Misunderstanding the commodities plunge

Last week we witnessed the biggest plunge in commodity prices since the post-Lehman era (2008). Every commodity fell an average of 10% during the weak: wheat, cotton, soybeans, iron, zinc, silver, gold... even the mighty oil took a step down (and that is big news!). Part of this plunge was quickly erased as a rebound started right on last friday, but the situation is quite stable at the time I am writing this.

People started to reason that the recession was back, that the industrial sector was not growing as expected, that we are not producing enough or consuming enough of what we produce, that a dry spell could risk wheat crops in some parts of the world... According to these same people sometime during last week we stopped eating too, because food commodities also fell. These people are very wrong, we never were recovering strong enough to justify the never-ending rise of the last months neither we have suddenly stopped recovering now to justify the plunge. What are the real conclusions we can take away from last week's events? 

I see clear proof that speculators rule the commodities market.

Canada goes the cost reduction way

Canada had its general elections last Monday and while the winner, the actual Prime Minister Stephen Harper from the Conservative Party, was totally expected; the result boosted him to a majority government. With their hands untied from a minority government against the New Democratic Party, Mr Harper's Conservatives are now free to apply the keystone point in their electoral program, taxes and government spending reductions.

Stephen Harper celebrating victory

I have expressed my concerns on excessive government spending worldwide on previous posts, Canada was not an exception there, with 39.7% of GDP going to government expenses every year... Canadians have expressed their concerns with the matter too, strongly supporting the only party that promised to reduce said spending. With this move, Canada joins the trend of slashing government spending, a trend that started in Europe to fight troubled economies like Greece's, but that has gone mainstream since then on developed economies. Finally everybody begins to notice the weight of the state is unbearable as of now, recession has made this blatantly visible.

I will not analyze in detail the politics behind Mr Harper's party, but from a macroeconomic point of view Canada is in a far better position to boost recovery than for example European countries. Canada is one of the few net energy exporters (together with Norway) among developed countries and is also the world's second biggest uranium producer with 20.7% of production. Not only they are exporting energy abroad (which at actual prices is quite a good business) but they are energetically independent as they control the supply for their main energy source, nuclear energy.

This independence means their recovery plans will not be heavily altered by raising energy prices, or tensions in the Middle East for that matter... If the Conservative's deficit reduction plan works as planned and corporate tax reductions really help boost employment I would say it is quite possible for them to be able to beat IMF's expected GDP growth of 2.8% for 2011. I am confident on every economy that successfully covers its energy needs and Canada has been doing it for a long time.

Energetic independence partly shields Canada from the never-ending commodities rally and thus gives it the most desirable ground for economic recovery and growth: a ground where it can focus on its own economic efficiency.

The government, that drag on the economy.

In the previous post, on why economic recovery was being compromised by excessive and useless government spending I quickly illustrated my point with a table showcasing government expenditure in percentage of GDP and also average tax burden on percentage of GDP. I did not analyze the data from the table though, it deserved its own post. So let us have a look at how much money the governments need in some countries:

2011 data from The Heritage Foundation , The Wall Street Journal via Wikipedia

The highest percentages on government spending are found scattered across developed countries, specially in Europe. On Baltic countries (Denmark, Finland, Iceland, Norway and Sweden) we can see the percentage even goes over 50% of GDP . No surprises here, blame it on their splendid welfare systems everybody loves... The real problem is not welfare systems themselves, but the progression of the government spending in the latest years. People would agree with me than welfare systems and social measures have not increased during the last 5 years, in any case they have been reduced, but government expenditure on the other side has kept growing, as plotted in the following chart for the biggest economies in Europe.

Credit: Eurostat

The corrections on the growing trend seen in the 2010 data, as you may expect, are related to the austerity packages endorsed by the European Union to fight the financial and debt crisis. But these corrections have been too soft to correct the situation. Economists and traders everywhere (The Economist devoted an issue to this matter) see the situation as unbearable, which explains the rising concerns on sovereign solvency that has plagued the markets and has already blasted through Greece, Ireland and Portugal.

But if this has been this way for a long time, what can possibly have changed to make the situation so worrying for developed countries?

Losing ballast for a faster recovery: Slashing the government

Almost every developed country worldwide is nowadays fully immersed on its own fight for economic recovery. But this fight is made tougher by high unemployment rates, sovereign solvency doubts, inflation and financial speculation. The resultant situation is hard to tackle for governments: they need their economies to grow but they must ensure they are solvent and responsible, thus being a stable soil for said recovery to grow on. 

I am not going to discuss the measures for economic growth here, but the ones used to keep the state under control. These measures to try to lower government spending range from budget cuts, the end of some subsidies, establishment of debt ceilings, social services restrictions... to issuing (more) debt to be able to keep public spending at actual levels. Some of these moves are smart, some of them are insane, specially the debt issuing one... But all of them are late, very late.

2011 data from The Heritage Foundation , The Wall Street Journal via Wikipedia 

 

In the last decades we have grown accustomed to bigger and bigger states, with a never-ending growth in civil servants, entities, organizations, committees... Just have a look at the table above on the column for Government expenditure in percentage of GDP and you will see some unbearably high numbers (I will come back to analyze this table in a future post). This growth in size and cost was associated with the growing complexity of running a state in modern times, the never-ending appearance of new social measures and so on. Everybody let the parasite grow deep inside us, and when the ride was smooth nobody seemed to care about the extra weight that was being placed on the shoulders of the economy. But what now that we are on one of the bumpiest sections of this one-way road that is history? No matter how much horsepower your car has, if you start putting rocks in the trunk its performance will fall to the ground.

Stopping the government growth and its crazy spending is not enough, we must shrink its size and cost to reasonable levels. But how do you shrink a government without stopping its functions?

Crazy or genius ideas: Individual Carbon Emissions Cap (II)

On the previous post I put on the table an idea to help control carbon emissions at an individual level while at the same time creating a way for citizens to monetize from their energy efficiency. I named it the Individual Carbon Emissions Cap (ICEC for short). After explaining its inner workings on the first post, now is the turn to explain why I think it could be highly beneficial for the economy.

Motivation

I am fed up of seeing the utility companies promoting energy saving and efficiency (even though one could think, on first instance, it goes against their business) but governments doing nothing but subsidize renewable energies producers. Renewable energies, as of today, are not capable of covering our whole energy consumption and they will not in the short term either, at least if we follow our historical trend of growing consumption. For renewable energies to really become alternative energies, efficiency measures must be applied to our daily life.

That is where ICEC kicks in, by setting a comprehensible limit on individual carbon emissions it promotes energy efficiency while at the same time boosting non fossil-based energies as they do not emit any CO2.

Prize efficient people, punish wasteful spenders = Prize the economy

I do not want anybody to think about the ICEC as a tax, because it is not. It could only become a tax for someone who is not capable of living without wasting a lot of energy by doing so. If that was the case, then tax him like you would with a normal business... The ICEC limit is high enough to not disrupt you usual life habits, but at the same time giving you an incentive to be efficient. For those who find the way to be efficient, the prize could not be more obvious: cash. Well, apart from the peace of mind of helping the environment and such... This cash could be forced to be for consumption only (if needed), then it would give a much needed boost to our weak economic recovery by increasing goods consumption. The best part? it would come at zero cost for the government, no need to raise taxes to the already tax-massacred citizens and, collaterally, it would mean increased earnings from VAT and other already existant taxes on consumption.

Uphill battle for Japan. How can they fight it?

While the situation is extremely tense in Japan at the moment with all eyes set on the Fukushima Daiichi Nuclear Plant, the Japanese markets are open and the obvious, not ethic at all but expected nonetheless, has happened. The Nikkei plummeted more than 11% in the earthquake's aftermath just to regain more than 5% today. Japan is now officially the playground for avid speculators and this can do no good to the forthcoming Japan recovery. 

It is quite difficult to ask for stability in the markets when the country itself is still (literally) shaking, but investors and speculators should leave Japan some room to breath, for the greater good. Japan is still one of the biggest economies worldwide; playing against it just to make some easy money now is quite a stupid, short-sighted and naive thing to do and could have heavy consequences in the future. But we know human stupidity is second only to human greed, and that you cannot expect nothing good from the same people that invented subprime-mortgage-backed securities and thus brought the world economy to its knees... So let us analyze what Japan can do from here on.

Credit: Yahoo! Finance

Japan's instruments for recovery
Japan's economy is one of a kind, after booming heavily during the eighties, it entered a phase the Japanese call "The lost decade", stagflation after their asset bubble burst has plagued the economy since then. The global crisis we have been suffering since 2008 has not helped Japan totally get out of their slump at all, even though before said crisis Japan showed promising signs of recovery with GDP growths better than Europe or the US. Still, Japan is the world's third biggest economy after USA and China so it will not be bare-handed through its long, hard, recovery.

Japan's earthquake biggest replica: the economic one

First of all, my thoughts are with the Japanese people in these difficult moments. I am sure being such a hard-working, disciplined and respectful country they will have no (unmanageable) problems getting over it very soon. 

Earthquakes as big as the one that hit Japan last night are always followed by numerous replicas of different strength. These replicas can last for several days until the tectonic plates 'settle down' again. Well, we have begun to see what can be the biggest and more widespread replicas of said earthquake: the economic one. Few hours have passed since the disaster and we can already see the effects on the markets: oil prices, gold and stocks go steeply down and the german bond and the US dollar go up. Pure textbook reaction.

Economic policy new year resolutions

Each and every new year people make bold statements about changes (for the better) they are decided to apply to their lives from the very beginning of said year. Now replace the word 'people' with 'government' and 'lives' with 'countries'. Does this sound familiar? Yes, every government promises to change the country for better, but as it happens with people, most of them end up doing the same thing, committing the same errors over and over again.

This year should different though, numerous countries are in a situation where, if they keep doing the same, they will not stay the same, but they will go deep down. When the global outlook was (artificially) good, governments' mistakes were easily eclipsed by the housing boom, low unemployment rates, easy money and a ridiculously big government spending. Not anymore.

A brief 2011 forecast by economic sector

Today we are closing 2010, the year may have had its ups and downs, it has given us lots of topics to discuss, but I firmly believe that looking forward is the best way to go forward so instead of doing the typical year recap I think it is better to go for a 2011 forecast by economic sector. Keep in mind that the following forecasts come from the top of my mind, based on trends, news, events and macroeconomic indicators. Do not expect complex numerical models to calculate earning figures, growth rates and such in this post. We already have lots of so-called experts playing fortune-teller with the economy, most of them with very poor results anyway... 

There is a repeating variable in most of the sectors treated here which I do not have the heart to decide on as of now. This variable is: will the economy depress again in 2011? I expect it not to, but some experts are quite confident on it. In addition it only takes a conflict or some political instabilities somewhere to change a weak recovery into a slump in a fraction of a second.

What can we expect in 2011 in every sector?