Post Tenebras Lux

Dear readers,

We have been out of circulation for the last three months due to several reasons. First of all we experienced ourselves that the deleveraging in the banking industry is still in full force, causing an abrupt re-orientation in our career path. However this mini sabbatical gave us the chance to work on other projects such as finishing our second book on the new banking paradigm in co-authorship with Moorad Choudhry which will be available at the end of this year.

Alongside this project we did some extensive reading. As the Latin saying goes: “Otium sine litteris mors est et hominis vivi sepulture” or free time without literature is the death and funeral of a living man. In the months ahead Givanomics will share these findings with you. For example we will write more in detail about a major academic work “This time is different: Eight centuries of financial folly” by Reinhart and Rogoff which is very topical with the ongoing sovereign debt crisis.

Then we spent some time travelling and empirically experiencing on the ground the forces of the Great Credit Crisis in some countries and developments in emerging markets. In this respect we noticed that the gold rush has still some way to go. We also noticed that China is aggressively expanding into Latin America to get access to hard assets. In a country like Peru, Chinese companies have invested more than $ 1.4 billion. The majority of its investments are located in the mining industry. According to Chinese officials Peru is the major destination of China’s investment rage which is only the beginning as ultimately $ 4.5 billion of new investments are planned.

We think this development should be placed in a broader context related to the worrisome share of US Treasuries in China’s financial reserves. Together with Japan, they hold in total +/- 45% of US Treasuries. China is the biggest owner of U.S. government debt and totaled $ 900 billion in April 2010. Already during the G20 summit in London back in April 2009 we saw growing reluctance from the BRIC countries to keep on investing and being overexposed to US depth and the USD in general.

Although the major focus has been on the South of Europe recently, foreign demand for American financial assets also fell to a six-month low earlier this year.

China has been a net seller of US Treasuries from July 2009 through April this year which is the longest stretch since the end of 2007. (Note that also Japan cut its holdings in January by $300 million to USD765.4 billion.) In return China has been shifting its reserves into hard assets. This enables them to get less dependent on USD denominated paper and in the meantime not causing an abrupt shock in the currency market as commodities are quoted in USD as well. Based upon what we have seen in Latin America and the amounts in play this is not going to come to a halt any time soon.

As far as the state of the global economy is concerned the situation remains very poor. At both sides of the Atlantic tax increases and/or cuts in public spending will hamper future growth prospects. Especially the latter together with robust demand from emerging market economies kept economies in the West artificially afloat. But the chances of dropping back into a recession are rising by the day now.


Leading indicators in the US are already pointing into this direction, certainly when one has a closer look at the Weekly Leading Economic Indicators of the Economic Cycle Research Institute's (ECRI). With a statistical adjustment (taking a 13-week annualized rate of change which reflects short term momentum) we notice a sharp fall, i.e. -23% which is in line with the US recessions in 1974, 1980, 2000 and 2008.

What certainly won’t help is that both in the US, UK and several EUR-member countries tax increases will be implemented in the months ahead of us. The impact on growth will be negative. Based upon earlier work from Christina Romer, who is also Chair of the Council of Economic Advisers in the Obama administration, a tax cut/raise of 1% of GDP has a 3% impact on GDP growth. Or if you raise taxes by 1% it will slow down growth by 3%. We do have to note that this study was done on the US economy. The multiplier effect is probably less for the EUR-zone economy because it has different dynamics, but the impact overall will remain negative.

Unless we would see another Lehman-like event, the recession will probably not be as deep as the previous one but we do believe the economies in the developed world will keep on struggling and muddle through for the time being. Certainly, with a (commercial) real estate market that continues to struggle and banks that remain reluctant to lend.

On a happy note, Givanomics is back, so at least there is light after darkness (Post tenebras lux) but as far as the state of the economy is concerned, we remain highly skeptical.