Friday, May 30, 2008

Solving the World's Biggest Problems

Ronald Bailey of Reason reports on the Copenhagen Consensus 2008 Conference. The Conference is run by Bjorn Lomborg who wrote The Skeptical Environmentalist. The Conference brings together 55 leading international economists to reach a consensus on how to address some of the world's most difficult problems:

More than 55 international economists, including 5 Nobel Laureates, will assess more than 50 solutions and assemble a list of priorities for everyone involved in solving the world's biggest challenges.

The aim of CC08 is to take stock of the world's biggest problems and the most promising solutions and provide informed input into the policy making process surrounding efforts to deal with these problems. CC08 will revisit issues from CC04, as well as take up new issues in the light of improved knowledge of the state of the world since 2004. CC08 will provide an in-depth assessment of the costs and benefits of solutions to some of the biggest challenges the world is facing today.

The Challenges (problems) are:

Air Pollution
Malnutrition and Hunger
Sanitation and Water
Subsidies and Trade Barriers
Global Warming
Women and Development

The unique thing about the Copenhagen Conference is it's emphasis on cost and benefits. The participants are given $75 billion to spend over a four year period and the goal is get the most bang for the buck. The answers are somewhat surprising. Coming in at #1 is supplying vitamin A and zinc to 80% of the 140 million children who lack them in developing countries. This would cost $60 million per year and yield benefits in health and cognitive development of over $1 billion.

Number 2 on the list is to widen free trade through the Doha Development Agenda:

Number 2 on the list of Copenhagen Consensus 2008 priorities is to widen free trade by means of the Doha Development Agenda. The benefits from trade are enormous. Success at Doha trade negotiations could boost global income by $3 trillion per year, of which $2.5 trillion would go to the developing countries. At the Copenhagen Consensus Center press conference, University of Chicago economist Nancy Stokey explained, "Trade reform is not just for the long run, it would make people in developing countries better off right now. There are large benefits in the short run and the long run benefits are enormous."

Nobelist and University of California, Santa Barbara economist Finn Kydland noted that unless the economies of developing countries grow, they will still be mired in the same problems of poverty ten years from now as they are today. "By reducing trade barriers, income per capita will grow, enabling more people in developing countries to take care of some of these problems for themselves."

The rest of the list is available at the Copenhagen Conference website.

The use of cost benefit analysis to prioritize these problems removes the emotion from the equation. Since resources are limited it is only logical to use them wisely in ways that have the largest impact. Sending Vitamins to the third world may not be sexy and it may not win a Nobel Peace prize, but it has the advantage of being effective.

Thursday, May 29, 2008

Frankel Rebuts the Fed

Back in March I linked to an article by Jeffrey Frankel that explains the rise in commodity prices as a function of interest rates. Since then, Fed Governor Donald Kohn has attempted to rebut Frankel's argument. I found his argument unpersuasive:

Some observers have questioned whether the news on fundamentals affecting supply and demand in commodities markets has been sufficient to justify the sharp price increases in recent months. Some of these commentators have cited the actions of the Federal Reserve in reducing interest rates as an important consideration boosting commodity prices. To be sure, commodity prices did rise as interest rates fell. However, for many commodities, inventories have fallen to all-time lows, a development that casts doubt on the premise that speculative demand boosted by low interest rates has pushed prices above levels that would be consistent with the fundamentals of supply and demand. As interest rates in the United States fell relative to those abroad, the dollar declined, which could have boosted the prices of commodities commonly priced in dollars by reducing their cost in terms of other currencies, hence raising the amount demanded by people using those currencies. But the prices of commodities have risen substantially in terms of all currencies, not just the dollar. In sum, lower interest rates and the reduced foreign exchange value of the dollar may have played a role in the rise in the prices of oil and other commodities, but it probably has been a small one.

By my calculation, at least one third of the rise in the price of oil can be attributed directly to the decline of the dollar. This can be seen by looking at the rise in the price of oil in Euros versus the rise in the price in US Dollars. The rise in Euros has been less than the rise in dollars ergo, some of the Dollar based rise can be directly attributed to the decline of the currency. You can make your own decision about whether that effect is a "small one".

But this exercise only captures part of the reason commodity prices have risen. Jeffrey Frankel responds to Kohn in this article from Vox. The explanation is backed up by data and quite persuasive although anyone not really interested in economics might find it a bit complex.

I think Kohn and Frankel are both missing part of the equation though (not that I have the economic bona fides of either) when they don't look at the effect US monetary policy has had on other economies with currencies linked to the dollar. Kohn rightly points out that "emerging market economies have increased demand for many of these commodities and world supply has not kept pace with this growing demand". Many economists and other commentators have pointed to increased demand from China to explain the rise in demand and prices of commodities. But how much of that excess demand was driven by an aggressively expansive US monetary policy? The Chinese currency is linked to the US dollar and therefore US monetary policy has a direct impact on the Chinese economy. How much did the US policy of negative real interest rates affect the growth rate of the Chinese economy (and any other country with a currency linked to the dollar) over this decade? My guess is quite a lot.

Initial Jobless Claims

The number of people filing for first time unemployment benefits rose 4,000 in the week ending May 24th, to 372,000, according to the Labor Department. Economists were expecting 370,000 new claims for the week. Having witnessed extremely volatile measurements in the past few weeks, it is wise to consider the four-week moving average of initial claims, which smooths out one-time factors such as bad weather or holidays. The four-week moving average was lower by 2,500 in the latest week, down to 370,500.

Initial claims are up 20% in the past year.

See Full Report.

Wednesday, May 28, 2008

Durable Goods Orders

Orders for durable goods declined 0.5% in April, much better than expected, as orders for electronics offset a sharp drop in transportation orders. Economists were expecting a decline of 2.8% for the month. It is the second straight monthly decline, but, because of the report, some economists were quickly questioning if the U.S. economy would experience a recession.

Analysts had forecast a weak performance in April because there would be fewer orders for transportation equipment as a result of the high cost of oil. As predicted, transportation orders fell 8.0% in April, with aircraft orders falling by 24.4%.

But what they didn't expect was a record 27.8% gain in orders for electrical equipment, appliances and components, which rebounded after an 18.9% drop in March. Orders excluding transportation rose 2.5% in April, the biggest gain since last July.

Orders for core capital equipment rose 4.2% in April, the biggest increase since December. Core capital equipment orders, which exclude aircraft and non-defense goods, are the best monthly indicator of capital expenditures.

See Full Report.

Tuesday, May 27, 2008

Energy Independence

The Oregon Institute of Science and Medicine has released a petition signed by over 31,000 scientists (over 9000 Ph.D.s) that states:

We urge the United States government to reject the global warming agreement that was written in Kyoto, Japan in December, 1997, and any other similar proposals. The proposed limits on greenhouse gases would harm the environment, hinder the advance of science and technology, and damage the health and welfare of mankind.

There is no convincing scientific evidence that human release of carbon dioxide, methane, or other greenhouse gasses is causing or will, in the foreseeable future, cause catastrophic heating of the Earth's atmosphere and disruption of the Earth's climate. Moreover, there is substantial scientific evidence that increases in atmospheric carbon dioxide produce many beneficial effects upon the natural plant and animal environments of the Earth.

The OISM is not funded by energy companies:

Note: The Petition Project has no funding from energy industries or other parties with special financial interests in the "global warming" debate. Funding for the project comes entirely from private non-tax deductible donations by interested individuals.

I post this not because of the petition though it is interesting. Apparently the scientific debate, at least for these scientists, is not over. I post this because as part of this project, the OISM has published a peer reviewed paper that offers a clear, concise review of the scientific evidence about global warming and its effects. Furthermore, this paper offers realistic solutions to the energy problems we face.

Global Warming Review

I urge everyone to read the paper with an open mind.

The most important part of the paper in my opinion is the last part which discusses how to achieve energy independence in a sane, cost effective way using technology available today:

Figure 27 illustrates, as an example, one practical and environmentally sound path to U.S. energy independence. At present 19% of U.S. electricity is produced by 104 nuclear power reactors with an average generating output in 2006 of 870 megawatts per reactor, for a total of about 90 GWe (gigawatts) (125). If this were in creased by 560 GWe, nuclear power could fill all current U.S. electricity requirements and have 230 GWe left over for export as electricity or as hydrocarbon fuels replaced or manufactured.

The technology to achieve energy independence is available now in the form of nuclear power. It is clean, safe and inexpensive. And it is economically feasible at a cost of roughly $1 trillion. Given the proper regulatory and tax incentives, private industry could provide this level of funding without any direct government subsidy. If we really want to achieve energy independence, we need to stop wasting resources on alternatives that cannot, given current technology, get us there. Going nuclear would allow us to stop exporting capital to countries we dislike (Saudi Arabia, Iran, Venezuela) and go a long way toward ending our trade deficits.

New Home Sales

New home sales rose for the first time in six months in April, jumping 3.3% to a seasonally adjusted annual rate of 526,000. The sales gain was a rebound from the sharp 11% drop in sales in March, to a seasonally adjusted 509,000 units, which was the lowest level in sales since April 1991. April's increase was in-line with economists expectations.

Prices fell sharply as the supply of homes on the market continued to rise, the Commerce Department reported. The median price of a new home fell 1.5% in the past year, to $246,100. The number of unsold new homes on the market slipped 2.4% to 456,000 units. That represented a 10.6-month supply at the April sales pace.

By region, sales jumped 41.7% in the Northeast and rose slightly in both the Midwest and West. Sales were down 2.4% in the South.

See Full Report.

Monday, May 26, 2008

Legislative Arrogance

The House of Representative recently passed a bill titled, "No Oil Producing and Exporting Cartels Act of 2007". This bill amends the Sherman Anti Trust Act to make oil producing and exporting cartels illegal. In other words, it gives the US the right to sue OPEC if they engage in the following conduct:

`(a) In General- It shall be illegal and a violation of this Act for any foreign state, or any instrumentality or agent of any foreign state, to act collectively or in combination with any other foreign state, any instrumentality or agent of any other foreign state, or any other person, whether by cartel or any other association or form of cooperation or joint action--

`(1) to limit the production or distribution of oil, natural gas, or any other petroleum product;

`(2) to set or maintain the price of oil, natural gas, or any petroleum product; or

`(3) to otherwise take any action in restraint of trade for oil, natural gas, or any petroleum product;

when such action, combination, or collective action has a direct, substantial, and reasonably foreseeable effect on the market, supply, price, or distribution of oil, natural gas, or other petroleum product in the United States.

`(b) Sovereign Immunity- A foreign state engaged in conduct in violation of subsection (a) shall not be immune under the doctrine of sovereign immunity from the jurisdiction or judgments of the courts of the United States in any action brought to enforce this section.

`(c) Inapplicability of Act of State Doctrine- No court of the United States shall decline, based on the act of state doctrine, to make a determination on the merits in an action brought under this section.

`(d) Enforcement- The Attorney General of the United States may bring an action to enforce this section in any district court of the United States as provided under the antitrust laws.'.

If the language of this bill were changed only slightly, the results would be quite different. Here's how I would edit the bill language:

`(a) In General- It shall be illegal and a violation of this Act for any foreign state, or any instrumentality or agent of any foreign state, to act collectively or in combination with any other foreign state, any instrumentality or agent of any other foreign state, or any other person, whether by cartel or any other association or form of cooperation or joint action--

`(1) to limit the production or distribution of oil, natural gas, or any other petroleum product;

`(2) to set or maintain the price of oil, natural gas, or any petroleum product; or

`(3) to otherwise take any action in restraint of trade for oil, natural gas, or any petroleum product;

when such action, combination, or collective action has a direct, substantial, and reasonably foreseeable effect on the market, supply, price, or distribution of oil, natural gas, or other petroleum any product in the United States.

`(b) Sovereign Immunity- A foreign state engaged in conduct in violation of subsection (a) shall not be immune under the doctrine of sovereign immunity from the jurisdiction or judgments of the courts of the United States in any action brought to enforce this section.

`(c) Inapplicability of Act of State Doctrine- No court of the United States shall decline, based on the act of state doctrine, to make a determination on the merits in an action brought under this section.

`(d) Enforcement- The Attorney General of the United States may bring an action to enforce this section in any district court of the United States as provided under the antitrust laws.'

Striking a few words and adding only one three letter word produces the first true free trade act. This change would allow the US to not only sue OPEC, but any state that acts to restrain trade. Unfortunately for Congress it would also allow the Attorney General to sue the United States.

Why is oil different than any other product?

The bill, as currently written, is one of the most arrogant legislative acts ever written. It criminalizes behavior for foreign countries which the US engages in itself. Congress limits production of oil and gas in the US by placing areas of known oil deposits, such as ANWR and the continental shelf, off limits, yet presumes to tell other countries how to manage their own resources. There are apparently no limits to the arrogance of our politicians.

Update: My daughter (she's brilliant) has a little different attitude about NOPEC:

Mrs. Sue Opec

Friday, May 23, 2008

The Cost of Tariffs

Free trade is a tough sell to many people because those who are hurt by free trade are easily identifiable while the beneficiaries are widely dispersed. The opposite is true when we speak of tariffs. When a tariff is imposed, the beneficiaries are easily identifiable and those hurt are widely dispersed. Here's a great example of the cost of imposing tariffs (via Marginal Revolution):

Advocates of trade restrictions often argue that protection will save jobs. Since we can observe price and cost increases associated with trade restrictions, we can estimate how much it costs to save each job in a protected industry. According to the NPR story, there are roughly 30,000 dry cleaners in the U.S., and on average, each pays an additional $4,000 per year due to the hanger tariff. This indicates an average annual cost of 30,000 firms x $4,000 per firm = $120 million. According to the U.S. International Trade Commission's report, U.S. employment in wire hanger manufacturing was 564 workers in 2004 and fell to 236 workers by 2006. Let's assume that employment in this sector would have fallen to zero in the absence of the tariff, and that with the tariff, employment will recover to 2004 levels. In other words, assume the tariff "saves" 564 jobs. Dividing the cost of the tariff to U.S. dry cleaners ($120 million year) by the number of jobs saved (564 jobs) indicates that each job saved costs about $212,765 per year. Keep in mind that the typical full-time worker in this sector earns about $30,000 per year. Even if we assume that industry employment doubles, the cost of the tariff is still roughly $120,000 per job.

You save a few low wage, low skill jobs but everyone pays a higher price at the dry cleaner. Is the cost worth it?

US Mint Outsources Production

Has the US mint outsourced the production of money? Based on the price of everything lately, a dollar is worth just about the same as what you can print on this website.

Maxine in Charge

During yesterday's Congressional hearings on oil prices, Maxine Waters threatened oil companies with nationalization. Or at least that is what she wanted to say but she's too stupid to remember the right word. Watch this:

Maxine Waters Video

Is this still the United States? Is this still a capitalist economy? I'm beginning to wonder....

Update: Here's a NYT story about the hearings.

To be sure, oil prices have never been higher. Though they eased on Thursday to $130.81 a barrel, down $2.36 on the day, they are up 30 percent in the last two months. And just as sure, Democrats in Congress are itching to take action — perhaps by taxing so-called windfall profits of oil companies, perhaps by allowing the Organization of the Petroleum Exporting Countries to be sued in American courts under antitrust laws.

But neither those initiatives nor a portfolio of others currently under consideration are likely to reduce prices at the pump. And so the lawmakers and the oil titans, well aware of this reality but also mindful of the roles they are expected to play, ran through a familiar script.

Actually, most of the things being proposed would reduce supply and therefore raise prices. These hearings are a farce and we can only hope that the likes of Maxine Waters never get to actually implement the things they claim to want.

Oil and the Dollar

The rise in the price of oil has a lot to do with the fall in the value of the dollar:

Certainly energy prices have risen, regardless of what currency you use. In Europe, the price of oil has risen by 50 euros in the past five-and-a-half years. It now stands at about 75 euros per barrel, three times what it was then. But in the U.S., the price of oil has risen to over $120 per barrel, and is now almost five times what it was then.

The sole reason for this enormous difference is the incredible depreciation of the dollar against the euro. From one for one at the end of 2002, it now costs nearly $1.60 to buy a euro.

This seems very obvious to me, but based on the recent Congressional hearings, it isn't very obvious to politicians. I guess I shouldn't be surprised.

Thursday, May 22, 2008

More Bubble Behavior

In an earlier post, I described the action in the oil market as bubble like. It may be that the entire commodity sector is in a bubble. Check out this story from the WSJ about a shortage of silver coins:

The government rationed food during World War II and gasoline in the 1970s. Now, it's imposing quotas on another precious commodity: 2008 dollar coins known as silver eagles.

The coins, each containing about an ounce of silver, have become so popular among investors seeking alternatives to stocks and real estate that the U.S. Mint can't make them fast enough. In March, the mint stopped taking orders for the bullion coins. Late last month, it began limiting how many coins its 13 authorized buyers world-wide are allowed to purchase.

"This came out of nowhere," says Mark Oliari, owner of Coins 'N Things Inc. in Bridgewater, Mass., one of the biggest buyers of silver eagles. With customers demanding twice as many as they did last year, Mr. Oliari would like to buy 500,000 a week. But the mint will sell him only around 100,000.

The coins have a face value of $1. But the mint sells them for the going price of silver, plus a small premium, to a handful of wholesalers, brokerage companies, precious-metals firms, coin dealers and banks. The dealers mark the coins up a bit more and sell them to the public. Currently, the coins are fetching about $19 apiece, with some sellers seeking more than $20.

For Coins 'N Things alone, the shortage is costing hundreds of thousands of dollars in lost sales of silver eagles. The firm sells about $1 billion worth of precious metal every year, including silver, gold and platinum coins. Mr. Oliari, a 50-year-old numismatist who has been in the business since 1973, sniffs: "You can't print what I want to say about the mint."

The mint, a bureau of the U.S. Treasury, has offered little explanation beyond a memo last month to its dealers. "The unprecedented demand for American Eagle Silver Bullion Coins necessitates our allocating these coins on a weekly basis until we are able to meet demand," the mint wrote. A spokesman declined to elaborate.

Silver is not nearly as rare as gold but it does tend to rise in inflationary times as it has recently. But listen to some of the people who are buying:

"Unlike gold, these coins can be bought by regular citizens," says J.R. Roland, a Brownsville, Tenn., judge who recently began buying the coins -- and trading them on eBay. "In these economic hard times, silver coins are a great way to invest."

I guess J.R. hasn't heard about those new fangled ETFs that let you buy gold or silver with one trade.

Linda Wood, a 57-year-old Pittsburgh accountant, scours eBay, coin shops and flea markets in search of silver eagles. One by one, she has accumulated about 300 in the past few months and stores them in a bank safe-deposit box.

Traditional coin collectors may be impressed with the government's written description of silver eagles as "one of the most beautiful coins ever minted." But Ms. Wood isn't in it for aesthetics. She became a silver bug after she and her husband saw the value of their individual retirement accounts decline by $2,500 -- a "significant" chunk. "I just need bullion," she says. "I wouldn't care if the coins were ugly."

So she doesn't care what they look like but she's paying a premium for them when she could just open a brokerage account and buy SLV. That's not rational behavior. You know she's a sophisticated investor because a $2500 decline in their individual retirement accounts was a "significant" chunk. She sounds pretty savvy.

Amid the mint caps, shady silver-eagle hawkers are thriving. Some coins are priced at $25 and higher. Mr. Roland says that he had to wait a month after ordering some on eBay recently, because the sellers didn't even have the goods. "I can't wait long, because you never know what's going to happen with the price," he says.

Old J.R. seems pretty sure about the future course of silver prices. You know it only goes up, like houses.

In Manitowoc, Wis., Dan Zirk, owner of Manitowoc Card & Coin, has sold twice as many silver eagles as he did last year. So he has stashed away his remaining handful of 2008 coins, betting the price will rise. "I want $22 apiece," says Mr. Zirk. He says customers, meanwhile, are asking for earlier years and other forms of silver.

What are the chances old Zirk is still sitting on those coins when the price starts to tank?

New Era?

The oil market is showing signs of bubble activity. Congress is holding hearings to determine who the bad guys are while ignoring the possibility that they may be part of the problem. The number of articles on peak oil is nearly endless. And now we've got articles about a "new era" in oil:

From the WSJ:

In Oil's New Era, Power Shifts To Countries With Reserves Middle East Consumes More
As U.S. Seeks Security; 'Higher Prices for Years'

From Newsweek:

The rising price of oil could signal a new era of nasty geopolitical fights.

From the International Herald Tribune:

New era of tough times ahead

From an analyst at CIBC:

"Don't think of today's prices as a spike. Don't think of them as a temporary aberration. Think of them as the beginning of a new era."

We've been down this "new era" path before and it never ends well. The chart of crude oil looks suspiciously like the NASDAQ in early 2000 or the Chinese market in late 2007. Prices have "gone vertical":

I don't know where the top is in the crude oil market, but I know a bubble when I see one.

Update: Here's another story that explains some of the recent rise in crude prices. Via the WSJ:

Surging energy prices are wreaking havoc on producers and speculators who made bets on lower oil prices, forcing some to buy oil to exit their positions. That, in turn, is helping push up oil prices.

Producers who long ago struck deals to sell oil in future years are finding they locked in prices at as little as half what oil fetches in today's red-hot market. Some companies are unwinding these deals by buying back their oil contracts.

Other market players, particularly speculators who misjudged the top of the market, are being forced to buy oil futures to close out bad bets. Those who tough it out are often being hit with crushing margin calls, requiring them to pony up more cash because their trade has gone deeper into the red.

Edward Morse, chief energy economist at Lehman Brothers Holdings Inc., said some traders put big money into complex trades in the fall that fell apart when price relationships flip-flopped the last few days. The market is beset by talk that large producers "wanted to unwind their hedges, putting upward pressure on prices."

Many factors are fueling oil's rapid rise besides this financial squeeze. Although demand has eased in the developed world as growth slows, consumption is robust in developing markets. China's stockpiling of oil ahead of the Olympics and use of diesel for power generation during earthquake rescue efforts have played a part in recent spikes.

Big oil consumers such as airlines have become so alarmed by rising costs Wall Street trading officials said some are rushing to buy oil to lock in future costs.

This is typical of bubble behavior. Producers and large consumers are buying not because they have sound fundamental reasons for doing so; they are buying merely because the price is rising. Producers who sold future production at lower prices are now regretting those trades and trying to correct their mistake. Airlines who, unlike Southwest Airlines, failed to hedge at lower prices are now paying through the nose to lock in a price that almost guarantees they will lose money in the future. That is not rational and my guess is that producers and consumers buying at today's prices will find out soon that they've compounded their earlier errors.

Wednesday, May 21, 2008

Oil Tantrum

Oil prices spiked to another new high today and while oil at $132 is scary, it's not nearly as scary as the economic ignorance being displayed in the Senate today. Several politicians have appeared on CNBC today and their arrogance is frankly amazing. Here's an interview from today on CNBC with Sen. Ben Cardin, D-MD:

CNBC Interview

Sen. Cardin apparently believes that the profits of US oil companies are "obscene" and that he should have the authority to decide how to invest those profits. Those profits belong to shareholders, but the Senate seems to believe that it is okay to confiscate them in the name of "national security" and invest them in "alternative fuels". Considering the results of the last Congressional "investment" in alternative fuels - ethanol - I can't think of a worse idea.

Everyone is looking for the bad guy in the oil price run up. Businessweek has an article that blames pension funds.
Congress is trying to blame speculators:

"This unbridled growth raises justifiable concerns that speculative demand - divorced from market realities - is driving food and energy price inflation, and causing a lot of human suffering," said Sen. Joseph Lieberman, I-Conn., chairman of the Homeland Security and Governmental Affairs committee that held the hearing.

The Connecticut senator said index speculators are "partly responsible for hurting a lot of individuals and businesses."

"I think it's important to limit the options that people have to maximize their profits, because a lot of us end up paying through the nose," he added.

Huh? Does Lieberman believe it is good for the economy to "limit the options that people have to maximize their profits"? How exactly would that be a good thing?

I suppose I'm part of the problem here. I put commodities in all our portfolios so apparently Lieberman wants to limit my ability to do that. Of course commodities are what has enabled me to make money for clients over the last 6 months while stocks have been cooling their heals. I suppose Lieberman thinks it would be better if my clients were losing money. Who would benefit from that I'm not sure.

The House, meanwhile has decided the bad guys are at OPEC and the answer lies in, where else, court:

WASHINGTON (Reuters) - The House of Representatives overwhelmingly approved legislation on Tuesday allowing the Justice Department to sue OPEC members for limiting oil supplies and working together to set crude prices, but the White House threatened to veto the measure.

The bill would subject OPEC oil producers, including Saudi Arabia, Iran and Venezuela, to the same antitrust laws that U.S. companies must follow.

The measure passed in a 324-84 vote, a big enough margin to override a presidential veto.

Who do they think is going to enforce any court order they might get from a friendly US judge? The majority of the House is Democratic, anti war and accused the Bush administration of invading Iraq for oil, so they must not mean the military. Maybe they think Bill Clinton will get more out of the Saudi royal family than Bush.

Why is oil at $132? I can think of a number of reasons:

1. Demand from emerging markets is increasing as they create a middle class. I would think liberals especially would be happy that the world economy is lifting some out of the ranks of the poor, but maybe not.

2. The Fed's monetary policy has destroyed the value of the dollar. Congress has an oversight function that they could use, but I guess that's too hard to understand.

3. US politicians have limited supply by placing big oil fields off limits. We've been extracting oil in the Gulf of Mexico for years with no accidents but Congress won't allow drilling off the continental shelf where there is even more oil. They also won't allow drilling in ANWR even though the majority of Alaskans are in favor.

4. Increase in the use of commodities as a permanent asset class by investors. I've been doing this for a number of years but others are new to the game. Of course, I wouldn't invest in commodities if the Fed didn't habitually print too many dollars; I wouldn't need to protect myself and my clients from inflation if it didn't exist.

Polticians are like children. They want to have their cake and eat it too. The things they claim to want are many times mutually exclusive:

1. They want low gas prices and they want people to use mass transit.
2. They want to low energy prices and they want investment in alternative fuels.
3. They want to become energy independent but they won't allow companies to drill for oil in places where we know it exists.
4. They want low oil prices but they want to take profits away from oil companies who will cut their exploration budgets in response.
5. They claim to want to use ethanol to reduce greenhouse gases, but won't remove tariffs on more efficient ethanol produced from sugar cane in Brazil.

The market will take care of high oil prices. History tells us that Congressional action will merely prolong the process.

Tuesday, May 20, 2008

Market Correction

The Dow Industrials are down over 200 points as I write this and one has to wonder if this means the recent rally is over. Based on recent sentiment readings, I think this was overdue and healthy. With bulls in the American Association of Individual Investors approaching the 50% level over the last two weeks, it would seem that investors had become too complacent too soon. I do not expect this to turn into anything more than a brief correction.

It would seem also that investors are finally awakening to the potential negative economic consequences of high oil prices. While I think most of the recent spike is not fundamental in nature, it doesn't change the fact that putting $100 in the SUV means you can't spend it somewhere else. It can't be good for the economy for so much capital to be devoted to just driving around.

Speaking of sentiment, the bullishness on commodities, especially oil, is starting to feel like deja vu all over again. Everyone is talking about commodities and everybody is looking for a way to get in on the bonanza. The proliferation of commodity based ETFs looks suspiciously like the proliferation of tech funds in the late 90s. The parade of "experts" on CNBC predicting ever higher prices for oil seems endless. I don't know what will end the mania but when it does, look out below.

Producer Price Index

The US producer price index rose a tame 0.2% in April, less than half of what was expected. Core PPI, which excludes energy and food prices because of their volatile nature, increased a surprising 0.4%. Economists had forecast a 0.4% gain for the PPI, and a 0.2% for the core.

The monthly gain was largely attributed to increases in consumer goods prices, and not the usual culprits, wholesale energy and food prices. Core prices were pushed higher by a 1.3% increase in wholesale light truck prices and a 0.4% increase in wholesale car prices. Drug prices rose 0.7%, alcohol prices gained 1%, and commercial furniture prices rose 1.8%, the most in 27 years. Capital goods prices rose 0.4%.

Energy prices at the wholesale level actually fell 0.2%, while food prices were flat for the month. You might be wondering, like the millions who fill up their tanks and eat a few meals a day, how this is possible. Well, here's your answer...

The government's data are seasonally adjusted to hide the impact of normal seasonal variations to focus on fundamental changes in prices that are not driven by the ebbs and flows of the seasons. Because energy prices typically rise more in April than they did this year, the seasonally adjusted figures showed a 0.2% decline. In unadjusted terms, energy prices rose 2.9%. Wholesale gasoline prices fell 4.6% in seasonally adjusted terms, but rose 3.2% in unadjusted terms. - Marketwatch

Year-over-year, producer prices have increased 6.5%. Core PPI gained 3.0% in the same period, the largest gain since late 1991.

See Full Report.

Monday, May 19, 2008

Privatize Social Security

I know Barack Obama won't listen to logic on Social Security (see here), but maybe McCain will. Chile privatized their system almost 30 years ago and the results are plain:

The Chilean privatized system began in 1981, exactly 100 years after Bismarck instituted his system in Germany. It has been 29 years since the system went into effect in Chile so Mr. Pinera now can answer his critics, not only with theoretical arguments, but with hard data.

The results are remarkable. Chile's citizens have on average experienced a 10 percent per year, above inflation, compounded growth rate in their pension funds for the last 29 years. The result is most Chileans are no longer poor, but are, in fact, "small capitalists."

The Chilean government, increasingly freed from paying pensions out of tax funds (almost all Chileans have moved into the private accounts, though they could have stayed in the old government system), is now running a budget surplus of 10 percent of gross domestic product (GDP), which could pave the way for the abolition of the income tax.

The new Chilean system has provided so much investment capital that Chile moved from being a poor country to being a solid middle-income country with the highest per capita income in South America. Critics in the U.S. and elsewhere claim investing pension funds in stocks and bonds is risky, but the real risk to the elderly is being trapped in government social security schemes headed toward insolvency.

Politicians seem to have an aversion to evidence so I have no hope that this will actually happen in the US, but shouldn't we at least have the debate?

Trade Bashing Paradox

James Surowiecki has a very logical article on free trade in the New Yorker. Barack Obama and Hillary Clinton have both talked of the downside of free trade, but have not spent a single minute on the benefits. As Surowiecki points out, the losers from free trade are also the winners:

It’s an understandable view: how, after all, can it be a good thing for American workers to have to compete with people who get paid seventy cents an hour? As it happens, the negative effect of trade on American wages isn’t that easy to document. The economist Paul Krugman, for instance, believes that the effect is significant, though in a recent academic paper he concluded that it was impossible to quantify. But it’s safe to say that the main burden of trade-related job losses and wage declines has fallen on middle- and lower-income Americans. So standing up to China seems like a logical way to help ordinary Americans do better. But there’s a problem with this approach: the very people who suffer most from free trade are often, paradoxically, among its biggest beneficiaries.

Free trade is not a free lunch; there's no such thing. There are definitely losers from free trade - at least in the short run. The difficulty in identifying the winners is part of the problem free traders face when trying to convince others of their argument. The winners are widely dispersed and the losers are more easily identified.

But the reality is that if we toughen our trade relations with China the benefits will be enjoyed by a few, since only a small percentage of Americans now work for companies that compete directly with Chinese manufacturers, while average Americans will feel the pain—in the form of higher prices—far more quickly and more directly than rich Americans will. Obama and Clinton, in their desire to help working Americans—and gain their votes—are pushing for policies that will also hurt them.

Obama and Clinton are smart enough to understand the arguments and I suspect they are not nearly as opposed to trade as they say. That they will argue against the interests of the very voters they are courting just shows the lengths to which they will go to capture the presidency. McCain does the same thing of course, just on different topics like global warming, but at least on trade, McCain talks a better game than either of the Democrats.

Gross Thoughts

Daniel Gross' review of Jeffrey Sachs new book, "Common Wealth", involves a certain kind of confused leftist thinking that is pervasive these days. Those on the left have competing agendas that require a twisted logic to keep their heads from exploding. After pointing out that Malthus got it wrong in the 1800s and the Club of Rome got it wrong in the early 1970s, Gross says:

And yet. Even congenital optimists have good reason to suspect that this time the prophets of economic doom may be on point, with the advent of seemingly unstoppable developments like climate change and the explosive growth of China and India. Which is why Sachs’s book — lucid, quietly urgent and relentlessly logical — resonates. Things are different today, he writes, because of four trends: human pressure on the earth, a dangerous rise in population, extreme poverty and a political climate characterized by “cynicism, defeatism and outdated institutions.” These pressures will increase as the developing world inexorably catches up to the developed world. By 2050, he writes, the world’s population may rise to 9.2 billion from 6.6 billion today — an increase of 2.6 billion people, which is “too many people to absorb safely.” The combination of climate change and a rapidly growing population clustering in coastal urban zones will set the stage for many Katrinas, not to mention “a global epidemic of obesity, cardiovascular disease and adult-onset diabetes.”

So, in other words, the prophets of doom have never been right, but it's different this time. How does Sachs know that an extra 2.6 billion people is "too many to absorb safely"? And how can you square that with the idea that we will have a global epidemic of obesity, cardiovascular disease and adult onset diabetes? There are lots of people on this planet that would love to be rich enough to worry about obesity. Sachs seems to think they will have the privelege - and yet that's a bad thing? As for the political climate being characterized by "cynicism, defeatism and outdated insitutions", has it occurred to Sachs that maybe the cynicism is warranted? Maybe the world would be better off if do gooders like Sachs would stop telling people that politicians can solve the world's problems. That is a guaranteed disapointment. And those creaky institutions (like the IMF) are nothing more than the last generation's best ideas for how government can solve problems. What makes Sachs think this generation will do any better?

Gross continues:

“In the 21st century our global society will flourish or perish according to our ability to find common ground across the world on a set of shared objectives and on the practical means to achieve them.” By working together and harnessing the productive genius of the public and private sectors, Sachs argues, we can build sustainable systems, stabilize world population at about eight billion and end extreme poverty by 2025.

And how exactly are we to arrive at that common ground? And why do we need to harness anything? What if my agenda is different than Sachs'? Do I still get harnessed?

The bien-pensant classes, of which I count myself a paid-in-full member, will coast through this well-constructed book (sipping fair-trade coffee, nibbling organic carrots and pausing to catch the headlines on National Public Radio) and nod along through the primers on greenhouse gases, China’s development and the potential for carbon capture; the digs at President Bush; and the call for the creation of seven global funds concentrating on areas like agriculture, the environment and infrastructure. In a particularly trenchant passage, he gently fillets critics, like William Easterly, who have argued that foreign aid doesn’t work. (Aid money spent bringing fertilizer to India in the 1960s, Sachs notes, yielded spectacular returns.) And it’s refreshing to hear a distinguished economist declare that markets alone can’t get us out of the mess markets have created.

Bien Pensant. That says more about Gross than I suspect he realizes. Fair trade coffee, organic carrots and NPR. Yep, that sounds bien pensant to me. "Accepting of fashionable ideas with little critical thought". That describes Gross and most of the other readers of the NYT to a tee. But I digress. Seven global funds? Administered by whom? Managed by whom? Any chance that the funds will be used to funnel money to bien pensant projects that are unlikely to accomplish the stated goal? And Easterly is right; foreign aid doesn't work and Gross and Sachs prove the point. They had to dig back 40 years to find one aid project that accomplished something other than enriching a nasty dictator?

Sachs has a prescription for every world problem. Unfortunately, few of them involve allowing people to do what they want with their own lives. The leftist conundrum is that they can't get what they want in one area without giving up what they want in another. They want to solve world poverty, but at the same time they want to limit carbon emissions that will limit growth and extend poverty. They want a world government but also want to protect American workers from foreign competition (trade restrictions). And that's the problem with top down solutions; you can't have everything. Economics teaches us that there are always tradeoffs. Gross and Sachs want to live in a world where tradeoffs don't exist. Unfortunately, that world doesn't exist.

Friedman Day

Americans finally will start working for themselves today rather than for their government masters. This milestone arrives two days later than in 2007, clearly proving that the era of big government is back with a vengeance. May 19 is Friedman Day, when the Massachusetts-based American Institute for Economic Research calculates that citizens finally will have toiled long enough to fund local, state, and federal spending.

Tax Freedom day already passed so obviously we are spending beyond our means. Government spending has been rising at about 8% since Bush came into office so spending the people's money is a bipartisan effort regardless of Republican rhetoric about small government.

Deroy Murdoch spends a good portion of this article on the recently passed farm bill:

Today’s Democrat-controlled House of Representatives continues this fiasco. It approved a $307-billion farm bill on May 14, by a vote of 318 to 106. The Senate endorsed this largesse the following day, 81 to 15. Among other damage, this legislative monster gives $3.8 billion in disaster assistance to those who already have received $5.2 billion in direct payments for their “historical planting average,” even if they have stopped farming. While typical GIs in Iraq and Afghanistan (unmarried E-4s with four years’ service) dodge and, too often, catch bullets for just $41,591 annually, couples with yearly incomes up to $1.5 million still can receive agricultural subsidies. Democrats consider these wealthy growers rich enough to slam with tax hikes, yet poor enough to soothe with farm welfare. Which is it?

Meanwhile, calamitous ethanol assistance survives, dreadful sugar supports expand, and those who cultivate lentils, chick peas, salmon, and even race horses join the dole. Want a new tractor? Uncle Sam will help you buy one.

Greedy politicians who use taxpayers’ money to buy the votes of equally greedy farmers collectively soil common decency. Furthermore, they are an international embarrassment to a nation that still claims to be Earth’s chief repository of limited government and free-market capitalism.

These trade-distorting subsidies likely will encourage foreign countries to erect retaliatory barriers. Perhaps America’s already porcine farmers will balloon into morbid obesity by wolfing down the wheat, soybeans, and rice they soon may have trouble exporting.

While record-high agricultural prices cause belt-tightening at home and food riots overseas, this farm bill cruelly demonstrates that most Washington politicians don’t give a damn about anything but their reelection prospects.

“Pain at the grocery checkout line? Starvation abroad? Whatever. Just keep me inside the Beltway.”

I don't like most politicians and their party affiliation has little to do with it. It seems that just breathing the air in DC makes one do stupid things with my money, but this farm bill is an affront to every hard working, non farming American who manages to run their business without government assitance. The vast majority of Americans are paying to buy the votes of a small minority. Why aren't they more angry?

Leading Economic Indicators

The index of leading economic indicators is used to predict the direction of the economy's movements in the months to come. The index is made up of 10 economic components, whose changes tend to precede changes in the overall economy. The ten components are:

1. the average weekly hours worked by manufacturing workers
2. the average number of initial applications for unemployment insurance
3. the amount of manufacturers' new orders for consumer goods and materials
4. the speed of delivery of new merchandise to vendors from suppliers
5. the amount of new orders for capital goods unrelated to defense
6. the amount of new building permits for residential buildings
7. the S&P 500 stock index
8. the inflation-adjusted monetary supply (M2)
9. the spread between long and short interest rates
10. consumer sentiment

The Conference Board reported a gain for the second straight month in April, after posting declines for five straight months. The US leading indicators index rose 0.1%, matching the gain posted in March. The index, recovering from its lows in February, is still down 1.15% (2.3% annual pace) in the last six months.

Six of the components were positive for the month. The biggest positive contributor was stock prices. This is evident as the market has recovered substantially since the Bear Stearns debacle in March. The interest rate spread, building permits, initial jobless claims, vendor performance, and new orders for consumer goods all came in as positive for the month.

Consumer expectations, weekly manufacturing hours, and new orders for capital goods were the three negative contributors for the month. Real money supply held steady.

See Full Report.

French Fail Basic Economics

As I mentioned in an earlier post, our politicians seem to want to push us, one step at a time, in the direction of the European economic model. That model produces lousy results, but is supposedly more humane than the American version of capitalism. What it really does is attempt to ignore the basic laws of economics in favor of feel good laws. The French lead the way in attempting to have their economic cake while eating it too:

Rising fuel and food prices are worrying consumers all over Europe. Concerns about purchasing power are an especially hot issue in France. President Nicolas Sarkozy's unpopularity owes much to his failure to boost it as he promised. Inflation, at a 17-year-high, is not the only problem. This week, he dropped in on a Yoplait yogurt factory to declare that “there is no reason why we should have the highest prices in Europe.”

Yet if voters want lower prices, they are less enthused by more competition. Christine Lagarde, the finance minister, is promoting a new law to inject more competition into retailing. It would make it easier to build out-of-town hypermarkets, and would scrap a rule stopping retailers from selling below cost. In many places, hypermarkets have de facto local monopolies, and so are protected from competing with each other or with the big discounters, which account for only 13% of food retailing, next to 30% in Germany. Nor can hypermarkets negotiate freely with suppliers, which retailers say allows big brand-names to impose high prices.

So why are consumers not cheering on the new law? The Socialists say the fringes of historic towns will be destroyed. Deputies in Mr Sarkozy's own party, lobbied by food producers and small shopkeepers, want to dilute the text. When asked by Ifop, a pollster, how best to raise their purchasing power, only 42% of respondents picked out more retail competition. Some 85% preferred a cut in the sales tax, and 72% a rise in the minimum wage. Scepticism about competition has deep roots, ranging from a lingering influence of Marxism to a fear of American capitalism trampling the French way of life. Above all, voters see competition through the eyes of producers—as a menace to jobs and factories—rather than consumers.

If you legislate away competition, you reduce the overall supply of goods and therefore raise prices. That is Economics 101 and the French are failing. Why would we want to follow this example?


I've been seeing a lot of stories lately that doubt the recent rise in the stock market is sustainable. From the WSJ today we get two articles here and here.

The first one is titled "This Stock Market Rally is a Keeper...or a Tease" and the second one "Why the Stock Market is Going Up" and actually here's another one, "Stalwart P/E Shows Stocks Getting Pricey".

As a committed contrarian, stories like this make feel a little more comfortable about being in the market. As long as there are skeptics, there are still investors on the sidelines who can keep the rally going when they finally commit.

The Social Security Scare Game Starts

It's safe to say that Obama is now the official Democratic nominee. He's started telling seniors that the mean old Republicans are out to ruin Social Security. I've been hearing Democratic candidates make this same pitch my entire adult life and the rhetoric doesn't change:

"Let me be clear, privatizing Social Security was a bad idea when George W. Bush proposed it, it's a bad idea today," Mr. Obama said. "That's why I stood up against this plan in the Senate and that's why I won't stand for it as president."

Mr. Bush proposed a Social Security plan in 2005 that focused on creating private accounts for younger workers, but it never came up for a vote in Congress. Democrats strongly opposed the idea and few Republicans embraced it.

Mr. Obama said Mr. McCain would push to raise the retirement age for collecting Social Security benefits or trim annual cost-of-living increases. Mr. Obama has rejected both ideas as solutions to the funding crisis projected for Social Security in favor of making higher-income workers pay more into the system.

"We have to protect Social Security for future generations without pushing the burden onto seniors who have earned the right to retire in dignity," he said.

Social Security is a giant Ponzi scheme and Obama is right - the only way to keep the game going is to collect more from workers to pay for retirees. That's because we have fewer workers per retiree than when Social Security was started. I suppose it is possible to tax your way out of the problem, but the cost will be higher than the Obamas of the world imagine. I guess politicians will just keep pushing us down the road to European socialism, facts be damned. Higher unemployment, lousy healthcare for all, and massive debt. Yeah, that's the ticket.

Sunday, May 18, 2008

Obama on Trade

Trade is a hot button issue in this election and both Democratic candidates have blamed trade agreements for lost jobs in the US. If you are going to bash trade, at least get the facts right:

Speaking to a crowd of farmers in a barn, Barack Obama cited the Japanese not selling American beef as an example of how current trade policies have hurt rural communities.

“You can’t get American beef into Japan…even though we have the highest safety standards. They don’t want the competition,” he said in response to a question about trade and manufacturing jobs moving to China.

But Japan lifted its ban on American beef almost a year ago in June. The country had banned imports in 2003 after an outbreak of mad-cow disease. According to the U.S. Meat Export Federation in Denver, the U.S. currently exports over 5,000 tons of beef per month to Japan, down from 20,000 tones before the 2003 ban when Japan was the No. 1 importer of American beef.

But the problem is not, as Obama said, that the Japanese refuse to import American beef. Rather, it is that American beef now faces stiffer competition with Australian beef, which is cheaper and has made major inroads in the market in recent years.

“The market itself has changed,” Shirou Inukai, deputy director of the Meat Market and Trade Policy Division of Japan’s agriculture bureau said in an interview with the Wall Street Journal in August. “When American beef was gone, Australian beef filled the void.”

Adding to the problem, the overall demand for beef in Japan has been slowing. During the economic heyday of the late 1980s and early 1990s, consumers lusted for fat rib-eye and juicy filet mignon, which were about half the price of costly Japanese beef. But lately, the Japanese have been opting for fish, chicken and pork. Per capita consumption of beef in Japan is down 13% from 2002, according to Japan’s agriculture bureau. Even domestic beef has taken a hit.

Saturday, May 17, 2008

Heal Thyself

The Fed has finally decided that they need to look at their policies regarding potential bubbles. Here is Fed Governor Frederic Mishkin in a recent speech:

How Should We Respond to Asset Price Bubbles?

Over the centuries, economies have periodically been subject to asset price bubbles--pronounced increases in asset prices that depart from fundamental values and eventually crash resoundingly. Because economies often fare very poorly after a bubble bursts, central bankers need to think hard about how they should address such bubbles. This issue has become especially topical of late because of the rapid rise and subsequent decline in residential housing prices this decade. The recent drop in house prices in many markets around the country has been accompanied by increasing rates of defaults on mortgage loans and home foreclosures. These developments have created hardship for the families who are forced to leave their homes and have disrupted communities; in addition, the developments have contributed to a major shock to the financial system, with sharp increases in credit spreads and large losses to financial institutions. As many have pointed out, the damage to households' credit and the financial disruption have been a drag on the U.S. economy, which has led to a slowing of economic growth and a recent decline in employment.

Later he offers his opinion regarding how Central Bankers should respond:

To be clear, I think that in most cases, monetary policy should not respond to asset prices per se, but rather to changes in the outlook for inflation and aggregate demand resulting from asset price movements. This point of view implies that actions, such as attempting to "prick" an asset price bubble, should be avoided.

Why do central bankers cling to the notion that inflation is the rise in prices rather than the cause of the rise in prices. The traditional - and correct in my opinion - definition of inflation is an increase in the supply of money. Inflation causes the rise in prices and there is no way to predict which prices will be affected most. It could be asset prices or it could be consumer prices - there is no way to know. The Fed should concentrate on controlling the one thing over which they have direct control - the money supply.

Others, such as Minneapolis Fed Governor Gary Stern, have said the traditional approach to bubbles (such as that outlined by Mishkin) need to be rethought:

“If you look at the aftermath of the decline in equity values from 2000 to 2002, and you look at the aftermath of the decline in home prices, activity in residential construction and all the problems in mortgage markets… the aftermath hasn’t been costless and it hasn’t been easy to deal with,” he said Tuesday in an interview with The Wall Street Journal. “I think it legitimately opens up the question in my mind. It’s certainly worth taking another look at what are the costs and the difficulties of dealing with the aftermath? Is there something that could be done on the front end?”

Unfortunately, it doesn't appear that Stern gets it either. Why is it so hard for central bankers to understand that if you ease credit terms, people will borrow more money? And if you make the terms too good, people will borrow a lot of money? The Fed needs to look in the mirror to discover the cause and the cure for bubbles. Heal Thyself.

Long Term Trends

I've been writing a lot recently about long term trends. Investors always want to pinpoint changes in a trend because if you get it right, the rewards can be ample. Unfortunately, detecting a change in a long term trend is difficult at best. I reviewed the trend in style in this recent post. Today I will review the trend in International shares versus US shares. The EAFE has outperformed the US market over the longer term:

5 Years

3 Years

1 Year

Over the very short term, the US market has performed marginally better:

2 Months

I have heard a number of commentators recently proclaim that this means the trend is ending. I suppose that is possible, but it will take more than two months to convince me. The US economy may not be in recession, but growth is anemic at best. Countries outside the US are growing faster and many have better fiscal positions (even some so called emerging economies actually have better government finance than the US; does that mean they've emerged?).

Another trend that persists is the outperformance of emerging market stocks.

5 Years: EAFE, S&P 500, Emerging Markets

I see no evidence that this is coming to an end either. One word of caution though; everyone seems to agree that this trend will persist. When everyone agrees on something, I tend to get nervous. I suspect that when a correction in this trend arrives, it will pretty ugly so if you own these markets, you should keep your finger on the trigger.

Friday, May 16, 2008

Consumer Sentiment

The University of Michigan/Reuters consumer sentiment index fell to its lowest levels since 1980, as high fuel and food prices, along with falling home values, weighed on expectations. The index fell to 59.5 from 62.6 in the month of May. Economists were expecting a reading of 61.0.

The expectations index also fell to levels not witnessed in over 18 years. The index came in at 51.7, down from 53.3 in the month of May. One-year inflation expectations rose to 5.2%, the highest level in 26 years.

See Full Report.

Housing Starts

Housing starts for the month of April surged 8.2%, to a seasonally-adjusted annual rate of 1.032 million. The number blew away expectations, as economists were expecting a number closer to 939,000.

New construction on single-family homes did fall for the month, though, by 1.7%, the lowest level since January 1991. Starts on single-family homes have fallen 30.6% in the last year.

Starts on multi-family homes of 5 units or more units increased a whopping 40.5% in the month and are up 28.9% in the past year.

Regionally, total starts fell by 12.7% in the Northeast. In the Midwest, starts gained 24.4%. Starts also rose 3.6% in the South and 18.5% in the West.

Building permits, an indicator of future construction, also surged in April, gaining 4.9%, to a seasonally-adjusted annual rate of 978,000. Building permits are down 34.3% in the past year.

See Full Report.

Thursday, May 15, 2008

Industrial Production

US industrial production, output at the nation's factories, mines, and utilities, fell 0.7% in April. The number is below estimates, as economists were expecting a negative 0.6% for the month. The April number follows a downwardly revised 0.2% gain in March.

Output at the nation's factories fell 0.8%, the biggest decline since September 2005, when Hurricane Katrina wrecked havoc. Industrial production is up 0.2% in the past year, and is down 1.2% since January.

Capacity utilization, a key gauge of inflationary pressures, fell to 79.7%, from 80.4%. It is also at its lowest levels since Katrina. Lower capacity usually leads to slower inflation, as producers compete with each other for work.

See Full Report.

Initial Jobless Claims

The number of people filing for first time unemployment benefits increased by 6,000 in the latest week, according to the weekly report released by the Labor Department. Claims rose to 371,000 in the week ending May 10. Economists had been expecting 370,000 in new claims.

Having witnessed extremely volatile measurements in the past seven weeks, it is wise to consider the four-week moving average of initial claims, which smooths out one-time factors such as bad weather or holidays. The four-week moving average was lower by 1,000 in the latest week, down to 365,750.

Initial claims are up 23% in the past year.

See Full Report.

Wednesday, May 14, 2008

Is Supply and Demand Too Hard to Understand?

Thomas Sowell doesn't think so:

Some people think that the reason the public misunderstands so many issues is that these issues are too "complex" for most voters. But is that really so?

With all the commotion in the media and in politics about the high price of gasoline, is there really some terribly complex explanation?

Is there anything complex about the fact that with two countries-- India and China-- having rapid economic growth, and with combined populations 8 times that of the United States, they are creating an increased demand for the world's oil supply?

Politicians have reasons for spouting economic nonsense on the campaign trail. As Sowell points out, their job is to get votes, not make economic sense.

Sowell is a national treasure. Read the whole thing.

Taxi Protection Racket

Why is government involved in the taxi business? I can't think of a good reason, but apparently here in Miami, taxi drivers and citizens need protection from unlicensed taxi service:

MIAMI GARDENS, Fla. -- A man who said he thought he was just helping a woman in need is accused of running an illegal taxi service.

Miami-Dade County's Consumer Services Department has slapped Rosco O'Neil with $2,000 worth of fines, but O'Neil claims he is falsely accused.

"I ain't running nothing illegal," O’Neil said.

The 78-year-old said he was walking into a Winn-Dixie to get some groceries when he was approached by a woman who said she needed a ride.

"She asked me, 'Do I do a service?'" O'Neil said. "I told her no. She said, 'I need help getting home.'"

O'Neil told the woman if she was still there when he finished his shopping, he would give her a ride. She was, so he did.

As it turned out, the woman was an undercover employee with the consumer services department targeting people providing illegal taxi services.

"She said the reason she targeted him (is because) she saw him sitting in his car for a few minutes," said Ellen Novodeletsky, O'Neil's attorney.

After O'Neil dropped off the woman, police surrounded him, issued him two citations and impounded his minivan. On top of the fees, it cost O'Neil an additional $400 to retrieve his minivan from the impound lot.

There are no prior complaints that O'Neil was providing illegal transportation for a fee.

"It's not entrapment because she didn't expect him to provide her transportation," said Sonya Perez, a spokeswoman for the consumer services department.

O'Neil claims he was just being kind and providing a ride to a lady in need.

"There's all kinds of possibilities, but the fact of this particular case, what our enforcement officers witnessed -- because we had several on the scene, plus a Miami-Dade police officer -- and all the information came back the same, that this was a business transaction," Perez said.

O'Neil said he never even discussed money until the woman insisted upon it.

"She asked me, 'How much you charging?'" O'Neil said. "I said, 'Anything you give me.' She said, 'No, I need a price.'"

Although they claim it is not entrapment, I have my doubts. More importantly, who is harmed by this transaction? And even more importantly, don't these enforcement officers have something better to do?

Economic U Turn?

Thomas Frank, author of What's the Matter with Kansas, has an editorial in the WSJ today about, what else, economic inequality:

Median "nonelderly" household income, we find, fell consistently through the first half of this decade, despite the solid economic growth enjoyed by the country as a whole.

Some nonmedian folks did just fine, of course: The top 20% of households earned more, after taxes, than the rest of the country combined in 2005, while the topmost 1% of the population took home more than the bottom 40%. The top-earning hedge fund manager of 2007, in fact, made about as much last year in nominal dollars ($3.7 billion) as J. Paul Getty, one of the richest men in the world, was worth in the mid-1970s.

Real hourly wages for most workers, on the other hand, have risen only 1% since 1979, even as those workers' productivity has increased by 60%. What's more, American workers now clock more hours per year than their counterparts in virtually every other advanced economy, even Japan. And unless you haven't read a newspaper for 15 years, you already know what's happened to workers' health insurance and pension plans.

It has not merely "happened"; it has been done to us. The distinction is an important one to keep in mind as we survey the ruins of the affluent society. What has overtaken America's working people is not a natural disaster like "globalization," and not even some kind of societal atavism in which countries regress mysteriously to their 19th-century selves. This is a man-made catastrophe, a result that proceeded directly from the deliberate beatdown of organized labor and the wrecking of the liberal state.

It is, in other words, a political disaster, with tax cuts, trade agreements, deregulatory measures, and enforcement decisions all finely crafted to benefit one part of society and leave the rest behind. Few of the voters who gave Ronald Reagan his landslide victories, it is fair to say, intended for this to be the outcome. They wanted their country to stand tall again, certainly; they wanted the scary regulators off their backs, maybe; but I can recall no conservative who trumpeted those long-ago elections – or any of the succeeding contests, for that matter – as a referendum on plutocracy.

I would like to see a more equal distribution of income and wealth in the US too as I think the polticial consequences of inequality are ones we want to avoid. Unfortunately, Mr. Frank and most of the others who decry the inequality present the problem as one of evil rich people taking from the poor. That vision is not only wrong but counterproductive to solving the problem.

What has happened over the time that Mr. Frank references is inflation. Inflation is beneficial to whoever receives that newly printed dollar first. The financial intermediaries are the first to receive a newly minted dollar and that can be seen by observing the expansion of the financial industry in this time. Next in line would be the rich as these financial intermediaries always loan to those with the ability to repay easily first. Middle class may benefit somewhat less and the poor don't benefit at all. It is the actions of the Federal Reserve that has caused the inequality problem and it won't be fixed through tax policy (tax the rich!) or any other policy preferred by Mr. Frank and his friends. It will only be fixed by reforming or eliminating the Federal Reserve system.

Farm Bill

The House votes on the corporate welfare, vote buying boondoggle known as the Farm Bill today. The WSJ has a good editorial on the subject:

We can't wait to hear how Members of Congress explain their vote this week for the new $300 billion farm bill. At a time when Americans are squeezed at the grocery store, they will now see more of their taxes flow to the very farmers profiting from these high food prices.

This year farm income is expected to reach an all-time high of $92.3 billion, an increase of 56% in two years, making growers perhaps the most undeserving welfare recipients in American history. But that won't stop this bill from passing the House and Senate by wide margins.

This bill just boggles the mind.

Consumer Price Index

The US consumer price index gained slightly in April, as today's monthly report showcased a tame 0.2% increase. The report was in line with economists expectations. Core CPI, which excludes energy and food prices because of their volatile nature, increased 0.1%. Economists had also forecast a 0.2% gain for the core CPI.

The monthly gain, although mild compared to what consumers actually feel (or so it seems), was largely attributed to an increase in consumer food prices. Food prices in the US rose 0.9%, the sharpest rate in 18 years. Gasoline prices fell 2.0% (???) for the month.

Year-over-year, consumer prices have increased 3.9%. Core CPI gained 2.3% in the same period.

See Full Report.


The WSJ has an article today about economists who are now reconsidering their recession thesis:

A funny thing happened to the economy on its way to recession: It's taken a detour.

That, at least, is the view of a growing number of economists -- including some who not long ago were saying a recession was all but inevitable. They note that stock and credit markets have steadily improved since the Federal Reserve intervened to keep Bear Stearns Cos. from bankruptcy in early March, while a series of economic reports have been stronger than expected.

Most of the economists quoted in the article were in the recession camp just a month ago. It's nice to see others coming around to our way of thinking, but in a way it makes me nervous. If all these guys were wrong a month ago, why would they be right now? Hmmm....

Tuesday, May 13, 2008

New Book Recommendation

I recently finished More Sex is Safer Sex: The Unconventional Wisdom of Economics by Steven Landsburg. Landsburg is an economics professor at the University of Rochester and once wrote a regular column for Slate (he may still but I can't find anything recent). Landsburg uses economic logic to come to some rather interesting conclusions about everything from the spread of AIDS to how to fix politics. It's a better read than Freakonomics, which I also found enjoyable.

Index Comparisons

In my last market update (see here), I looked at some long term trends in markets that I believe will continue. In this post, I will take a look at some shorter term trends. One of the cycles we try to take advantage of is the difference in performance between the growth and value styles. These trends tend to persist for 5-7 years. Right now, we are in a growth cycle. This chart shows the performance of IVV (IShares S&P 500, black line), IVE (IShares S&P 500 Value, brown line) and IVW (IShares S&P 500 Growth, blue line) over the last year. As you can see the growth index is clearly outperforming. This is true over a two year period as well.

This chart shows a similar chart of the Russell 2000, a small cap index. Again the index is in black, value in brown, growth in blue:

This trend extends to the EAFE index as well:

These trends have been in place for about two years now and if history is a guide, they will likely persist for another few years.

Monday, May 12, 2008

Market Update

My latest market update is posted at the website. Click on the title to read the whole thing. Here's an excerpt:

With all the information on the economy and markets that gets released on a daily basis, it is easy to get bogged down in the details and lose sight of the more important, bigger picture. Traders react with lightning speed to the latest news on the economy or earnings at a high profile company and average investors wonder if they should be reacting as well. Was that employment report really that important? Is it significant that XYZ, Inc. missed their earnings estimate by $0.01? What news is important and what can safely be ignored?

Having done this for a long time, I can say with complete confidence that most of what passes for economic and market news is not worth the paper (or electrons) expended in its dissemination. This can be demonstrated by the simple observation that reports once deemed market moving are now routinely ignored. Back in the 1980s, traders waited for the weekly money supply figures as if they were being delivered from Delphi. Now, I’m not even sure what day those figures are released. If the reports were important in the 80s, why aren’t they important now? The obvious conclusion is that they weren’t that important to begin with.

In the short term, the markets are moved by the constant flow of news. This constant bombardment of “news” can divert our attention from the long term trends that remain in place even as short term divergences emerge. There is very little that is truly new or “different this time” and the only way to separate the noise from the truly important information is to look at the long term trends.

Fed Mimics Zimbabwe?

When you are praised by the Central Bank of Zimbabwe, you might want to rethink your policies. From the Zimbabwe central bank's recent update:

As Monetary Authorities, we have been humbled and have taken heart in the realization that some leading Central Banks, including those in the USA and the UK, are now not just talking of, but also actually implementing flexible and pragmatic central bank support programmes where these are deemed necessary in their National interests.

That is precisely the path that we began over 4 years ago in pursuit of our own national interest and we have not wavered on that critical path despite the untold
misunderstanding, vilification and demonization we have endured from across the political divide.

Yet there are telling examples of the path we have taken from key economies around the world. For instance, when the USA economy was recently confronted by the devastating effects of Hurricanes Katrina and Rita, as well as the Iraq war, their Central Bank stepped in and injected life-boat schemes in the form of billions of dollars that were printed and pumped into the American economy.

A few months ago, the USA economy confronted a severe mortgage crisis, which threatened to spark an economy-wide recession.

The USA Central Bank again responded by injecting over US$160 billion between December, 2007 and March, 2008, to provide impetus to the American economy and prevent a worse crisis from happening.

A look at the recent developments in the UK equally reveals how increasingly, leading central banks in the global economy are bailing out troubled economic sectors to achieve macroeconomic and financial stability.

Faced with a yawning threat of systemic bank failures on the back of the aftermaths of that country’s mortgage crisis, the Bank of England was directed by its Government to intervene by providing a £50 billion lifeline to the UK’s banking

Here in Zimbabwe we had our near-bank failures a few years ago and we responded by providing the affected Banks with the Troubled Bank Fund (TBF) for which we were heavily criticized even by some multi-lateral institutions who today are silent when the Central Banks of UK and USA are going the same way and doing the same thing under very similar circumstances thereby continuing the unfortunate hypocrisy
that what’s good for goose is not good for the gander.

Those who yesterday did not see the interconnection between sanctions and the politics of this country as they sought conventional and dogmatic textbook methods of moving this economy now have good cause to reflect on these examples of quasi-fiscal interventions by the central banks in the USA and the UK and review their dogmas in the interest of adopting more flexible and dynamic approaches informed by
the exigencies of the economic situation on the ground.

Our economy is and has been in trouble for over ten years and our extraordinary interventions by whatever name have helped to keep the wheels of this economy moving.

Even though our efforts have been criticized and derided clearly for undisguised political reasons, we are proud that we had the courage to do something that made a positive difference when it would have been far too easy for us to appear reasonable by doing nothing and thereby make the situation worse.

As Monetary Authorities, we commend those of our peers, the world over, who have now seen the light on the need for the adoption of flexible and practical interventions and support to key sectors of the economy when faced with unusual circumstances.

Of course, in the short-term such interventions are without doubt inflationary but in the medium to long-term they trigger and propel economic growth and development that everyone craves for.

Just for the record, Zimbabwe's inflation rate is somewhere around 66,000%, so when he says above that "such interventions are without doubt inflationary" he really means it.

The sad thing here is that in many ways the writer is correct - there isn't a lot of difference between what the central bank in Zimbabwe did and what the Fed has done. The major difference is scale. We are probably not going to see inflation rates with 5 digits, but inflation we are getting and it is directly due to the Fed. Unfortunately, the statement "in the medium to long term they trigger and propel economic growth" is just patently false. Inflation does not cause growth, it inhibits it in the long run because resources have to be diverted from productive uses to cope with the inflation.

Bernanke should read this carefully and decide if he wants to keep company with the Zimbabwe central bankers.

The Decline of George Soros

George Soros has a reputation as a very savvy investor and that can't be disputed; his track record speaks for itself. But if this video is any indication of how his mind works, I don't think I'd be willing to hand him any money now. Maybe he's just getting old and senile, but if this is how his thought process worked when he was managing money, I'm not sure that he wasn't just extraordinarily lucky. In this video he attempts to blame Ronald Reagan for our current economic problems. Early in the video he says that Reagan advanced the idea that markets are self correcting but he claims that isn't true. To prove his point he details all the ways the government has intervened in the economy over the years and says, see, the market didn't correct itself, the government did it.

The debt we've built up, especially over the last 30 years or so, is because the government never allows the market to correct itself. How would the last 30 years disprove the idea that markets correct themselves when they haven't been allowed to correct. Every time the market tries to correct the excesses, the Fed steps in to mitigate the effects of the market trying to correct. The only thing that proves is that government can, for a while, prevent the very corrections that are needed. Our economy would be in much better shape today if the government hadn't stepped in every time the market tried to do its job. Soros is either losing it or never had it. Here's the video:

Soros Blames Reagan

Laws of Supply and Demand Still Work!

High gas prices have had one effect that every environmentalist should cheer - an increase in public transportation usage:

DENVER — With the price of gas approaching $4 a gallon, more commuters are abandoning their cars and taking the train or bus instead.

Mass transit systems around the country are seeing standing-room-only crowds on bus lines where seats were once easy to come by. Parking lots at many bus and light rail stations are suddenly overflowing, with commuters in some towns risking a ticket or tow by parking on nearby grassy areas and in vacant lots.

“In almost every transit system I talk to, we’re seeing very high rates of growth the last few months,” said William W. Millar, president of the American Public Transportation Association.

“It’s very clear that a significant portion of the increase in transit use is directly caused by people who are looking for alternatives to paying $3.50 a gallon for gas.”

It would seem that polticians have competing goals. They would like to be seen as helping consumers by lowering the price of gasoline and at the same time be seen as good environmentalists - which requires a high price for gasoline. I guess that shouldn't be surprising. Logic has never been the strong suit of politicians.

Here in Miami, we face the typical catch 22 of public transportation. Public transportation is poor, in that there are not enough bus routes and the Metro doesn't serve enough areas, and therefore citizens don't use public transportation. Since use of public transportation is low, we can't justify the money to pay for improving public transportation. Well, this story provides an answer to the conundrum. If you want people to give up the convenience of their car, you have to make it prohibitively expensive to drive that car.

I can think of numerous ways to make that happen with public policy, none of which politicians are likely to be willing to support publicly.

1. Eliminate the parking requirement for new construction of commercial and residential structures. If there is no place to park or if parking is very expensive, people may be more likely to use public transportation.
2. Impose a moratorium on new parking structures.
3. Use variable pricing for the parking at metro rail stations. When the lot is near full, the price of parking rises. When the lot is near empty it might be free. Making it expensive to park during rush hour might force more to arrive at the metro via bus.
4. Impose tolls on cars that enter the downtown area and use those tolls solely to fund public transportation.

I haven't thought all of these through so there may be unintended consequences to some of them, but the idea is to look at ways to increase the cost, finanical and otherwise, of driving rather than taking public transportation. We know there is a point where the cost of driving becomes too high and forces the transition because we're seeing it now. But what happens if the price of gasoline falls again? Those increases will turn into decreases unless some policy is enacted to keep the cost of driving high.

Speaking of Windfall Profits

Coyote Blog has an excellent point about the response to high prices in two industries:

This week, we have been given a chance to see a real contrast. Two consumer staples, gasoline and food, have both seen their prices go up substantially over the last several months. Both price spikes have been due to a combination of market forces (particularly increasing wealth in Asia) and US government policy that has the effect of restricting supply.

However, the political response from Congress has been completely different. In the very same week that Democrats in Congress have introduced bills to punish oil companies for high prices with windfall profits taxes, they have passed a farm bill that rewards farmers who are already getting record high prices with increased price supports and direct subsidies. This despite the fact that on a percentage basis, the increase in crop prices has been far larger than the recent increase in gas prices. The contrast in approaches to two industries in very similar situations couldn't be more stark.

Obviously, the difference is politics, as Coyote Blog points out. It seems that farmers make out no matter what happens. When prices are low, they claim to need subsidies so they can make a living and keep the "family farm". Of course, susbsidies were probably the cause of low prices to begin with, but no matter. When prices are high, they claim to need subsidies to ensure food security, as if high prices won't be enough to encourage future production increases. High prices should mean a reduction or elimination of subsidies in any sane world. Unfortunately, D.C. doesn't meet the definition of sane.

What's Up with Wachovia?

Wachovia is on some kind of streak recently. First came news that the bank was under investigation for money laundering:

NEW YORK (MarketWatch) -- Federal prosecutors are investigating Wachovia Corp. as part of a broad probe of alleged laundering of drug proceeds by Mexican and Colombian money-transfer companies, the Wall Street Journal reported Saturday, citing people familiar with the matter.

Today comes news that the SEC is investigating Wachovia over the Auction rate securities mess:

Wachovia Corp. confirmed that its Wachovia Securities LLC and other affiliates received inquiries and subpoenas from the Securities and Exchange Commission and several state regulators regarding auction-rate securities.

The financial services firm said the regulators are seeking information concerning the underwriting, sale and subsequent auctions of municipal auction-rate securities and auction-rate preferred securities.

"Further review and inquiry is anticipated by the regulatory authorities and Wachovia will cooperate fully," the company said in its quarterly report with the SEC.

Also, Wachovia and Wachovia Securities were named in a lawsuit in New York. The lawsuit seeks class-action status for customers who bought and continue to hold auction-rate securities based upon alleged misrepresentations made with respect to the quality, risk and characteristics of the securities.

They also announced the Jane Sherburne will replace Mark Treanor as general counsel later this summer. He's probably exhausted.

Friday, May 09, 2008

Concetrated Solar

Via Kurzweil:

A Hollywood-based solar startup says that it will soon be able to produce electricity from the sun at costs that are competitive with fossil-fuel generation. The key is the company's dramatic improvement in the performance of concentrated photovoltaic technology.

Sunrgi, which emerged out of stealth mode last week, has created a concentrated photovoltaic system that uses a lens to focus sunlight up to 2,000 times onto tiny solar cells that can convert 37.5 percent of the sun's energy into electricity. Stronger concentrations of sunlight allow engineers to use much smaller solar cells, making it more economical to use higher-efficiency--but higher-cost--cells. Sunrgi, for example, will use cells based on gallium arsenside and germanium substrates.

Sunrgi estimates that its system will be capable of producing electricity at a wholesale cost of five cents per kilowatt-hour. Prototypes have been built and tested both in the laboratory and in the field, and the company expects to start commercial production in 12 to 15 months. "It's quite an aggressive claim," says Daniel Friedman, a solar-energy researcher at the U.S. National Renewable Energy Laboratory (NREL). He says that most others in the space are still working toward seven or eight cents per kilowatt-hour. "I can't say Sunrgi won't achieve what it's claiming, but right now, it's just on paper, and costs like that are only going to be a reality at the large manufacturing level," he says. "Even then, the five-cent figure sounds really optimistic."

The fears of peak oil are misplaced. Given time and capital, technology will solve our energy problems.