Editorial in Jan 2016: FED could weaken USD to shield US economy from risks ahead; Latin America: Demise of Mercosur
By Christian Takushi, on 7 Jan 2016
(see also short video from 21 Jan 2016)
Why markets could crash: geopolitical and political risks not priced in yet. Over the past 7 years Central Bankers have manipulated financial asset prices. They printed money and dared to buy up bonds & stocks. Thanks to the tight control of the FED over markets, investors did not really need to worry about the convergence of rising geopolitical tensions and macro risks. Many investors have grown so used to the FED protection in the past 7 years, that they even laugh about geopolitical factors. We have a gigantic Asset Bubble in the West and Credit Bubble in China.
Just as the FED pumped printed money into Financial Assets over 7 years, the Obama Administration was flooding Oil and Gas markets to put pressure on Russia, Brazil, Venezuela and Saudi Arabia. We have entered 2016 with an unprecedented massive Inflation in Financial Assets and massive Deflation in Commodity Prices. Somewhere we shall see a normalization: financial assets down sharply .. and Gold, Oil and Food rising.
The extended War of Currency Devaluations is running its course. Central banks are burning ever more money on the futile effort to devalue their currencies to support their economies, unleashing more devaluation by other nations. This is laying the foundation for the Global Currency Reforms and Wealth Transfers we are predicting. Most currencies are debased, which explains why central banks and major banks do all they can to push down the GOLD price: As investors measure a debased currency versus other debased currencies (i.e. USD vs EUR, USD vs JPY), they have the illusion of currency strength. But in fact it is becoming increasingly futile to try to make gains on debased paper currencies as the Day of Reckoning approaches. As we have been saying for years, Gold remains the Central Banks’ Enemy No 1. It is the global currency of last resort, that could sound alarm bells. Therefore investors should avoid having more than 25% of their assets in Gold: it is understandable that policy makers and major banks need to do everything they can to discourage investments in Gold. Thus massive concerted attacks against Gold will happen again and again.
7 years into this extreme ultra-low rate policy, its negative moral, political and economic side-effects outweigh the advantages. The FED, ECB and BOJ policies are depressing economic growth and reinforcing deflation. While Policy Makers receive praise for singlehandedly orchestrating a huge rally in bonds, equities and the USD, the financial system is entering a geopolitically vulnerable period with key central bank rates near zero. Thus, policy makers lack their most effective monetary tool to stabilize the economy in case of a systemic risk event. Against this backdrop, US policy makers have positioned themselves brilliantly to benefit from the ECB’s and BOJ’s lack of Strategic Foresight. The FED can now weaken the USD to shield the US economy from possible global shocks by simply disappointing well-fed expectations of US rate hikes.
The growing convergence of ultra-low policy rates, ballooning debt in debased paper-money, a fast aging population, dysfunctional indirect democracies and growing geopolitical tensions will lead to more discretionary use of extraordinary executive powers and bigger governments.
As you can read in our latest Quarterly Outlook the assertive move by Turkey unto the threshold of the EU and the US Elections 2016 are the biggest drivers of “new” Global Geopolitical Risks. The USA is sowing the seeds for the Rise of a Third Party. The US political risks could have a tremendous impact on the world economy and financial markets. The decline of Europe is not a lesser concern for the global geostrategic balance, though.
As “Mercosur” economies implode they begin to embrace the market-friendly model of “Pacific Alliance” nations ..
In recent months we have also pointed to Russia’s new strategy in the Americas. After supporting Socialist anti-US states with their failed economies, Russia has recently upgraded Peru as a strategic military ally. Why is this remarkable? Peru is a staunch free-market economy and politically-economically friendly towards the USA. It is part of the successful PACIFIC ALLIANCE that encompasses Chile, Peru, Colombia and Mexico. Those four nations are merging their equity markets and plan a joint passport. Argentina, as first major Mercosur economy, has begun to embrace the market economy and to reestablish relations with the USA – while keeping military relations with Russia. Russia wants to have serious military partners on the Pacific and Atlantic coasts. The Russian approach is not antagonistic, and both Peru & Argentina view these strategic relations as a way to keep a balance between different powers: USA, China, Russia, EU etc.
While the Mercosur economies of Venezuela, Brazil and Argentina experience hardship after decades of Populism & Socialism along US-antagonism, signs mount that they are tentatively moving in the right direction. But it could be too late for some – while politics can be reversed, not so the advanced breakdown in society. Venezuela’s Congress has shifted right, Bolivia is bringing back governance while Argentina has elected a pro-market President. Brazil is realizing its Socialist economic program was flawed. Nevertheless, two generations that grew up receiving government hand-outs in Brazil and Venezuela may shun the long pain of market reforms. Argentinians have shown they are tired of the promises of Populists & Peronists, but can they stomach the reforms and competition that are coming?
The long struggle between the PACIFIC ALLIANCE and MERCOSUR seems to be cooling down. Mercosur will be deemed a failure by historians. It brought its citizens consumption booms financed by debt and government hand-outs, financed by commodity exports. It did not make their economies more competitive. A highly explosive macro policy mix. The Pacific Alliance nations are “fitter” for global competition and – put together – they export twice as much as Brazil. As Socialism & Populism recedes in Latin America to a more responsible and less ideological level, more cooperation between Atlantic and Pacific economies shall be possible. Brazil and Peru want to build a Railway linking the Pacific and Atlantic Oceans – a good start.
But we cannot only blame Socialist, Populist/Peronist leaders and their antagonism against the USA for the collective failure of Mercosur economies. Many NGO’s, most of them financed by Western nations, were a double-edged sword. While they helped bring much-needed ecological & social awareness, many NGO’s descended over Latin America to instigate a highly militant attitude against business and international investors. A more responsible and balanced (i.e. less ideological) approach by all players and stake-holders including governments, businesses, NGO’s and governments is crucial for a sustainable development of Latin America.
Having said that, it is central to state that the ultimate responsibility stays with the “citizens” themselves. In many cases they chose the leaders promising the most and demanding from them the least. And this maturity or lack thereof gets periodically tested: After 3 years of weaker economic growth and the rise of charismatic Socialist leaders, many fear the environment is ripe for a shocker in Peru: a voter revolt against 3 decades of Market Economy. If Peruvians prove analysts wrong, they will have shown maturity in rejecting both Radical Populism or Radical Socialism. Those foreign to Latin America may not appreciate this highly enough: Both failed ideologies are something most Latin American nations cannot seem to get enough of – regardless of their utter failure.
With several decades of clear pro-business course, Chile, Peru and Colombia (if the latter one can put terrorist violence behind) are proving to be in a class of their own in South America. But Peruvians need to keep a sense of gratefulness to the many brave Chilean businessmen that some 25 years ago accepted Mr. Fujimori’s word and came to invest in a desolate economy and a people many deemed too heterogeneous and divided. A war-torn nation with no credit-worthiness and working infrastructure left, but with a staying power and commitment that has defied many of Latin American idiosyncrasies.
An attitude of learning from one another would be helpful for Latin America. Even Socialist leaders have ideas and programs that could make sense within a capitalistic framework that aims at sustainability rather than short term profit maximization. Businesses benefit also longterm from a sustainable and balanced economic model. Mrs. Veronika Mendoza – shun for her radical left-wing views – is right in asserting that Peru needs to diversify away from commodities mining. Most international economists – myself included – believe Mrs. Keiko Fujimori and Mr. Pedro Pablo Kuczynski have the better programs to lead Peru into the transition to a more balanced economy, though.
Our view on Brexit has been cautious from the beginning and we have warned of the somewhat condescending fear campaign by businesses and politicians. The British people could shock the global political-economic establishment, especially in London and Brussels. While Britain could adapt and excel, the move would accelerate the EU crisis and the Transition of Europe towards a European Confederation. Many EU members are simply unfit for the rigors of global competition. A shake-up or break-up may be just a necessary step to a more coherent structure or set of unions. Long term external forces will overwhelm individual nation states and steer a strategically unprepared & over-managed continent towards a super state.