZ Shahmar Movsumov said, APA-Economics reports.

To him, SOFAZ started to invest in gold since February of last year and the Fun obtained 15 tonnes gold in amount of $1.5 bn: ‘At present, the gold is kept in London. We have started to bring about 330 kg gold to Azerbaijan per week. The amount of gold brought to the country is nearly 1 tonnes’. 

Movsumov noted that at present, despite the fact that the gold brought form London is kept at the CBA, SOFAZ will establish special treasury in newly-constructed administrative building and Azerbaijan’s gold reserve will be maintained at this treasury: ‘The construction of the administrative building will be completed until the end of 2013’.

Movsumov also added that according to the strategy of SOFAZ, the capital invested in gold must make up to 5% of Fund’s investment portfolio: ‘The mentioned 5% is enough for Azerbaijan. But nevertheless, we may increase this figure. In general, by the end of 2013 we will purchase more 15 tonnes gold. We intend to hit gold reserves up to 30 tonnes’. 

http://en.apa.az/news_azerbaijan_to_increase_gold_reserves_by__186124.html

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Russia warns of Currency War

By Simon Kennedy & Scott Rose - Jan 16, 2013 6:51 AM CT

The world is on the brink of a fresh “currency war,” Russia warned, as European policy makers joined Japan in bemoaning the economic cost of rising exchange rates.

“Japan is weakening the yen and other countries may follow,” Alexei Ulyukayev, first deputy chairman of Russia’s central bank, said at a conference today in Moscow.

The push for weaker currencies is being driven by a need to find new sources of economic growth as monetary and fiscal policies run out of room. The risk is as each country tries to boost exports, it hurts the competitiveness of other economies and provokes retaliation.

The alert from the country that chairs the Group of 20 came as Luxembourg Prime Minister Jean-Claude Juncker complained of a “dangerously high” euro and Norwegian Finance Minister Sigbjoern Johnsen said a strong krone challenges the economy.

Yesterday “will go down as the first day European policy makers fired a shot in the 2013 currency war,” said Chris Turner, head of foreign-exchange strategy at ING Groep NV in London.

G-20 Clash

The skirmish may lead to a clash of G-20 finance ministers and central banks when they meet next month in Moscow, three months after reiterating their 2009 pledge to “refrain from competitive devaluation of currencies.”

While emerging markets have repeatedly complained about strong currencies as a result of easy monetary policies in the west, the engagement of richer nations is adding a new dimension to what Brazilian Finance Minister Guido Mantegafirst dubbed a currency war in 2010.

After Switzerland blocked the franc’s appreciation against the euro since September 2011, Japan has reignited the latest round of rhetoric as newly elected Prime Minister Shinzo Abe campaigns to spur growth via a more aggressive central bank. The yen has slid 11 percent against the dollar since December and this week touched its lowest level in two years.

Now other policy makers are speaking out. Juncker, who leads the group of euro-area finance ministers, said yesterday that the euro’s 7 percent gain against the dollar in the past six months poses a fresh threat to the European economy just as it shows signs of escaping its three-year debt crisis.

‘No Concern’

While the euro fell, the power of his words may be limited by signals from the European Central Bank that it isn’t prepared to favor a weaker currency. ECB President Mario Draghi last week said he has no goal for the exchange rate, although he noted the euro was trading at its long-run average.

The euro exchange rate is “not a major concern,” ECB council member Ewald Nowotny told reporters in Vienna today.

“For us, the exchange rate of the euro is one variable to be factored in, but isn’t a goal in itself,” ECB Executive Board member Peter Praet told La Libre Belgique newspaper in an interview published today.

Still, economists at Goldman Sachs Group Inc. and Citigroup Inc. (C) said in reports today that a further strengthening of the euro could eventually help trigger an interest-rate cut from the ECB.

‘Negative Impacts’

In Norway, Johnsen said in an interview today that the government must ease pressure on the Norges Bank to avoid krone strengthening by conducting a “tight” fiscal policy. Norges Bank Deputy Governor Jan F. Qvigstad said yesterday that if the krone remains strong until policy makers meet in March, “that of course has an obvious effect on the interest rate.”

That pushed the currency, which has emerged as a haven from the European crisis, to its lowest level in more than two months versus the euro.

Elsewhere, Bank of Korea Governor Kim Choong Soo said Jan. 14 that a steep drop in the yen could provoke an “active response to minimize any negative impacts on exports and investor confidence.” Vice Finance Minister Shin Je Yoon said today that South Korea wants the G-20 talks in Moscow to focus on adverse effects of monetary easing in the U.S., Europe and Japan.

If Japan continues to pursue a softer currency, reciprocal devaluations would hurt the global economy, Russia’s Ulyukayev said today. That echoes recent concern from other international policy chiefs.

Federal Reserve Bank of St. Louis President James Bullard said Jan. 10 that he’s “a little disturbed” by Japan’s stance and the risk of “beggar-thy-neighbor” policies.

Reserve Bank of Australia Governor Glenn Stevens said Dec. 12 that there is a “degree of disquiet in the global policy- making community,” while Bank of England Governor Mervyn Kingsaid Dec. 10 that he worried “we’ll see the growth of actively managed exchange rates.”

http://www.bloomberg.com/news/2013-01-16/russia-says-world-is-nearing-currency-war-as-europe-joins.html