The Kingdom of SBain

Every news site and blog I follow is releasing pieces about Spain. I have a lot of friends, acquaintances and many interests in that country, so I can add some thoughts to the discussion.

So, let's recap:

• Mainstream media report that unemployment is not a problem for 75% of Spaniads. It is neither a problem for 45% of young people (16-25 years).
• Public transport has risen twice year-to-date and is poised for a third one tomorrow.
• Gas, electricity and water have risen.
• Tuition has risen in a system that has no institution ranking amongst the 100 best ones. The price for one academic year is 2000 EUR.
• While ordinary Spaniards cope with harsh austerity, recession and soaring unemployment, the Spanish king enjoyed a safari and ended up with expensive hip surgery.
• The king's grandson, Foilan, shot himself on his foot while illegally handling a gun with his father and had to be taken to the hospital.
• The king's son in law, Urdangarin, was accused of laundering public money in tax havens.

Still not happy with the summary above? Zerohedge reports that Egan Jones Cuts Spain For Second Time In Two Weeks, From BBB- To BB+. On top of that, "assets of Spain's largest two banks exceed its GDP". Now, how on earth can the balance sheet of two banks be larger than the economy supporting those two banks?

Dan D. is also commenting on the Spanish situation. He correctly states that "Greece was literally a day at the spa for what is about to hit Europe". I put a comment there that I reproduce here for convenience:

Luigi DraghiApr 30, 2012 01:37 PM

I believe their way out is creating a southern euro and a mechanism for foreign investors to cover internal devaluation for their investments. They NEED to steal wealth, and the way out is making people pay sovereign and bank debt via inflation and taxation.

The Spanish government passed a law which makes foreign current/savings/brokerage account disclosure mandatory for Spaniards. Failure to report foreign accounts leads to 5000 EUR per non-reported account. That tells me the EU has already made its mind about some Plan B (or C or D...) in which southern countries will be insulated without (de iure) expelling them from the monetary union. With this new law and the new southern euro, foreign accounts could be taxed as capital gains.

I already wrote about this ( http://federalreverse.blogspot.com/2012/04/spanish-corralito.html )

At this juncture, no European government is safe for investing. However, even if investors are forced to take haircuts, the real smash will be felt by the population. If you are European, especially if you are Spanish, know that your taxes are collateral for your banks.

The grand trick of fiat currency

I met a retired Spanish policeman yesterday and had some beers at a pub. This guy has had a vital experience that is worth the envy of any spy movie character, which is something of note given his "limited" education (and lack of better terms to describe). I had not seen this guy for 4 months and I always enjoy his company. Having been destined to the Ukraine, having no less than five mistresses there, and currently collaborating with the secret service, it was time to share a drink.

After catching up, he brought up the issue of investments. He participated in Bankia's (BKIA.MC) public offering and I recommended he closed down the position because once the stock carer JPMorgan stopped lifting the stock price, it would come down very quickly. He chose to follow the advice of his financial advisor at the bank instead of mine and now he is losing one third of his position. I still recommended him to get out and he told me he could not make losses so he would wait to sell... here is some sheeple mentality.

Then we turned to monetary issues, I wonder where he had heard that since I don't usually talk technically to these people. He asked me straight: "What happens if they devalue the currency, let's say that I have 300,000 EUR in a savings account, would I have the same 300,000 EUR if they devalue the currency?" and I answered "yes, you would nominally have 300,000 EUR, but you would be able to buy much less" and he said, "OK, that's OK then". I did not go further into that conversation because I was not behind a bank desk and my words would fall into oblivion.

So there you have it, sheeple wanting to be sheeple, forever and ever. You could not lie to this guy on the street and you would not leave alive if you did but dress white collar and he would put all his money in the financial ponzi of your choice. Bankers are very bright people indeed and their fiat currency scheme, playing with absolute and relative concepts, is truly a great masterpiece.

Two videos we always enjoy

Grab popcorn, please use a 42" screen, enjoy:

Monetary contraction, deflation and gold

Societies and their economies are complex systems that are not easily explained and whose dynamics are too complicated to be captured by statistical and econometric linear models. These linear models come from the linear nature of human thinking.

I hear people that favor the theory of an imminent sudden inflation as credit and the monetary base expand, and others that believe the only thing we will see is a job-destroying deflation that will only be stopped by a centrally-planed monetary policy.

What I think is that both maybe right. The only question is timing, just the same as the markets. Markets can stay irrational longer than you can stay solvent, says a market saying. The general economy may refuse to follow the path designed by planners because there is more to the economy than just the monetary base plus credit. The economy needs energy to move, and energy can't just be printed. The less energy you have, the more restrictive credit and money become if unstable economic processes are to be avoided. Therefore, the use of credit and money has the effect of a drug for the economy. They can boost it during some period, but the sustained use of those must be matched by an equal sustained use of energy. If no new energy is added to the system, inflation will appear but, at the same time, asymmetric access to credit and money can lead to deflation in those sectors affected by a late access to them. However, this is nothing but transitory, and money will flood the markets like a tsunami as credit is suddenly liberated by banks, usually responding all at once to a fear stimulus.

That is brilliantly described by Mike Maloney at his conference in Puerto Rico. His thesis, which I support, describes a scenario in which first a deflation will occur, and then an inflationary or hyperinflationary process will start some years later.

I think that is what we are seeing now. As I reported, the M1 monetary base is contracting in the Mediterranean countries and credit is inflating the housing bubble in Germany and Austria.

For this reason, gold may go down in the following months and still be an excellent investment, maybe the investment of your life. Do not pay attention to the permabull gang of KWN, they sell bullion, they tell you it is a bargain at USD600 and at USD1900: if it goes down is on manipulation and is forming a bottom, if it goes up then we are days away from going to infinity.

Jim Rogers and Marc Faber, who I regard as two stand-up and achieved investment professionals and honest individuals, have been saying in numerous occasions that gold dynamics are very strange and they expect some kind of important correction. Pay attention to them, they tell you for the sake of telling you. Make a little room in your heart for deflation.

Spanish corralito

Argentinian readers know very well what I say with the word corralito. Back in 2001, Argentinians were happy buying foreign products when the Argentinian Peso-USD peg was at full speed. However, one good day at the end of that year, when there were no more dollars left in reserve, the insanity was suddenly over and those dreams based on the lie in which they had dollars deposited in their bank accounts crumbled with no warning. People rushed to the banks to withdraw dollars as a reaction to the news of a Peso depeg, and demanded USD back, invoking the cognitive dissonant normalcy bias they had been surrounded with for years. Obviously they were answered to suck it up and go home, with their Pesos, if they wanted. Families' fortunes were decimated in just a few days.

As per the law just passed last Thursday, the subjects of the Kingdom of Spain must disclose any bank or brokerage account they have abroad. Also, an unprecedented financial amnesty was declared by the government to repatriate up to 2,500 million EUR. My take on this is that the Spanish government is seeking to repatriate these funds not only as a desperate measure to boost the economy, but also as a means to have access to more capital when a possible southern Euro is introduced in Spain.

I arrived at this conclusion by considering that if the euro falls, so does Europe itself, and such a powerful Mammoth will fight to survive, even if it means exhausting everyone underneath. Also, taking into account the inflationary means by which the currency issuer has access to the currency users' wealth, and that it is impossible for Spain to pay back the principal plus the interest of both private and public debt, namely by:

• An European/IMF bailout
• BCE LTRO to infinity
• Spontaneous industrialization and trade surplus achievement

and jointly with the taxation and possible forced repatriation of private funds thanks to the mentioned disclosure law, the most likely solution under my point of view is that the plan of a two-speed Euro might already be in place.

This would be simple: They would say that Europe has not failed since a basic framework of free commerce is preserved. However, people living in the south would struggle to maintain their wealth, and getting Southern Euros to the north would be extremely penalized.

As a first step, only residents of a country would be allowed to exchange their old euros to the newly issued north or south euros at a 1/1 exchange rate in that country, at par with their northern neighbors, ECB guaranteed an all. Savvy southern travelers will try to get some northern euros in their hands but they will be denied amounts that exceed ordinary expenses. Then, as the devaluation commences in a controlled but perceivable way, the general public will flock to their banks, demanding northern euros just as ECB/State/EU had reassured and they will be slapped in the face. At that moment, maximum amounts in withdrawal would already be in place and all electronic transactions would be under strict financial scrutiny by the state treasuries. Such a controlled but steady devaluation with closed boundaries will immediately be met by internal capital flows. Semi-large fortunes will invest their capital in state-denominated job-creating assets, while others will try to get anything they can to preserve value, but everything will be heavily taxed: gold, farms... even housing would (internally) experience some kind rebound, relatively alleviating pressure on big banks at the cost of Juan taxpayer. This means that most of the powerful families will react rapidly and maintain or relatively increase their wealth, while the working class will be made poorer.

From the outside, a mechanism of safe trade would be made available to foreign investors (yes, you have to think bureaucratically), which would act like some form of firewall. Thus, stored wealth and cheap labor could be harnessed by southern countries under the umbrella of inflation without disrupting the northern economies past the upcoming LTRO3 (which are already experiencing unpleasant bubbles).

There are many more problems ahead. Contrarily to what some analysts say, Spanish housing prices have not tumbled since banks have refinanced realtors and home builders during the last four years, even though they have been broke since the peak of 2008. The public and the international investor still need to see what those banks' balance sheets really look like. And Spaniards still need to experience the true meaning of corralito when they finally realize the argentinization of Spain.

A piece of advice... by the IMF

While reading ZH, I found this piece of news and I said WOW:

Further confirmation of gold’s continuing but gradual renaissance as a safe haven asset was given by the IMF yesterday who warned that a “growing shortage of safe assets” poses a threat to “global financial stability.”  The IMF identified $74.4 trillion of potentially safe assets today, including gold, investment grade government and corporate debt, and covered bonds. Sovereign debt crises are reducing the number of governments that investors trust to issue "risk-free" bonds just as new financial regulations are increasing demand for safe securities from banks. Importantly, the IMF’s latest Global Financial Stability Report’s introduction finds that  "In the future there will be rising demand for safe assets, but fewer of them will be available, increasing the price for safety in global markets.” “Both the lack of political will to reshape fiscal policies at times of rising concern over debt sustainability and an overly rapid reduction of fiscal deficits limit governments’ capacity to produce assets with low credit risk.” The IMF has warned regarding illiquidity in “safe haven” markets. Gold remains one of the most liquid markets in the world and the illiquidity in bond markets would see increased safe haven demand for gold.  The IMF is warning regarding deteriorating public finances. As many governments see themselves being downgraded - safe haven bonds may become less safe.

I have no doubt that financial elites are already positioned in gold, and have been for very long. Gold is a storage of wealth, equivalent to the work needed to extract it. It is not subject to the laws of supply and demand the same way other commodities are since its monetary component must be factored in. With the previous article, even the IMF, the very core of the financial monetary and credit system, is telling you.

I was able to detect the past week's temporary bottom with the help of a growing divergence of Gold/EUR ratio. With today's rumors about an incoming QE3, I have even more reason to celebrate. And if it turns down and falls, to quote Jim Rogers, I hope I am smart enough to get some more.

What the IMF is telling you is that energy is a scarce resource, and so is wealth, but currency is created and manipulated at will. In fact, the IMF is just expressing the theory of thermodynamical economics. But gold is beyond human manipulation and there might come times when trust is no longer assumed by every counterparty.

Spanish housing bubble and economic annihilation

I came across this wonderfully made video that would be a total LMFAO if there were no people suffering from the topic it talks about. It offers a simple explanation of why the country got to the its current state. The audio is in Spanish but it has English subtitles.

The Guadian has recently released an article featuring the town of Seseña, south of Madrid, the prime example of the Spanish overdeveloping and paradigm of the housing bubble.

Half a quarter million people have been foreclosed and it is estimated that another 200.000 mortgages will go underwater over 2012. The majority of the working population is being hit with ever-increasing taxes, transport and electricity bills.

Consumption is resenting, retail profits falling and margins compressing so much that a tsunami of shops not opening the next day is hitting the Spanish main street. This deflationary effect, as I mentioned previously, comes from both fear (of losing the job) and real monetary contraction (M1 monetary base is fleeing the country and being used to pay the credit granted some 10 years ago, putting inflationary pressure on Germany and other net-creditor nations).

The sole collateral the Spanish banking system has is real estate. Flats meant for a middle class that is now non-existent, underemployed or unemployed, with no possible rebound in the near future and even the possibility of losing an entire generation if the 50 percent young unemployment settles, which is very likely due to the continued loss of industrial activity over the last 30 years and a burdensome bureaucracy that prevents entrepreneurship.

There is a lot of talk on Zerohedge about Spain. I believe the situation in Spain will worsen, and that those employed will face the costs of a failing banking system with a real-estate problem. In the financial world, the time for Spanish banks to hide their balance sheets is over. One day, no ECB cheap credit will be able to sustain both those failed banks and southern sovereign bonds without getting the EU into a hyperinflationary spiral. There is definitely something very fishy when Spain's PM avoids the press like this:

That raid of mine proved to be wise after all

For those of us who live in Euroland, it is very important to observe Gold/EUR correlations, since an extreme deviation from linear correlation provides an excellent opportunity to put some coins in your hand. When I say deviation from linear correlation I mean that Gold moves orders of magnitude more than the EUR, in the sense that when you look at the graph you stop recognizing the usual correlation that you could normally see in the chart. When that happens, price usually goes to a level that would normally require two or three months to reach stability, but just for a brief time in the day.

I got some coins at a German seller the other day at the lowest possible price simply because I was seeing the correlation dilate so much, with the EUR pretty much untouched and Gold getting hit. That non-linear correlation between them put the price at levels not seen since October 2011 and I had seen many times how brief that window of opportunity can be. That, and the fact that the situation with Spanish sovereigns and banks may explode again, I loaded up and checked out.

So, even though I think we are currently in a deflationary destruction of the working class, I recognized that event as a unique opportunity to average on the downside. Those coins are each 25 EUR more expensive with today's gap up.

I also took the opportunity to get a stack of some beautiful silver Chinese 2012 Pandas, which seem to have been released just recently.

Towards a thermodynamical theory of Economics

Even though Economics is a topic studied at every college and university, I believe their core fundamentals are not only misunderstood but also not even identified.

When I speak with economists, they fool around specific ideas they learned, but I came to realize that economic systems are nothing more than physical systems, and the same concepts and rules should apply.

If we admit that the economy is a physical system whose magnitudes change with time and in space, we need to match economic concepts to those of Physics. I propose to identify energy to wealth, work to labor and heat to money. Then we inherit the set of laws of thermodynamics. In particular, if we consider the economy in a society as a set of hierarchical thermodynamical systems, it is evident that the

• First law of thermodynamics: Heat and work are forms of energy transfer. While energy is invariably conserved, the internal energy of a closed system changes as heat and work are transferred in or out of it. Equivalently, perpetual motion machines of the first kind are impossible.

comes in place when somebody (first) does some work for a second person (another system). Wealth (energy) has been transferred by the labor executed by the first person to the second in the form of an elaborated product that could not have existed without the first person losing energy (transferring it in the form of work to the second person). If it is expected that the first person received a monetary compensation, the energy loss is therefore restored if this compensation is "fair" (in abstract terms of the money transfer being equivalent to the labor transfer). If the person executing the labor is a slave, this reduces to a system that continuously transfer energy out of it, much in the way the sun does, or does the process creating crude oil (both transfer energy to the human society as a whole system, and at their expense).

It is also evident that someone that has more money can move faster and farther away than someone whose occupation is mundane and provides a low income. This fact reinforces this thermodynamical view of Economics.

Studying inflationary and deflationary processes under these lenses would provide new insights into wealth transferring periods. In this theory, money is just a mean for wealth (energy) transfer, not for wealth storage. In this sense, a natural distinction can be made between paper currency and hard monetary assets such as gold. Both serve as wealth transfer mechanism (heat), but only one is stable.

Under this theory, crude oil would have a much deeper impact on the economy than just a mere impact on industrial manufacturing prices. Much more than that, oil would provide the energy needed for the system to growth (and especially to cope with the compound interest and the exponential growth it requires). Crises and equity peaks can easily be explained and predicted (disregarding timing).

Unless economists take a more humble position and view themselves as just a part of the whole body of laws that govern the entire universe, and not take refuge under the excuse that the "complex human behavior" makes the theory different, we will be doomed to hear experts predict decades of booming economy at peaks and missing opportunities at bottoms.

A financial Pilgrimage of Grace

I'm sorry but this is what came up when I first saw the announcement of a congregation of independent day traders under the banner of Turd Ferguson. To be honest, I could not believe what my eyes were seeing. And all of that sponsored by the famous whistleblower A. McGuire, reappearing out of thin air, once again. I could not help but bearing in mind people following the banner of the Pilgrimage of Grace:

To put more wood into the fire, they name themselves "Turd's army" and have the holy mission of making huge profits in the paper markets, cash them and get physical metals with them, with the help of some Antioch grenade that signals when manipulators are taking the price down (now that permabulishness has turned to be catastrophically unprofitable).

I don't know what is with these permabullish people. If somebody manipulates down the price of gold then that somebody is my friend without any doubt. That makes that "army" my enemy, if their plan is to force prices higher in the short term.

In any case, good luck to them.

Inflationary concerns

Zerohedge has regularly been reporting the ECB's deposit facility that the banks use as storage, much in the same way a customer uses a current account with his bank (except that they are penalized for not putting this fresh credit-created money in circulation). As ZH reports, banks have been depositing the whole of both LTRO 3-year loans in those accounts. This means that the current mood in the banks is not risk-prone and in line with a fear-driven deflation.

As of today, the banks seem to have found some place to allocate those funds, most likely in sovereign debt.

As I noted previously, prices are going up in those countries less affected by the crisis. In those countries, credit-based assets are going bubbly. In the whole EU, food and basic products are seeing how the money that was supposed to be destined to pay the now-underwater mortgages and other credit-based products acquired over the past ten years is duplicated and redirected to basic products by the chain created by ECB-banks-states. In this case, prices simply go up in creditor nations (Germany, Austria...) whereas they are stable in debtor nations (Spain, Portugal) due to retail and industrial margin reductions.

This will have the effect of wiping out retailers and manufacturers in southern countries, while creating housing bubbles and general inflation in central countries. And this will not end here: both LTRO programs, surpassing 1 trillion EUR, and the risk of the need for another 3.0 version, is a money stream with enough pressure to break the fear-deflationary dam that currently prevents it from flooding the markets and spurring the effect of losing confidence in the currency and its issuer.

As I say: brace yourselves.

I got myself some gold yesterday (with an outlook)

I often follow the stock in Geiger Edelmetalle, since they show the coins they have and the number of each when you place your order. Here's a screenshot of four fractional-ounce coins that I have found to be out of stock in gold rallies.

The first is the 20 gold Mark Kaiser Wilhelm I, winner of the French-Prussian war and founder of the German Empire. These coins are more loved by the German people in comparison to his grandson Wilhelm II, even though their state is normally poorer due to a larger circulation (they were valid from 1871 until the first world war, whereas those of the grandson went from 1891 on, and larger mintages of the grandson's image are dated in the 1900). This means that coins depicting Wilhelm I are depleted quickly, whereas Wilhelm II 20 gold marks tend to remain in stock.
This is the British sovereign. This is a coin that is also depleted quickly due to its national origin (it is interesting to own national coins since they are the most accepted ones in their respective countries).
Lastly, we have the Swiss Vreneli 20 francs, another popular coin and usually found in ample supply.

Were these four coins missing, along with some of the one-ounce coins, I would be inclined to say that there is physical market pressure on the price. However, as we can see as of April 5th, the four coins remain in stock. I think that sustained high prices (with a record in EUR) have provided shops with more stock, and physical market pressure is relieved.

However, a good strategy when investing in gold is averaging on the downside. With the metals plunging during two straight days, and gold price not that low since January, it was time to raid a shop. This does not mean that I think it won't continue sliding. USD1500 is fully believable. It may coincide with a market-wide spring sell-off in a deflationary context, and in that case the drop might be much larger. The chart in EUR tells me there is some barrier at EUR1350 that gold was not able to cross and, thus, it has to take a breath. On the other hand, the problems in southern Europe lurking, are poised to surface again. This has been proven to be true, at least partially, with today's EUR dumping across the board. At that time, it was clear that the minimum for the day was in (assuming normal trading). The elements for averaging on the downside were on! The price per ounce I got yesterday was EUR1265 (Krugerrand, not in Geiger). Today it is EUR1282, not a bad deal!

Our fiat monetary system

If von Misses sounds to you like you left something at home, in the same line that our previous post, here you have, via Zero Hedge:

And this quote by George Washington, also selected by ZH, but that I want to carbon copy here along some other fitting quotes:

"Paper money has had the effect in your state that it will ever have, to ruin commerce, oppress the honest, and open the door to every species of fraud and injustice"

George Washington -- in a letter to Jabez Bowen, Rhode Island

“The first panacea for a mismanaged nation is inflation of the currency; the second is war. Both bring a temporary prosperity; both bring permanent ruin”

 Dr. Marc Faber quoting Ernest Hemingway in the CFA Institute Middle East Investment Conference

"I will pay cash or pay nothing." "I will never resort to irredeemable paper money"

Napoleon Bonaparte

"Let me issue and control a Nation's money and I care not who makes its laws"

Mayer Amschel Bauer Rothschild