March, 2010 Archives
by Riaan Nel in News
Recently Jefferey Kleintop, Chief Market Strategist for LPL Financial, highlighted the all important deficit issue of the new health care reform bill and its implication for the macro-economy. The social benefits of the health care bill I will leave to others to debate, my focus is on what does the legislation mean for the economy and capital markets. Kleintop points out that the potential negative long-term effects for the markets stem from the tax and deficit impacts of the legislation.
There are two new taxes imposed by the legislation. First, 3.8% on investment income, and second, 0.9% on wages for those earning more than $250,000. The latter tax will only take effect in 2013. Higher taxes always place a drag on growth – especially taxes aimed directly at investment income. However, the biggest concern I have is the macro-economic impact of a potential increase in the deficit due to the new entitlement mandates of the bill.
Democrats have touted the CBO report tabulating that the bill will be deficit neutral. That is encouraging; however, if you look at the Congressional Budget Office report closely (the devil is always in the detail) you will note the CBO estimates (let me emphasize this — ESTIMATES) that 25 million people would take advantage of the insurance exchanges created by the plan. The concern, though, is what if more enter the exchanges? I think this is likely. Consider the following logic.
The average cost of a family health insurance policy offered by employers was $13,375 in 2009 (according to the Kaiser Family Foundation and the Health Research & Educational Trust). The average cost per employee was $10,700. The new health care legislation establishes insurance exchanges for the purchase of health insurance by those who do not have insurance offered through their employer. The cost of these policies would be subsidized by the taxpayers for those with average incomes up to 400% of the poverty level. This means a family of four with the national average income of $70,000 (or 317% of the poverty level of about $22,000) would have their spending capped at 9.5% of income – which is about $6,650. The remainder of the cost would be picked up by the taxpayers, i.e. $6,725. As mentioned, the CBO estimates 25 million people will take advantage of these exchanges. The big question is – what if employers that are currently offering health insurance to their employees drop their coverage? The legislation would place a $2,000 penalty per employee on these employers to “punish” them for not offering health insurance (for companies with 50 or more employees). Read the rest of this entry »
by Riaan Nel in Global Economy
In doing global research one of my favorite academics is Dr. Niall Ferguson from Harvard University and the author of “The Ascent of Money – A Financial History of the World.” This is a book that everyone serious about the state of the world should read. Dr. Ferguson recently wrote a column for the Financial Times on the Greek budget crisis and the crisis’ implications for the West and America. Here is a link to the article http://www.ft.com/cms/s/0/f90bca10-1679-11df-bf44-00144feab49a.html. Here are also a few quotes from the article…
“But now the Fed is phasing out such purchases and is expected to wind up quantitative easing. Meanwhile, the Chinese have sharply reduced their purchases of Treasuries from around 47 per cent of new issuance in 2006 to 20 per cent in 2008 to an estimated 5 per cent last year. Small wonder Morgan Stanley assumes that 10-year yields will rise from around 3.5 per cent to 5.5 per cent this year. On a gross federal debt fast approaching $15,000bn, that implies up to $300bn of extra interest payments – and you get up there pretty quickly with the average maturity of the debt now below 50 months.” Read the rest of this entry »
by Riaan Nel in Global Economy
Paul Krugman’s (http://krugman.blogs.nytimes.com/) recent column in The New York Times about the US taking on China is long overdue. My research on global investment strategies for my clients as well as my graduate research have led me to some strong opinions on China currency management system. Let me summarize Krugman’s arguments.
Krugman is urging the US Treasury Department to label China a “currency manipulator.” By law the Treasury has to issue a report identifying nations that “manipulate the rate of exchange between their currencies and the United States dollar for purposes of preventing effective balance of payments adjustments or gaining unfair competitive advantage in international trade.” The Treasury has been avoiding classifying China a manipulator in their reports, while everyone knows they are manipulating the renminbi.
China is adding more than $30 billion a month to its $2.4 trillion foreign currency reserves. In other words they are buying dollars and selling renminbi to keep the value of the renminbi artificially low vis-à-vis the dollar. This strategy allows them to have very competitive prices for their export goods which they sell to us. (Remember, the benefit to the US is there is a demand for dollar denominated assets, mostly Treasuries, making it easier for the federal government to run budget deficits. It also contributes to a higher standard of living, especially amongst lower income groups, since Chinese products are “cheaply” priced).
by Riaan Nel in Graduate Research
I’ve posted Chapter 1 of my thesis. Comments will be appreciated….
Chapter 1: Introduction
On Thursday, August 9, 2007, traders in the international money markets in New York, London and other prominent financial centers experienced a sudden and dramatic surge in interest rates for interbank loans. In the global political economy the supply of credit is influenced by the London Interbank Offered Rate (LIBOR), a daily reference rate of interbank loans contracted in the London wholesale money market. Money markets represent the first stage of the monetary transmission channel, where monetary policy connects with the financial system and the global economy. Term money market rates, like the 3-month LIBOR, influence a host of rates throughout the economy, and poorly functioning money markets impinges on the availability and cost of credit to businesses and households in the global economy (Taylor & Williams, 2008:1).
The acute dearth of credit resulting from the surge in interbank loan rates was precipitated by an announcement the previous month by US investment bank, Bear Stearns, that two of its subprime mortgage hedge funds had lost almost all of their value. The immediate spark, though, was the announcement on August 9, 2007 by French bank, BNP Paribas, that it froze $2.2 billion in three of its funds because it could not determine the value of these funds. The cause of these losses and uncertainty were increasing delinquencies and defaults on subprime mortgages in the United States.
The three-month LIBOR Overnight Index Swap (OIS) for this period dramatically illustrates the extent of the developing crisis. The three-month LIBOR-OIS rate is a measure of what the markets expect the US federal funds rate to be over a three-month period relative to the three-month LIBOR. The LIBOR-OIS spread is used to indicate factors, other than interest rate expectations, influencing interbank rates, such as risk and liquidity factors (Taylor, 2009:15). Historically the spread has been 11 basis points on average, but on August 9, 2007, the spread surged to 34 basis points, fluctuating wildly between 30 basis points and a maximum of 106 basis points over the following months (Taylor & Williams, 2008:10-11) (see Figure 1).
by Riaan Nel in Global Economy
There are those that make the argument that China is currently experiencing a credit bubble. See Keith McCullough’s article on www.Forbes.com (Dec. 18, 2009). I am in the camp of those that are slightly sceptical about all the hype surrounding the rise of the Chinese dragon.
Yes, China will become a very powerful economy. Yes, the rising middle class in China will be an important driver of global economic growth. Yes, China will become a more powerful nation, and, yes, there is a high likelihood of conflict with the US in the future.
However, I think China has many other problems, and that there is a credit bubble currently. Over the long-term China faces many challenges. These challenges are, inter alia, growing regional disparities, with the coastal areas getting richer; growing political aspirations of the growing middle class that will challenge the one party system; the rebalancing that will take place in the global political economy which will decrease the massive current account surplus that China has with the US; the demographically induced slower growth in the US and other advanced economies, which will place pressure on China’s export growth strategy; the fact that geopolitically China is not well situated to challenge US hegemony (see George Friedman’s book “The Next 100 Years”); etc.
China is important, but 50 years from now, the US will still be a global superpower, and the US Navy will continue to control the Pacific Ocean (which is critical for control of trade).