Page 2 of 2 Better than war By Julian Delasantellis
For a country such as China, steeled in a cynical dictatorship's view of
government power as something that never needs to be mediated through arcanum
such as tradition or constitutional rules, the artificial dichotomy between a
private sector's equity and its public sector debt must seen hopelessly
pedantic. Private stock markets are the government's since, when the markets
prosper, so does the government. Therefore, the private markets seed the
government with their functionaries, so it can continue to do so.
Two things must happen simultaneously for a China/US debt equity swap that
would wrap up the entire financial crisis. Both have happened recently, but not
together - that will be the trick.
With just about $11.5 trillion in total market capitalization on the
US NASDAQ and New York Stock Exchange bourses, China obviously just can't buy
up the US stock exchanges with just its $2 trillion-plus of foreign exchange
reserves. Still, converting just a portion of its Treasury security debt into
equity could have an enormous impact on the US financial markets, particularly
if accompanied with some measure of leveraged borrowing, such as a canny
utilization of options. The trick is to buy when the Chinese dollars can have
the most impact. The trick is to buy when things are cheap.
Anyone considering any type of investment in a financial product denominated in
a currency not of his home country knows that there is an extra dimension to
this investment analysis - the currency. A 5% rise in the investment does no
good if the currency that the investment was denominated in declines 10% over
the same period. Therefore, China would have to strike at the perfect moment -
when both stock and currency prices are so cheap as to make the investment
decisions virtually irresistible.
Are US stock prices now cheap? Well, they certainly were a lot cheaper back in
early March, before the almost 35% green shoots stock market rally. Worse yet
for a stocks-are-cheap argument is a look at corporate earnings, down almost
three-quarters from last year, with stock prices at these levels down only
almost a third. At 15, the price/earnings ratio of the S&P 500 is not
grossly extended, as it was at the top in October, 2007, but it's still not in
any way "cheap", especially for a China which got badly burned trying to deploy
its financial reserves to save the world financial system in late 2007.
On the other side is the situation in the US dollar. Many observers had
previously noticed the seeming anomaly of a US dollar stable to even rising in
value in the midst of a US centered financial crisis.
Not anymore. We've just seen a sharp fall across the board in the US dollar
during the previous three months, down 13% against the euro and the other
currencies of the trade weighted dollar index, 7% against the yen.
So there's one way that the financial crisis could end. Both stocks and the US
dollar could suffer such sharp falls that US equities, indeed, the entire US,
becomes so cheap that China and the other wealthy sovereign wealth funds (SWF)
come in and, like poor Second-Hand Rose, swoop up all the bargains.
US public opinion would rejoice at an injection of liquidity that finally goes
a long way towards replacing what the collapse of structured finance took out
of it. Certainly, the happy, carefree, consumption-sodden days of just a few
years ago must soon be once again just there for the taking. The fact that the
nation has just sold its birthright and is now renting what took its previous
generations over a century to build and own, is of trivial consequence.
As Obama is learning to his misfortune, the attempt to transform the US economy
from leverage/consumption to investment/export is a lot harder sell now, after
the presidential campaign is over, when Americans learn that, like the kids in
Asian schools, they have to actually pay attention in calculus class to do so.
There is another way that the crisis could end, that the extra liquidity the
economy needs could be delivered to it, one not so benign as the above,
assuming you think that selling America share by share to foreign powers is
benign.
At its heart, the recent rise in government bond yields across the capitalist
world is the markets' pushback from the government's recent assumption that it
can appropriate a much larger percentage of a society's savings without any
serious consequence.
As I wrote last January:
Across the seven continents and now almost 200
nations, one factor unites the human race, the fact that with the private
sector finance-centric economic system that bestrode the world since the fall
of the Berlin Wall now lying in tatters, the private spending that the system
previously gleefully financed is evaporating. Governments are being called on
to spend what the private sector won't and/or can't, and if the governments
don't have the money, they're being called on to borrow it. That's all well and
good - as long as the funds are available to be borrowed. (See
In the shadow of unwanted bunds, Asia Times Online, January 14, 2009.)
In January, it was Germany having trouble with its debt auctions; now it's
America. Already, the rise in US 10-year interest rates is bleeding through to
higher home mortgage rates; with real estate prices falling 20% a year even
with historically low mortgage rates, raising mortgage rates now is a lot like
throwing a drowning man an anchor chain designed to look like a life preserver.
If the private sector is proving a bit pokey in providing what the world's
governments need in terms of funding, how can their minds be changed, how can
their fingers be loosened from the clutch of their silk purses? Can anyone make
them an offer they can't refuse?
One thing seems to always work: war. When a nation is faced with the need to
re-arm and then to combat a foreign army, what was once seen as the simple
tightfistedness of the rich quickly morphs into selfish treason. Wherever you
stand on the effectiveness of US president Franklin Delano Roosevelt's
1930's-era New Deal, one thing is basically agreed by all. By the early 1940s,
the re-militarization of America, both to meet its own and Allied war needs,
ended the Great Depression and brought a significant wartime prosperity to
America.
In a recent article in Foreign Policy magazine, Oxford/Harvard historian Niall
Ferguson sets the stage for a possibly very violent upcoming era.
Economic
volatility, has returned with a vengeance. US Federal Reserve Chairman Ben
Bernanke's "Great Moderation" - the supposed decline of economic volatility
that he hailed in a 2004 lecture - has been obliterated by a financial chain
reaction, beginning in the US subprime mortgage market, spreading through the
banking system, reaching into the "shadow" system of credit based on
securitization, and now triggering collapses in asset prices and economic
activity around the world. After nearly a decade of unprecedented growth, the
global economy will almost certainly sputter along in 2009, though probably not
as much as it did in the early 1930s because governments worldwide are
frantically trying to repress this new depression. But no matter how low
interest rates go or how high deficits rise, there will be a substantial
increase in unemployment in most economies this year and a painful decline in
incomes. Such economic pain nearly always has geopolitical consequences.
Indeed, we can already see the first symptoms of the coming upheaval ...
Economic volatility, plus ethnic disintegration, plus an empire in decline:
That combination is about the most lethal in geopolitics. We now have all
three."
Ferguson explores some sample conflict scenarios,
including Gaza, Somalia, Darfur, Zimbabwe, even a possible collapse of the
narco-regime that is Mexico. There are probably about a dozen more, and not all
in the Third World, but, in the final analysis, the "where" of crisis is less
important than the "why".
Maybe the US will face off against China over North Korea or the Taiwan Strait,
or maybe it will be a US-Russian confrontation over Iran or Eastern European
missile defense. Maybe it will be the US and Europe versus a BRIC
(Brazil-Russia-India-China) alliance, as the team of young challengers seeks
the title of world superpower from the fading and wheezing champions.
No matter. All that is required is that the flags start to fly and the bands
play; the soldiers march straight and true, and calls arise to fully feed,
clothe and arm them in such a way that honors their bravery and sacrifice.
Military budgets are passed with huzzahs by huge parliamentary majorities,
orders flow to the factories, and workers who yesterday had been in the dole
queue wake to the bugle's call to find themselves in the line for ready-to-eat
breakfasts. Who is on the other end of the rifle barrels is ultimately
immaterial; after all, as in George Orwell's 1984, Oceania has always
been at war with Eastasia, or maybe it's the other way around.
So, either with a national fire-sale, or with a fiery battlefield on some
far-off foreign shore, the economic crisis will end. The future is certainly
turning out differently than the dream of eternal, peaceful capitalist
triumphalism embodied in Francis Fukuyama's 1992 book, The End of History and
the Last Man.
Then again, if, as Verbal (Kevin Spacey) in the 1995 movie The Usual Suspects
contended, "The greatest trick the Devil ever pulled was convincing the world
he didn't exist"; perhaps ol' Scratch's second-greatest ruse was convincing the
world that history didn't exist anymore either.
Julian Delasantellis is a management consultant, private investor and
educator in international business in the US state of Washington. He can be
reached at juliandelasantellis@yahoo.com.
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