itself be quite minor. Yes, there are many factors contributing to an unstable global sand economic pile (think massive global debt, wanton overleverage, mischievous central banks with immoderate views of their importance, etc., etc.), but it only takes that fateful final grain of sand, dropped on just the right spot in the pile, to bring the whole thing cascading down.
What Niall is talking about is something that goes far deeper than another financial crisis like the one we recently experienced. What he is pointing out is that countries in financial distress are more constrained than normal in their actions. They have less ability to respond to crises. And some countries in crisis react in very unpredictable ways. Let’s talk about a second-order problem stemming from the fact that Japan is doing what it feels is necessary to keep from suffering a deflationary collapse. Understand, I’m not being critical of the Japanese for taking the actions they have, because I simply don’t know what other choice they have. That’s what makes their situation so difficult.
Japan’s major economic competitors – Germany, Korea, and China – will all have to respond, or their businesses will lose competitive advantage. Okay, we have seen large-scale currency movements all our lives. We adjust. That’s what businesses do.
Except, China and Russia have just signed an agreement for Russia to export rather massive amounts of energy to China, and they will take payment in yuan rather than dollars. A yuan that is going to be falling in value against the dollar as China responds to Japan.
In an ideal world for Russia, the Russian central bank would simply take the Chinese currency and add it to their reserves. But that would trigger a rather large “oops” that was not in the equation when they signed that deal. The yuan they are going to get is going to be losing value on the international market, and Russia is going to need hard currency (i.e. dollars) to pay down its large dollar-denominated debt and buy equipment to maintain and increase its ability to produce energy. And that equipment is generally sold in dollars and not in renminbi.
Couple that situation with the real potential for oil to go below $70 and Russia would have significant budgetary problems. And as David Hale pointed out recently in a private letter, if the US and Iran actually settle their differences over nuclear armaments later this month and sanctions are lifted, that could bring another 1–1.5 million barrels of oil a day onto the world energy markets. (He suggests it would have the same effect as a $400 billion global tax cut.) Mexico is committed to increasing its output, as are other countries, including the US. Sub-$70 oil is not out of the question, and in a global recession we could touch $50 easily. And while that would be good for consumers everywhere, it would certainly put a strain on Russia and other oil-producing countries. In fact, the scenario portends a major crisis for Russia.
And while we’re not as worried about Venezuela or other smaller oil producers, Russia is a potential problem, simply because it is so unpredictable. As noted above, the Japanese population is willing to take a great deal of pain. I don’t think we can say the same thing about the Russians at this point.
There are some geopolitical thinkers I respect who argue that all this could trigger a regime change in Russia. And others who argue that it will make Vladimir Putin even stronger and that he will want to double down on his policy of destabilizing Ukraine sooner rather than later. Putin does not strike me as being willing to step aside in the manner of a Boris Yeltsin. I doubt he will go gently into that good night. He is a wildcard on the geopolitical stage.
Russia has been willing to let the ruble fall rather precipitously rather than supporting it with their dollar reserves, which they are saving for other purposes. Even though the Russian economic situation is deteriorating due to sanctions, the Russian people have so far seemed to tolerate the downturn. As noted in last week’s Outside the Box, the West in general and the US in particular are blamed for Russia’s woes multiple times daily in the Russian media. Given the unpredictability of the current Russian leadership, there is simply no way to guess the outcome. That should make you nervous.
The 2008 crisis demonstrated that the global economic system is far more connected than most imagined. There has been no real deleveraging since that time as nations everywhere have doubled down on deficits and debt. European banks are just as leveraged to sovereign debt as they were before the crisis hit.
The recent Geneva Report on global deleveraging highlighted what the authors termed the “fragile eight” countries of Brazil, Chile, Argentina, Turkey, India, Indonesia, Russia, and South Africa as an “important source of concern in terms of future debt trajectories.” China and the “fragile eight” could find themselves in the unwanted role of hosts to the next phase of the global leverage crisis, it warned.
The accumulation of household, corporate, and government debt in both the emerging and developed worlds has been made all the more troubling by stubbornly low and slowing growth rates. The global capacity to take on more debt is rapidly diminishing because of the combination of low growth and low inflation, if not outright deflation, that we are beginning to see in major countries.
There seems to be a stubborn unwillingness on the part of authorities to recognize the problems that come along with swelling sovereign debt. We are coming ever closer to the point at which countries are going to have difficulty raising debt at interest rates that makes sense, absent the ability to create a shock and awe campaign like Japan’s. And few countries (actually, none come to mind) have the ability to monetize their debt to the tune of 200% of GDP, as Japan is setting out to do, without causing a dramatic currency collapse.
I have this argument all the time with fellow analysts. I get that “austerity” in a deflationary or even disinflationary environment is not exactly pro-growth. And if a country’s debt is low and there is growth, then you can get away with increasing debt. But there is a limit to the amount of debt that a country can take on, and we are approaching it in country after country. This trend is not good for global economic growth or stability. The second-order unintended consequences, such as those Niall describes, are very difficult to contemplate.
The world is not going to come to an end. I will be writing this letter and hopefully you will be reading it in 10 years. But economies and markets are going to get more fragile and volatile in the meantime. This is not the time to be a full-throated bull in the equity markets. And given the potential dollar bull market, there is going to be pressure on most commodities. Corporate debt, especially high-yield debt, is priced for perfection. When I look out over the horizon, I simply don’t see perfection. At a minimum, you should not be long high-yield debt. And if you’re running a business, you should get all the debt you can, even if you bank the cash, at today’s low rates for as long a term as you can get it. Take advantage of this unbelievably forgiving debt environment.
Let’s close by singing along with the last few lines of Fogerty’s song again:
Hope you got your things together,
Hope you’re quite prepared to die.
Looks like we’re in for nasty weather,
One eye is taken for an eye.
Well, don’t go ’round tonight,
It’s bound to take your life.
There’s a bad moon on the rise.
It may be slightly more hopeful to say, “Hope you got your hedges together, hope you’re quite prepared for a bear market.” Until next week…
Here comes my favorite holiday of the year, Thanksgiving. Last year some 50 friends and family gathered as I spent the day cooking for everyone. I even made cakes and other sundry items the day before. Sadly, I can’t do pies or decent yeast rolls. The good news is, there are plenty of bakeries that will supply me. Along with prime rib and turkey and lots of other stuff, I generally cook between 7 to 10 pounds of mushrooms (with two different sauces), and it is a rare year when there are any left. So here – for the first time, and I know you have been patient! – I shall reveal the secrets of one of my mushroom recipes.
I start with perhaps 4-5 different types of mushrooms, depending on quality and availability, but I try to find baby portobellos and shiitakes to add to the mix. While it is heresy to some, I remove the stems. I slice the mushrooms in large pieces, leaving the small mushrooms whole. I chop up a large sweet onion and simmer it in a stick (or two) of butter in a very large frying pan. If you can get Kerry Gold butter (salted) from Ireland, it really does make a difference. When the onions are soft, start adding the mushrooms along with a very high grade of olive oil. Don’t use the cheap cooking stuff. Seriously, we’re talking gourmet here. Since I am working with a very large frying pan of mushrooms, I typically add another stick of butter in the process. Somewhere in the process I add whipping cream. (No, this is not heart-healthy. Your arteries will clog just watching me cook it.) Then I add a generous portion of a good Chardonnay (don’t do cheap wine!). I probably use about half a bottle. Try to find a very buttery, oaky Chardonnay.
I like to chop up a generous amount of fresh rosemary and toss it in, and I add lots of fresh-ground black pepper. The “secret” seasoning is Cavender’s Greek Seasoning. (Cavender’s is my all-purpose seasoning for just about everything.) Depending on your taste, brown sugar can give the mushrooms a little extra flavor. Last year, for some reason, we didn’t have brown sugar, so I used real maple syrup, not the imitation kind. I’m talking the purest stuff. I may go with that again. The crowd seemed to like it.
Add garlic to taste. And of course salt. Depending on what I am serving the mushrooms with, I might add a little Worcestershire sauce or Liquid Smoke. Whatever excess sauce the mushrooms have not soaked up makes an excellent gravy for the prime rib or smoked turkey (on holidays I serve both). This makes a relatively sweet and savory pan of mushrooms, whose sauce is distinct from the other brown sauce I prepare (with red wine, aged balsamic vinegar, LOTS of garlic, etc.). Both pans disappear quickly.
Sorry, I don’t have exact measurements. I cook sort of like I do economics – I just go with what feels right. Over the years my cooking, at least, has improved. I’m not so sure about my economics.
It’s time to hit the send button. I’m taking some of the family out to my friend Monte Bennett’s ranch in East Texas this afternoon, where we will enjoy seeing the variety of exotic game he has, and some of the kids will go wild pig hunting. While that may sound a little brutal to some, feral pigs are a serious and very destructive pest in much of Texas. There are some 2.6 million of them. They can destroy a farm or golf course almost overnight. They cause an estimated $500 million a year in damage in Texas alone – about $200 per pig. To say they breed like rabbits is an understatement. A sow can have 20 to 25 piglets a year. Some counties have semiannual pig hunts. Even if you kill 70% of the pigs in a region, the remaining ones can have piglets fast enough to replace all those lost in just 2½ years. It’s a constant battle, and lately it seems the pigs are winning.
They are wily creatures and come in all sizes and shapes. As big as they are, it is hard to find them. This article from Scientific American will give you a little color on the issue for those who might object to killing pigs. As you can see from the picture below, we are not talking Bambi or cute little Babe from the movie.
And while I doubt that I will personally kill anything, the kids will have fun. It’s not that I object to killing a feral pig; it’s just that I can’t hit the broad side of a barn. (I’m more dangerous to my fellow hunters.) And you have to hit these big suckers dead on to drop them. Otherwise you just annoy them, and they get dangerous. An adult boar can be a very dangerous animal – those tusks aren’t just for show. They can and will kill dogs and other animals that you want to keep alive. Monty has a ranch full of exotic sheep and deer (some 30-odd breeds) from all over the world (as well as the odd kangaroo), and he would like to keep them healthy. Call it an odd type of community service.
Have a great week. And even if you aren’t in the states, get with some family and friends, enjoy a special meal, and count your blessings.
Your going to ignore his diet on Thursday analyst,
John Mauldin
© Mauldin Economics
