Wednesday, December 16, 2009

Dealing with the end of US Hegemony

I suspect that the problem is that the world is looking at a new set of conditions, in a way that we have never had to confront them in the past; The USA which until recently was the dominant economic entity is being overshadowed by the emerging economies; yes the US economy is still three times as large as that of China ($15 trillion vs. $5 trillion), but what is important is the rate of change, zero growth Vs. 10%, and the dynamic of resources which for the first time are considered a store of wealth (Chinese pig farmers and their copper plates).

For America the story is asset deflation, you cannot have internally generated inflation when credit is contracting at an annual rate of 5% per annum, by definition asset prices have to fall, as the required leverage has to fall to meet the bankers' maximum asset exposure. Banks have been asked to reduce leverage, and as a whole have done so (it helps that they've not had to realize their portfolio losses, but I digress).

Europe is essentially in the same boat, with a bigger time bomb in the form of Eastern and Central Europe; Austria is the first, but you can bet that German and French banks will face similar problems soon. As European banks reel under the write-offs and balance sheet contraction requirements you will see asset deflation becoming a growing problem in Europe too.

The BRIC countries are the new unknown, and this is where inflation may arise, as their economy grow (assuming that the Chinese debt fuel growth can continue for 18 to 24 months) their demand for hard assets (oil, copper, Aluminum, Gold) will continue to rise, and create resource price inflation on a global scale. Too many "dollars" chasing too few resources. You could then see a situation in the U.S. where the economy is growing very slowly, but where prices begin to rise, driven by the cost of "global" resources (e.g. Oil at $200).

By the way this could easily lead to an American "W" situation. Where does Canada sit in all this (because at the end of the day that's the important part of the picture), it is complex, the resource side of the economy will grow dramatically, but manufacturing will suffer because of the export orientated nature of the Canadian economy. One bright aspect is that the Canadian banks have virtually no exposure to Europe or the U.S. and low leverage.

Call me captain gloomy, but Hypo Group nationalization is a huge deal, people forget the role of Credianstalt played in the 1930's depression. Although the challenges we face are different they are not dissimilar; History doesn't repeat itself, but it often rhymes

Thursday, December 3, 2009

Canadian Politics

I must admit that I am a closet conservative, not that this is going to be a huge surprise to Ms. FitN, she knows what I am made of! I was never terribly impressed with the Conservative party, but hey, couldn't be worse than the Liberal Party headed by Stephane Dion (Now replaced by Micheal Ignatieff). The Conservatives were elected on a platform of small government and non-interference (although they do have a "bible belt preacher" attitude).

Canada is somewhat peculiar, in that historically it has been the Liberals (left leaning party) that have reduced expenses and balance the books. Between 1995 and 2006 that is mostly what they did, they were very clever, the Federal government cut its portion of funding in joint provincial/federal projects -- the province taking on the burden of these obligations with the commensurate increase in provincial indebtedness.

Imaging the Prime Minister Harper's (Conservative Party) dilemma when the Canadian economy, like the rest of the world suddenly fell off a cliff. To say that they were unprepared would be an understatement, eventually the the Conservative Government was able to present (cobble) an expansionary budget that has now reverse the past 15 years of Liberal financial stewardship, whereas in 2006 the Federal Government was well on its way to reduce Federal debt to near zero by 2012, the level of indebtedness is now one of the largest in the OECD.

But it gets worse; Canada's Conservative party is based on the same guiding principles that are at the core of the U.S. Republican party, that what happens outside our borders doesn't really matter. Earlier this year Canada's seal exports were banned in Europe because of the way the east coast seal population was being hunted. The image of a a baby seal being clubbed by an unshaven 5th grade educated Newfoundlander was made for prime time TV in Europe. The reality of hunting is never very pretty, and most of us like our meat sealed in plastic -- that way we don't have to think where it comes from. Anyway, the images being provided to the world media were made for prime time, what did the Canadian government do? Nothing, no efforts whatsoever were put in place to counter this terrible image.

During the Liberal administration Canadians were laughing at the Liberal's "One Tonne Challenge" program that was all hot air and no action. Basically telling Canadian to cut their annual carbon footprint by one tonne, it was never explained how Canadians were to do this, there were no real policy nothing... In come the Conservatives who call it as they see it, they scrap the Kyoto Protocol and tell their Alberta buddies that everything is OK. Go crazy on Tar Sands "we've got your back". Although this sounds callous it is a reflection of the reality of living next to the "Great Satan", until the U.S. do something about climate change controls, any action by Canada would be pointless. Right now there is a bill going through the house of Common (Canada's Congress) for Cap and Trade. Nobody really cares, because as soon as the U.S. enact their own rules and regulation we will adopt a carbon copy of what they are doing.

The problem is that Canada and the U.S. don't actually have very good relations right now. In part it is because Canada's foreign policy is... that's the problem we don't seem to have one! It is also a consequence of Democratic administration in Washington and a Conservative Government in Ottawa, but mostly it is a failure of imagination. Steven Harper is not a very curious man. I would call him a George Bush with a vocabulary -- who runs a relatively small and trouble free country.

Imagine Harper's embarrassment when he announced that he was not going to Copenhagen (for the next round of climate control talks) one day before China and America announce that they would be attending! It gets worse, Canada is seen as the big bad wolf, for proposing emission target reduction levels that are identical to what the Americans and Chinese want.

Finally, it has emerged that the Canadian Government has known since 2006 that Afghan prisoners released by the Canadian Armed forces to the Afghan government were mistreated and probably tortured. The Government tried to destroy the reputation of a Canadian diplomat who "blew the whistle" on a number of occasions (similar incident to what happened to Valerie Plame in the in the US), instead of admitting that it just was not interested (again the foreign thing). The Minister of Foreign Affairs at the time is now deeply embarrassed (he has stated that he had no idea that such events were taking place) after Amnesty International revealed (yesterday) that they had me with the Minister's cabinet on several occasions in 2006 to discuss the faith of Afghan prisoners of war being released to the Afghan government.

Right now Canada has bad press. Maybe there's a certain jealousy from other countries. After all, Canada's banks didn't blow up, they are actually in rather good shape. The economy appears to be growing again, the central banks gave clear guidance, our biggest risk is that our currency will continue to appreciate as our companies have good governance, we have plenty of natural resources (Oil, Gas, Hydro, Gold, Steel, Nickel, etc), a well educated healthy homogeneous population, with relatively little crime and social breakdown.

Our government doesn't seem up to the task of showing off Canada in its best light. It reminds me of a story dating back to November 2008, the American media were curious about which book on John Adams Obama was reading, after much speculation it turns out that he was reading two different books, in order to do a comparative analysis (and remove writer bias). You don't get the feeling that Prime Minister Harper read about Mackenzie King (Canada's most famous Prime ministers and oversaw the Canadian economy during and after the WWII). You just don't get the impression that he cares about any of this. A small man, a small party with little thought about the consequences of governing.