United States USD Policy is Misguided

September 27, 2010

I begain writing this about a week ago, and am beginning to see some media reports supporting my argument below, thankfully. Hopefuly, these opposing opinions to current US Policy are not too late.

Recent media reports indicate a growing strain between US-Sino relations over the Chinese policy on currency valuation. The fervor of Chinese currency manipulation is once again bubbling within the United States.

The US, or at least those proponents of this agenda believe China’s cheap currency is artificially low and therefore is creating unnatural imbalances in global reserves and global trade.

In layman’s terms these folks think the shit we import from China is too cheap, giving Chinese manufacturers an unfair pricing advantage in global trade. As a result, dollars flow (as well as the currencies of other developed countries) into China and just stay there.

The logic being espoused now is that in order to correct these imbalances the Chinese should be letting their currency appreciate (at least against the dollar) by as much as 20-40% as of recent reports. This is a large movement as it pertains to currencies, and normally would be something that might happen naturally over the course of years, if not the better part of a decade.

Recent reports claim that a growing consensus of US policy makers want to see this kind of movement in the Chinese currency over a far shorter time frame.

For more than two decades US consumers have benefited directly and indirectly from a relatively weak Renminbi (Yuan). We were able to consume more Chinese imported / manufactured goods for less money. Indirectly this helped to keep inflation in check, and benefited industries who were able to capitalize on China’s relentless demand for natural resources and those companies who were able to arbitrage the cheap cost of Chinese labor.

Now that US unemployment stands as high as it has been in over a generation, America seems abruptly convinced that part of our troubles have arisen from the fact that our finished goods cannot compete with the prices of Chinese finished goods and therefore China is “keeping a good man down”. Funny we don’t consider our legacy cost structures part of the problem.

If not absurd, the evangelical approach supporting a rapid rise in the Renminbi is at least short sighted, and may actually dangerous for the US.

The end result of a rapid rise in the Renminbi (RMB) against the US Dollar would certainly help US manufacturers compete better on price in the global market place, this would particularly benefit our durable goods industries like cars that are assembled here. However increasing the purchasing power of the Chinese consumer dramatically and quickly seems to me might have other adverse consequences.

For one, despite continued commentary that inflation is not an issue, anyone who does grocery shopping in the United States can tell you otherwise. Food prices have not benefited from the deflationary recession that took home prices and the prices of other durable goods down. As per-capita purchasing power increase for the Chinese consumer, we here at home will be competing with them more heavily for grains, dairy and protein which will surely drive up global prices.

The same scenario that is described for food would also apply ubiquitously across all commodities and natural resources. In fact a fast rise in Chinese purchasing power might incentivize stockpiling, creating additional pressure on the prices of all natural resources.

In addition a stronger RMB relative to the USD specifically implies not only an increase in the relative purchasing power for the Chinese but concurrently a relative decrease on the purchasing power for Americans, a major double whammy. In the areas where we compete to consume natural resources this could have dramatic, adverse and even rapid consequences.

The direct impact would be modest to severe rise in price driven inflation, particularly for “headline” CPI. Core CPI would be less impacted in the near term as it excludes food and energy prices. I won’t explore how the government gooses these numbers anyway.

The political agenda out of Washington is currently misguided, if not dangerous. An article today appearing in Bloomberg alludes to this as well. In the article Nobel-Prize winning economist Robert Mundell says that U.S. legislation to press China to raise the value of the yuan [RMB] would be a “disaster” and fail to narrow the trade deficit between the two nations. He goes on to say:

The bill “would create a very damaging thing to the world economy and the stability of Asia,” Mundell said. “This would have a wounding effect on the stability of international relations. There’s never been any precedent in economic history where a country through any legal system was forced to appreciate its currency relative to another country.”

“It’s not going to have much of a dent in the U.S. deficit,” he said. “America has had a huge deficit since the 1980s. None of that is going to change if China changes its exchange rate.”

Policy makers should try to keep the currencies within a range to prevent “huge swings” in the price of raw materials such as oil, he said.

The euro-dollar fluctuation “is a terrible thing for the world economy,” Mundell said. “We’ve never been in this unstable position in the entire currency history of 3,000 years.”

I agree with Mundell. What he doesn’t say directly but he alludes to is that US policy smacks of protectionism, and at a time and with a trading partner that could undermine the global recovery. A protectionist policy agenda with China could easily and quickly escalate to stimulate a new geopolitical divisiveness that in its worst form could lead to war(s).

This week in fact the House of Representatives is voting on a China trade tariff that would inflate the cost of more Chinese goods imported into the US. This comes after a handful of other trade tariff disputes since Obama took office on things such as tires and gift boxes. In retaliation earlier this year China proposed a tariff on US chicken going into China.

There is no good that can result from an escalation of trade tariffs, a system that was mostly dismantled through globalization. It is only a matter of time before the US/China trade was draws allies inspired to align their home interests by protecting their own major industries.

At home in the US, the result would further squeeze the middle-class American budget that Obama so adimantly wants to protect. It’s not the wealthy that rely on cheap products from China Mr. Obama, its the men and women who are trying to stretch every dollar.

My alarmist comments are not unfounded by anyone who knows a little bit of history and has a little bit of vision. But the future of human survival will depend on social order. A major imbalance in global resource production and consumption (particularly in food and energy) could tip a boat that has been running evenly for more than half a century. If you want to consider what happens when people cannot eat, consider the Middle East and Africa where poverty rates and lawlessness run hand in hand.

What makes this policy misstep so dangerous in my opinion is that it is driven not by rational thinking that can be tested and rebuffed, but instead by dogmatic Middle-Class zealotry. The administration in its effort to return middle-class Americans to work, may incite the worst bout of protectionism seen since before World War II, an action that could certainly inspire a new Cold War, and as mentioned before possibly a real one. I am not a Republican, nor do I consider myself to be overly conservative, but I think they have got this RMB agenda all wrong.

I believe the Obama Administration has done a tremendous job with what was left behind by the Bush Administration. However, I see forcing China on its currency as having the potential to undermine everything accomplished thus far, and with the potential to recreate a level of global instability far in excess of what was left behind by the Bush Administration.

It seems to me that a better agenda for the administration would be to focus on USD stability instead on RMB parity. The vast majority of the World’s commodities are priced in USD. In addition, US corporations are faced with the onerous task of calculating their currency exposures on a regular basis. Even small and medium sized business who may not have significant overseas sales are victims of price instability caused by commodity fluctuations. Consider the chart below.

DXY: US Dollar Index Spot Summary - USDI Chart 2006-2010

DXY: US Dollar Index Spot Summary - USDI Chart 2006-2010

The USD index has made moves of 10-15% three times now in the last two years. This is unprecedented volatility in the world’s largest reserve currency. The USD Index has spiked when fear spiked, and sank when fear subsided. The US currency has effectively become the beneficiary/victim of the global risk on/risk off trade. With equity and bond markets now chasing highs, the dollar is again heading downward.

At some point, however, I suspect unless we stabilize our currency, it will begin to lose its place as the preferred store of value. Not to mention what this volatility has done to commodity prices effecting everything from food and fuel, to industrial goods. Companies who bare the brunt of controlling costs or raising prices are force to make decisions today that may be totally obsolete a few months from now, based on currency movements alone. Regardless of the structural imbalances between China and the US, and despite objective (or subjective) relative valuations of the RMB vs the USD, I have to believe that price stability predicated by US Dollar stability is the more immediate issue rather than the RMB/USD exchange ratio.

In a world of uncertainty and unprecedented volatility, we need stability. We are so focused on China’s proported currency manipulation when the truth is we ought to be more concerned over our own.

Remember China has about four times the population as the US. The more the RMB appreciates, the greater the increase in 1.2 billion people’s purchasing power. Are we really sure we want to force that agenda? Seems idiotic to me.

Text to Animation Website

September 23, 2010


This video has made the rounds and won a lot of popular acclaim.  The creator has probably gotten funding for a feature, and the website that helped create it has put itself on the map.  I posted an earlier entry on Text to Speech, so I felt it was relevant to provide a link.  Maybe one of these days I’ll get around to making my own short.

The website is called Xtranormal.com.

Sources of Volatility

September 23, 2010

The market doesn’t like what it cannot know.  While market volatility seems to have risen and remained elevated since the repeal short trading rules in 2007, the Credit Crisis fueled market volatility like charcoal fluid on a charcoal grill.  Uncertainty of any kind is always an enemy of smooth and steadily rising markets, because market participants buy assets based on the expected values of future cash flows.  The harder it is to sharpen those estimates, the more “noise” that appears in market prices.  Inherent in that volatility is of course opportunity for those with the right set of facts.  Today’s volatility however is less driven by pure panic stricken fear, and more by the uncertainty of what we don’t know. The market doesn’t like what it cannot know, and with much of current corporate spending, hiring and profits linked to legislation that has yet to be written, passed or enforced, market participants know that they don’t know because the rules are being rewritten. None of these ideas are new, but they are all notable reasons why markets wobble and bobble like a nine month old learning to walk.

A result of a lot of this volatility seems to be a marked decrease in the credibility of the financial media.  I often feel like the headlines investors are fed are a see-saw of information that serve more to whipsaw logic and create more uncertainty.  Wire-news headlines often seem to contradict one another, but it is rare that we get to see them juxtaposed as well as the pair below, notice the same time both published on September 16, 2010.

Headlines of FedEx Profit Report, September 16, 2010 (Source: Finviz.com)

Reading both of these headlines, what is a less trained eye supposed to surmise?  Well yes, seeing contradicting headlines does likely cause some people to actually read the stories, it probably leaves most people surreptitiously confused and at least uncertain.

Nassim Taleb has written of the Narrative Fallacy, which is a fancy way of saying the people simply make shit up based on the facts at hand, weaving a story they think their readers or viewers want to hear or a story warm to their own point of view, intentionally or not.  Many narrative fallacies are hard to spot in the course of a regular day unless you have your bullshit radar on 24/7.  Most of us don’t have time to sniff every thing we eat before it goes in our mouth (think business lunches), and we certainly don’t have time to be active readers of most of our news media.  We consume the news much like we used to consume music videos, to remain in touch with current events, and for some entertainment value.  People who seek the truth these days generally read multiple sources and try to triangulate an opinion of a story.   Narrative fallacies in the media usually reveal themselves to those readers who can take the time to triangulate stories from multiple sources, and who are able to separate facts from opinion.

The headlines above, with links provided below, offer a rare glimpse into the Zeitgeist, as both headlines were published at the same time on the same day, aggregated by one of my favorite free financial websites, Finviz.com.

FedEx Profit More Than Doubles:

FedEx Forecast Trails Estimates; 1,700 Jobs to Be Cut (Update1):

Headlines like these impact a lot of readers, unfortunately most are only seeing one of these stories.  For the vast majority of readers who think they have gotten the whole story from the headline, the take-away is dramatically different.  The first leads the reader to believe that FedEx posted extremely excellent results.  Why else would they write “more than doubles”?  Of course on Wall Street its not how you did, but how you did relative to how others were expecting you to do, because everyone has done their homework and everyone has an opinion.  Thus Bloomberg’s headline is more accurate to how FedEx’s stock actually performed that day which was to close slightly down on the day.  Surprise, Rupert’s paper is not fair or balanced!

Wall Street media has been one of the best recipients of all of the negative press over the last few years.  Stock often move in tandem with shocking headlines, and prices oftentimes even seem to be suspiciously active before some stories break.  While insider trading is outright illegal, as are pump and dump schemes and spreading of rumors and any other form of market manipulation, it seems that our own financial media ought to be better scrutinized or even regulated to protect investors from a flurry of quick, ill conceived, and most often discordant headlines or soundbites that serve best to whipsaw public opinions, and intern create more uncertainty.

Obama wants to offer consumers better protection from the piranhas on Wall Street.  However, how often do Jane and Joe smith get directly hoodwinked by a Wall Street slickster?  Nobody ever trusts a broker when they call you, but somehow we seem to act on blind faith when we call them.  I have never met a broker smart enough to convince a client to make a really dumb decision by themself.   In fact, I’m willing to bet my subscription to the Wall Street Journal (actually I’m lying, I let that expire when Rupert wanted to charge me one more dollar a month to get access to my preexisting fully paid for account on my iPhone) that more individual investors are harmed by the media more than they are by their broker.

The media is escalating uncertainty that propels clients to call their half witted brokers in a panic.  The half witted, and sometimes half trustworthy (but usually smarter) brokers simply uses those calls as opportunities to prey on fear and uncertainty.

Client: “The market has been acting crazy, I am just not sure I want to be in it any more”

Broker: “Oh yes, you are afraid of the market I see, well we should discuss Principal Protected Structured Products, you can get the same returns but we will guarantee your principal”, yada, yada, yada.

Little does the client know they are going from taking equity risk in a diversified portfolio of stocks to taking a single concentrated bet on the credit worthiness of the bank issuing the structured note, and moreover, little do they know their broker is make 1-2% selling the structured note which usually is far in excess of the commissions on stocks. At the end of that trade the client is content because they got what they think they wanted and the broker is content with another satisfied client and a fat commission, a rare combination.  Think of the poor soul who may have sold out of stocks after Bear Stearns collapsed only to have his Lehman Brothers broker convince him to buy a Lehman structured product.  Today the client who held onto his stocks is at worst is probably down 25-30%, but his Lehman note is effectively worthless.

Or try this example:

Client: “I just read that California is in dire fiscal trouble, how will this affect my municipal bond portfolio?”

Broker: “I understand your concern, let me review your portfolio (and look for ways to trade in and out of bonds you own to generate great commissions for me at your request), and get back to you with some suggestions.”

Again the broker gets back to the client, likely with a few suggestions.  Easily convinced because it was their own request the client pulls the trigger to sell out of and buy into new positions, netting the broker commission on both sides of the trades.  Another satisfied client, and another wealthier broker.  Remember one of the great trappings of Wall Street is “the client is always right”.  Since clients like to take credit for good ideas, and place blame for bad ideas, brokers really never get much more from their client relationships than a commission.

Clearly there is a need for freedom of the press, and we deserve to have access to information that may affect us financially or otherwise.   After the dot com bust regulations were put into place to protect investors from corporate malfeasance attributable to the misuse of proprietary non-public information.  There are now vast restrictions on “financial reporting” from the perspective of corporate issuers of securities.  There are not, however, any more covenants on the press other than disclosure of personal holdings for reporters on financial markets.  How can we protect investors from the misinformation/disinformation when the majority of it is coming from CNBC, the Wall Street Journal, and the rest of the media zeitgeist?

We need to take great pause to the extent that the media is feeding the levels of market uncertainty.  Individual investors generally don’t fair well when making decisions based on the news.   After all, the news is already public information, so you technically have no advantage if its already out there.  Stricter rules on reporting could force editorial departments to strip out the narratives and the fallacies, and force stories to center on meaningful and complete sets of facts.

Uncertainty of course creates volatility.  Volatility skews the number of winners and losers to create a larger number of losers and a smaller but more concentrated set of winners (think of all the famous shorts in 2008).  Volatility effectively redistributes wealth in a less than productive way, and unfairly rewards speculation over investment (lack of investment)  which is neither the purpose nor Raison dêtre for financial markets in a capitalistic society.  Capitalism was conceived and protected to help best allocate resources to their highest and best purpose in the most efficient manner. High levels of volatility seem to force greater misallocations of substantial amounts of capital.  Consider the TARP as an example.

All of that said, we should be more concerned about volatility than we seem to be today.  However, the press probably wont pick up on it as volatility sells a lot more papers, attracts a lot more viewers, and creates a lot more click-throughs.

Math Geniuses

September 21, 2010

Stumbled on a series of interesting videos on math.  Had to share. These each offer different subtext on why the US is so lacking in engineers, particularly if most all of these come as new to you, as they did to me.

Schools ought to teach more than one method as different kids learn in different ways.  In real life people care more about the right answer than how it was derived.

Math genius!


Genius fast calculation by kids


Amazing technique for calculating easily in your head


Be Human Calculator


Fast Maths Trick of Calculation


FREAKY MATH TRICK!!!!!!! (This is really weird that it works)


Die 100 Top-Banker

September 12, 2010

Saw this headline and just had to post it.  Admittedly its a Swiss German headline and “Die” actually means “The”, but its still worth a chuckle, particularly after the last couple of years.  The article is actually about the most important money mangers in Switzerland as reported by Bilanz from Zurich Switzerland (slightly biased?).

Die 100 Top-Banker