Jar of Dirt Economics

[Hubbs]

Thought this was worth posting, because it involves what could potentially be very, very bad news, but not many are covering that news because it's buried in financial markets.

Without using too many big words (you're welcome, Mrs. Palin), Credit Default Swaps can show how confident investors are in the future prospects of, well, just about anything. You can even get Credit Default Swaps on the government of the United States, which will pay out if the US defaults on its national debt. There are only two possible outcomes if we ever find ourselves in that scenario - one, the country actually does default on its debt, which will instantly turn us into some sort of mutant hybrid of Iceland, Bratislava, and Marty McFly's hometown in that part of Back to the Future II when everything is run by Biff Tannen. That result is incredibly unlikely because of possibility number two - having run out of all other payment options, we fire up our printing presses to create trillions of new dollars, which we immediately give to China. Either way, the value of the dollar drops off a cliff.

Nobody can be sure about whether or not things will actually get that bad. But remember, it's also important to monitor how many people think things might get that bad, because if they do, they won't consider the dollar to be such a safe haven. And if you look at a part of Credit Default Swaps called basis points, you can figure out just where that thinking is. Again, without using too many big words, the general rule is that when basis points go up, more people believe that default is possible. When basis points go down, less people believe that. Traditionally, the basis points involved in Credit Default Swaps on the federal government have been really, really, really low, because, come on, it would take some pie-in-the-sky perfect storm of a new Great Depression and unheard-of mountains of debt for there to even be a chance of America defaulting, and we all know that'll never happen. Recently, however, there's been a disturbing trend in the market. Here's a graph of the basis point levels of Credit Default Swaps for the United States, Pepsi, and IBM:

Link to the full article

[PleaseBlitz]

Is anything with "economics" in the title really going to be worth reading when it starts with a pot shot at a has-been politician?

I doubt it.

[twa]

Woe is me.

Before it gets to that point major hostilities will break out,and the credit swaps won't seem too important.:evilg:

[Hubbs]

Is anything with "economics" in the title really going to be worth reading when it starts with a pot shot at a has-been politician?

I doubt it.

The data in the link isn't partisan in any way. It's just data. And the implications of this data are very unsettling.

[PleaseBlitz]

The data in the link isn't partisan in any way. It's just data. And the implications of this data are very unsettling.

I personally stopped at "we fire up our printing presses to create trillions of new dollars." Nothing worth reading ever comes after that sentence.

[DjTj]

Thought this was worth posting, because it involves what could potentially be very, very bad news, but not many are covering that news because it's buried in financial markets.

Link to the full article

I would guess that this is a direct result of the treasury backing AIG's CDS's, which everyone knows are worthless. It may also be worth finding out what the volume is on these CDS's. Who is buying them? Is it just China? Sovereign wealth funds from the Middle East? Hedge funds smelling a way to make a quick profit? I am skeptical about how liquid the market is in CDS's for the US government. Trying to draw any conclusions from the price alone is an incomplete picture...

[Hubbs]

I personally stopped at "we fire up our printing presses to create trillions of new dollars." Nothing worth reading ever comes after that sentence.

Why? If the country actually is on the brink of defaulting on its debt, that's certainly a possibility. It's happened to other countries before.

[GibbsFactor]

But hasn't the stability and actual rise of the dollar over the past year been a surprise to most?

The fact that everyone has more confidence in our leaders to get it right over their own leaders has actually strengthend the dollar. Something, I for one, did not see coming but glad it did.

[Hubbs]

But hasn't the stability and actual rise of the dollar over the past year been a surprise to most?

The fact that everyone has more confidence in our leaders to get it right over their own leaders has actually strengthend the dollar. Something, I for one, did not see coming but glad it did.

That's addressed in the article. The dollar's risen in the past year for two reasons - one, the crisis has throttled demand for just about everything, which causes price deflation. Two, the economies of the rest of the world are, for the most part, in even worse shape than ours. If everything's equal, the dollar is one of your best bets right now.

The problem is that we're quickly making everything unequal. We're running up more debt, in terms of percentage of GDP, than many other countries, even with their own attempts at stimulus included. Long-term, that makes the dollar much riskier.

(We're not the only ones with this problem. Japan owes more than its entire GDP in debt, and its economy is collapsing so badly that it makes ours look like the Roaring 20's. Japan is going to default, barring some sort of international rescue. The math is making it inescapable for them.)

[techboy]

The fact that everyone has more confidence in our leaders to get it right over their own leaders has actually strengthend the dollar. Something, I for one, did not see coming but glad it did.

Me too. I'm going to France in a month.

But yes, that's a big element here. The data right now shows that the dollar is becoming more attractive to foreign investors, not less.

Basically, as bad as it is here, it's worse everywhere else.

[GibbsFactor]

That's addressed in the article. The dollar's risen in the past year for two reasons - one, the crisis has throttled demand for just about everything, which causes price deflation. Two, the economies of the rest of the world are, for the most part, in even worse shape than ours. If everything's equal, the dollar is one of your best bets right now.

The problem is that we're quickly making everything unequal. We're running up more debt, in terms of percentage of GDP, than many other countries, even with their own attempts at stimulus included. Long-term, that makes the dollar much riskier.

(We're not the only ones with this problem. Japan owes more than its entire GDP in debt, and its economy is collapsing so badly that it makes ours look like the Roaring 20's. Japan is going to default, barring some sort of international rescue. The math is making it inescapable for them.)

I think I saw in here yesterday that Japan's ratio is like 157%.

[Hubbs]

I think I saw in here yesterday that Japan's ratio is like 157%.

Yeah, and their economy was so export-dependent that their GDP growth in the last quarter was in the -20's, if I'm remembering my numbers right. Everything there is going to collapse. It's like the subprime bubble burst on crack.

[Hubbs]

Me too. I'm going to France in a month.

But yes, that's a big element here. The data right now shows that the dollar is becoming more attractive to foreign investors, not less.

Basically, as bad as it is here, it's worse everywhere else.

Again, that's because the dollar is attractive in the short term. The world is going to hell. The dollar is known as the safest currency in times of crisis. Everyone's rushing to it because they're scared.

But here's the problem: Even in a panic, most investors, and most governments, are not stupid. Take the stock market, for example. Even with the bloodbath going on right now, even with a drop from 14,000 to 6,000, even with projections that it's going to go thousands lower, there are still millions of people putting money into their 401k's right now. Why? Because they feel that, at the end of the day, it's the best long-term investment. Now, if they started to doubt that - if they started to think, for whatever reason, that the stock market is a long-term loss - what do you think they would do?

That exact same doubt about the dollar is starting to creep into a few minds. If you want to see a preview of what could happen if that trend continues, take a look at this thread. The yen is another "safe haven" currency. Everyone rushed to it in 2008. But the doubt is starting to creep in there, too. It hasn't reached the tipping point yet. Wait until the Japanese government starts releasing reports on how much its economy is contracting every quarter, though. I'm guessing it won't take all that long - maybe a year - before enough investors realize that Japan is going to go bankrupt and there's absolutely nothing anybody, including the Japanese government, can do to stop it. That tipping point will be reached. And the yen will drop off a cliff.

[Jumbo]

Basically, as bad as it is here, it's worse everywhere else.

That's because the Messiah (no offense) has already screwed up the stock markets overseas and ruined the economies of Europe in his 40 days and 40 nights of financial deluge.

<wow--that came out so real for a tailgate post that I actually scared myself for a second>

[TheGoodBits]

That's because the Messiah (no offense) has already screwed up the stock markets overseas and ruined the economies of Europe in his 40 days and 40 nights of financial deluge.

<wow--that came out so real for a tailgate post that I actually scared myself for a second>

I think you need to take a vacation from ES for awhile. Get your head back on right.

[DjTj]

Again, that's because the dollar is attractive in the short term. The world is going to hell. The dollar is known as the safest currency in times of crisis. Everyone's rushing to it because they're scared.

If you're so sure that we're all ****ed, shouldn't you be stockpiling guns and canned food instead of posting on the internet?

Or at least borrowing as much money as you can to invest in credit-default swaps...

[Jumbo]

I think you need to take a vacation from ES for awhile. Get your head back on right.

It's too late for me, but you can still save yourself.

[Hubbs]

If you're so sure that we're all ****ed, shouldn't you be stockpiling guns and canned food instead of posting on the internet?

Or at least borrowing as much money as you can to invest in credit-default swaps...

Who's saying that I'm not? I can multitask.

I'm not exactly building a bomb shelter for myself at the moment, but I actually will be buying a gun after I move in a couple of months. And I'd suggest that to anyone I know.

And "****ed" is a pretty general term. I believe that the next few years are going to be a Great Depression level of suck. I believe it will be even worse for almost every other country in the world, with China being the biggest bright spot. I don't believe that the dollar is doomed to pop like a bubble yet. But I do believe that if the federal government keeps doing what it's doing, the odds of that pop happening will go up. Quickly, in an economic sense. If we reach a debt level of over 100% of our GDP, and investors watch what happens when Japan goes bankrupt, like I believe it will, that's when I'll say that the pop is more likely than not, and I'll try to diversify into whatever currencies I think make sense at the time. There won't be many, but a few should be out there.

[ljs]

Is anything with "economics" in the title really going to be worth reading when it starts with a pot shot at a has-been politician?

I doubt it.

yeah, cheap and pointless shot. I stopped reading after that.

[Hubbs]

yeah, cheap and pointless shot. I stopped reading after that.

Would it make you feel better to know that there are shots at Dems, too?

[techboy]

Again, that's because the dollar is attractive in the short term. The world is going to hell. The dollar is known as the safest currency in times of crisis. Everyone's rushing to it because they're scared.

What makes you think that anywhere else is going to be better off in the long term? Which country is following different and/or better policies?

[SnyderShrugged]

Hubbs, good posts in this thread! You really have a good grasp of the situation.

I also thought the random political shots at both D's and R's were rather gratuitous, but the core content was thought provoking.

[Hubbs]

What makes you think that anywhere else is going to be better off in the long term? Which country is following different and/or better policies?

Well, for one, China looks great in comparison to virtually everybody else. Their stimulus involves money they already have, which is such a crazy notion that most Americans probably can't wrap their heads around it.

Beyond them, judging by the immediate reactions to the fiscal crisis, I'd say that Norway could turn into a good bet, depending upon how the rest of Europe shakes out. It bears more watching. And if Switzerland can survive the banking crises that are popping up in Eastern Europe, I'd say that they could turn into an excellent new safe haven in a year or so.

[Tulane Skins Fan]

My friend who's a big finance guy was trying to explain credit default swaps to me... when he was done, I said "that's the stupidest thing i've ever heard." And he was like "are you sure you get it?" Yes! Take a whole bunch of bad crap, and sell it off as good crap based on historical averages? Moronic. And if someone is only approved for a certain loan, a creditor shouldn't take that on at a better rate just because its bundled with other stuff.

[DjTj]

Well, for one, China looks great in comparison to virtually everybody else. Their stimulus involves money they already have, which is such a crazy notion that most Americans probably can't wrap their heads around it.

Beyond them, judging by the immediate reactions to the fiscal crisis, I'd say that Norway could turn into a good bet, depending upon how the rest of Europe shakes out. It bears more watching. And if Switzerland can survive the banking crises that are popping up in Eastern Europe, I'd say that they could turn into an excellent new safe haven in a year or so.

But are they good long-term investments?

Switzerland has played this game many times before. They stay out of wars, they hold Europe's savings, they make a limited cadre of reliable products, and they enjoy greater economic stability than most other western nations. But are they ever going to be on the front edge of investment banking, like the UK and the United States? Are they ever going to lead technological innovation like Germany, Japan, or the United States?

And what about China? Are they going to be able to foster a stable business environment with open competition and without corrupt government influence? Can they maintain stability in a nation with a billion mouths to feed and growing gaps in wealth? Can they be an innovative leader when so much of the money is concentrated in the government?

If Wall Street saw companies holding as much cash as China, they would punish them severely. Companies are rewarded for maximizing their resources, which includes issuing debt and taking risks from time to time ...

Investing in the renmenbi or the Swiss Franc is like investing in a government bond. The downside is smaller (although I'm not sure this is true with China), but the upside is also limited. It's always risk vs. reward...