Crude Awakening: The Yuan, the Dollar, and the Battle for Global Supremacy

Yuan-Dollar-Oil discussion starts about 20min in. Any professionals want to weigh in?

In the past the main drivers of oil prices were supply-demand and dollar confidence (all transactions in dollars). Now you can add dollar-yuan fx factors... even gold.

Have idiots screaming about Khashoggi thought about what happens if Saudi starts accepting Yuan for oil, as Russia, Iran, and Venezuela do now?

See also On the military balance of power in the Western Pacific.

A Greek bearing gifts

Another great Econtalk podcast.

Yanis Varoufakis of the University of Athens, the University of Texas, and the economist-in-residence at Valve Software talks with EconTalk host Russ Roberts about the unusual structure of the workplace at Valve. Valve, a software company that creates online video games, has no hierarchy or bosses. Teams of software designers join spontaneously to create and ship video games without any top-down supervision. Varoufakis discusses the economics of this Hayekian workplace and how it actually functions alongside Steam--an open gaming platform created by Valve. The conversation concludes with a discussion of the economic crisis in Europe.

Varoufakis is a lot of fun. Listen for his opinions on academic economics, the euro crisis, the meaning of life, happiness, and other topics.

Russ: Well, yeah. I think calculation is over-rated generally. But that puts me in a minority in the profession. The profession is going in the other direction don't you think?

Guest: Of course. Catastrophically so. And there is a fundamental difference between the social sciences and the real sciences. In the real sciences, if you tell me that Person X has published 30 articles in Nature or Science, I am prepared to take it for granted that they are very good physicists. But in our neck of the woods ... that's not necessarily the case. [ Actually physicists tend not to publish in Nature or Science, rather Physical Review or similar ... ]

Russ: I agree with you. But we are in the minority. Why do you think that has happened?

Guest: Oh, it goes back a long way. It goes back to the 1879s and 1880s, when economists entered the universities. Because they needed to prove that they are the scientists of society. And they had, they created a false science whereby classical mechanics of the 19th century were copied into mathematical models of exceptional complexity--and aesthetic beauty--and the only way of closing them, of solving the mathematics that was created, was by making assumptions which ensure that these models have nothing to do with real capitalism. So the more successful you were in creating these models which gave you discursive power and academic power in the corridors of economics departments, the more irrelevant you were in explaining the real world. It is a very peculiar failure. [ See also Brad DeLong Confessions of an economist. ]

Russ: Yeah. I have a little bit of mixed feelings about it. I think we've gone down the wrong path. And my preference would be to go back to Adam Smith. I think he had the right path, which is descriptive, narrative. I think we're more like historians than physicists and we should admit it.

Guest: Indeed. We should go back to the classical economics tradition. Whatever your political or ideological or methodological take is, I think it is exceptionally worrying to all intellectuals, who think things through, that today, Adam Smith, David Ricardo, John Stuart Mill, Karl Marx, Friedrich Hayek, even John Maynard Keynes, would never get a job at Harvard University's Economics Department. Never. Under no circumstances.

Russ: It's true.

... [Great discussion of the euro crisis] ...

... a Great Depression, in the periphery of Europe. Which already is happening in places like Greece and Spain. [?] unemployment can reach 30% soon. It's unbelievable in this day and age that we should have such unemployment rates. And this is a self-reinforcing depression in places like Greece and Spain. Either the Euro is going to break up, or you can have a large part of Europe being turned into Kosovo-like protectorates. ... But I think that the Eurozone is not going to survive that because the political pressure in places like proud nations like Italy and Spain are going to be such that the whole thing is simply going to go belly up. But the reason why we are having all this, just to cut to the chase, is because in 2010 when a country like Greece, like the Greek state went bankrupt, was that Europe refused to allow it to default within the Eurozone. This was just a crime ...

Greece had a debt that was unsustainable; and so as to make sure that Deutschebank ... wouldn't suffer more than they would have to, even though they were themselves insolvent, and relied on the generosity of the German and the French taxpayers, the largest loan in history was piled upon the shoulders of the weak and bankrupt Greek state. This was effectively a con job. The German electorate was being told that this was an act of solidarity towards the Greeks. When in reality all that was happening was that the losses of Deutschebank were being piled on the shoulders of the German taxpayers. ... Guest: The German taxpayers realized that. And when the German taxpayers realized that, they hated the Greeks; and the Greeks hated the Germans. And we've lost the plot completely. The only beneficiaries of that are the Nazis.

While we fight over $9 or $10 minimum wage, high g game designers and coders enjoy the work environment described below.

[Russ Roberts:] I'm going to read another excerpt here from the [Valve] Employee Handbook. It's subtitled "The Office." It says:

Sometimes things around the office can seem a little too good to be true. If you find yourself walking down the hall one morning with a bowl of fresh fruit and Stump-town-roasted espresso, dropping off your laundry to be washed, and heading into one of the massage rooms, don't freak out. All these things are here for you to actually use. And don't worry that somebody's going to judge you for taking advantage of it--relax! And if you stop on the way back from your massage to play darts or work out in the Valve gym or whatever, it's not a sign that this place is going to come crumbling down like some 1999-era dot-com start-up. ...

Sterilization and ECB quantitative easing

Draghi's ECB initiative of bond buying through "Outright Monetary Transactions" was accompanied by a statement that purchases would be entirely sterilized. I think this implies limitations on the capacity of the program, although I haven't thought it through carefully yet.

Markets were up substantially on this news, which I had heard predicted already over the summer by Wall St. types.

WSJ: ... Sterilization helps the ECB distinguish its plan from the quantitative easing programs of the Federal Reserve and the Bank of England, which are explicitly aimed at supporting the money supply. However, the “Outright Monetary Transactions” still resemble “QE” programs in as much as both tend to depress bond yields, lowering the most important reference interest rates for the economy.

It’s a fine point, but one that the ECB hoped would persuade the arch-monetarist thinkers at the Deutsche Bundesbank that it was still acting within its mandate. They were wrong. Within two hours, the Deutsche Bundesbank issued a statement reaffirming that its President Jens Weidmann, the only person to disagree with the plan, still considers bond purchases “too close to financing states via the printing press.”

In principle, “sterilization” is a process that ensures that individual actions by the central bank don’t result in an overall increase in the money supply. Monetarist theory dictates, after all, that it is excessive monetary growth that leads to inflation, which is what the ECB is exclusively mandated to guard against. ... As of today, the precautionary hoarding of reserves by euro-zone banks is so great that banks are holding over €770 billion in excess reserves in accounts at the ECB, voluntarily “sterilizing” money the ECB created without forcing it to lift a finger.

... The ECB is sterilizing another €209 billion by paying only 0.01% on the deposits it auctions. In the current environment, it does not seem like the ECB would struggle to withdraw from the market any amount of liquidity it wanted to. Even so, the numbers implicit in the ECB’s new bond-buying scheme are daunting. Excluding treasury bills, there are some €390 billion in Italian bonds that fall due in the next three years.

For Spain, the number is €203 billion, for Portugal and Ireland combined, another €50 billion, according to national debt agency data. In all, a total of over €640 billion. Of this, it seems likely that the ECB already holds — and sterilizes — a large part of its €209 billion SMP portfolio. There are no precise data yet on the ECB’s holdings, but only around 40 billion euros is accounted for by Greece.

Thus the amount that the ECB needs to sterilize could easily double or treble from its current level. This may incline it to sterilize more over a longer time-frame of a month or three months or even more, so as to reduce the potential for volatility in the money market. The ECB has already examined such options internally two years ago, but chose not to proceed.

Euros and Yuan

Sure, the dollar is on its last legs, but the euro isn't exactly in great shape either.

Open your rmb denominated bank account now with the Bank of China -- FDIC insured! (Net inflow capped at $20k per year per individual.)

NYTimes magazine on Sarkozy, Merkel and the French-German partnership. (I guess Sarkozy speaks German -- I thought Merkel doesn't speak English or French.)

“The Germans have discovered that they are the only serious global economy in Europe, capable of competing with the United States and China,” says John Kornblum, a former American ambassador to Germany. “But they’re afraid their world is coming apart around them, and what they thought would support them, the European Union, is dragging them down. They realized that the stability pact isn’t working, that the Greeks were lying and maybe others, too, that their banks and French banks were deep in the muck, and they understood this is going to cost a lot of money. So they are behaving in a very demanding way, which smells to some like nationalism. But it really is fear.”

... “The Germans don’t see it yet,” he says. “But they will have to take on the role of the United States in Europe, and have the same kind of balancing role we had for such a long time.” At that point, Germany’s marriage with France won’t matter so much anymore.

More from Krugman: Can Europe Be Saved?

Shanghai: PPP on the ground

1 USD = 6.64 RMB. Average salary in Shanghai is reportedly 65k RMB or about USD $10k per annum. A good Hadoop programmer might make USD $20k per year. The IMF estimates that the PPP (purchasing power parity) vs nominal exchange rate adjustment for China is about a factor of 2 (i.e., PPP GDP is about twice nominal GDP). That doesn't sound entirely crazy to me but it's very dependent on choice of goods for the PPP basket.

Haircut 10 RMB = $1.50. (My barber in Eugene = $11.)



Hiking shoes, 150 RMB = $23. (Equivalent pair probably $75-100 in US.)



Dinner on campus 9 RMB = $1.35. It's Sunday, and I saw lots of parents visiting their kids. The kids are much bigger than the parents. On the subway, it wasn't uncommon for me (183cm) to be the tallest or one of the tallest people in the train car. But on campus there are lots of kids (even girls!) taller than me.



I ate at this huge cafeteria across from the physics building. The kids were using their IDs as electronic cash cards and could pay separately at each food station. I had to buy exchange tickets at the doorway. I wasn't sure how much money to exchange for tickets. I asked the auntie; she looked at me and said "no way you can eat 20 RMB ($3 USD) worth of food!"



Visitor office at the physics institute. (Apple, where is my product placement fee?!?)




Random Shanghai observations:

Once you leave the highly developed downtown, or walk a few blocks away from the campus, you can see that the material level of society is still pretty low. It's dirty, and people are engaged in very low paying and labor intensive activities. You might see a storefront where people are sorting through trash for recyclables, or people selling roasted yams on the sidewalk. (OK, maybe not that different from NYC... at least you can walk through the roughest looking parts of town without fear of crime.)

The Minhang campus of SJTU is very far from the city center. It's $10-15 USD for a taxi; only $1 on the metro but you might end up standing the entire time. Either way it takes 40+ minutes to get to the center.

The Chinese government is ambitiously ramping up a lot of science projects. At the meeting we heard about a xenon dark matter detector built here at SJTU and a USD $100M cosmic ray observatory proposed in Tibet. I asked the group leader (who was a postdoc at Oregon when I first arrived as a professor) what a similar project would cost in the US, and he replied more than twice as much. I also notice that SJTU is looking to hire in many areas. A professor from Ohio State (not ethnically Chinese) recently left his chaired position and moved his whole family to join SJTU! I can't think of very many countries that have the ambition and optimism (a national-level "will to power") that China has.


From various conversations in Mandarin:

Taxi driver, after hearing me speak in Chinese: "Are you Korean ... Japanese?" "Oh, from America!"

Another taxi driver referred to me (to another Chinese person) as a "lao wai" or "rich foreigner"; usually this means a white person, but I suppose it applies to me as well.

A girl: "Your teeth are so white! Why do Americans have such white teeth?"

A student: "O-re-gon! that's in California?"

Me: "How long have you been in Shanghai?" (girl:) "About 5 months." "Do you like it?" Pause. "No."

Germans on Greeks: "They had their fun"

See this summary of the Greek debt / eurozone crisis in the NYTimes.

Can anyone analyze the implied probabilities for different scenarios based on credit derivative prices? This is down to national politics now -- if the Germans can't stomach a Greek bailout, what's going to happen with the other PIIGS (Portugal, Ireland, Italy, Greece, Spain)? Default insurance on some of those countries must be going through the roof.

Here are eurozone credit spreads over time (WSJ). Looks like Ireland is next, then Italy and Spain. What is Soros up to? :-)

Yikes!

From the comments on the previous post More mark to model:

It’s worse than you think. Even the top brass at the big C (our nations largest) don’t know how much toxic waste sub prime CDOs they’ve got on book, and off book in siv s. C is not nearly alone. Your idea about GS...it’s is very unlikely to be a safe haven and the list goes on and on and on. The problem takes on new proportions of fugly when you realize that the monolines (bond insurers) are way in over their heads. Counter party trust is in bad shape. This mess cascades into a true shit avalanche by summer 09 during the next round of mortgage re-sets. The Dollar is being deserted like lifeboats leaving the Titanic. (Look what the dollar did at 9pm on the forex market this evening... a brief period of free fall during a long down trend.) Make no mistake about it this doesn't end pretty. The fed has a grim choice...save the dollar and plunge the country into depression or support the economy...as it appears to be doing with lower interest rates... and generate hyperinflation and a dollar crash. Suggested reading, Nouriel Roubini blog and Calculated Risk.

Funny story: my brother was at an event in Minneapolis about 10 days ago where Rob Rubin was the keynote speaker. During Q&A my brother asked him about subprime, SIVs, etc. and Rubin replied rather categorically that they weren't a problem for Citi. The local paper covered the story but not the national media.

StarTribune: Citigroup and other giant U.S. banks are not imperiled by subprime debt, despite the fact that they own tens of billions of dollars in debt linked to the deteriorating mortgage markets, former U.S. Treasury Secretary Robert Rubin said in Minneapolis on Wednesday.

Rubin, who was a Goldman Sachs executive before serving as President Bill Clinton's Treasury secretary, said the U.S. economy has bigger worries than subprime debt, ranging from the fear of consumer spending hitting a wall to the sagging international value of the dollar.

At a conference sponsored by the Dorsey & Whitney law firm, Rubin found himself answering questions about the growing troubles of the U.S. financial system stemming from the lax lending standards that prevailed during the housing boom.

The Bush administration has pushed the money-center banks to create a fund to avert a panic sell-off of subprime mortgages -- and the securities backed by those loans, often referred to as structured investment vehicles, or SIVs.

The efforts to create that $100 billion fund should not be seen as an effort by Citigroup and other major banks to protect themselves by propping up the subprime market, said Rubin, who is now a Citigroup director and chairman of its executive committee.

More than 95 percent of Citigroup's investments in SIVs are fully financed through the rest of 2007 and the bank has the money to cover losses if the value of subprime loans continues to fall next year, he said.

"I think the problem with this SIV issue is that it's been substantially misunderstood in the press," said Rubin, who has a considerable personal stake in the fate of Citigroup. The banking firm paid him $17.3 million last year.

"The banks appear to be in fine shape," he said. "That's not a problem."

The SIV issue isn't critical for the economy, he insisted.

"It's massively less important that it's been presented," Rubin said. "It's been presented as a sort of centerpiece of what's going on. I just don't think that's right."