Revised Post #5: FOREX Market Remains Dominated by European Movements

Thesis:  After over 2 months have passed, recent European movements are still creating tremendous changes in the US foreign exchange market and banking sector at large. 

The start of the European Central Bank’s version of quantitative easing and the Swiss central bank’s abandonment of its peg to the Euro sent foreign-exchange markets into a whirlwind of activity and volatility that banks need to juice up their trading sectors.

Volatility in the currency markets, which tends to drive sales and trading activity, has risen drastically over this first quarter. Setting the stage for a rebound at banks, particularly like those that deal heavily in those products, like Goldman Sachs.

According to the Wall Street Journal:

“Banks tend to make more money when markets jump around, assuming the moves aren’t so sharp that they scare investors away or cause the banks’ to write down the value of their inventories. Moves likes the ones in the first quarter often prompt investors to change strategies and buy and sell securities through banks’ trading desks. The banks generally charge for such trades.”

At nearly 9%, the foreign exchange market is set to play a major role in the fixed income, currency and commodities sector, according to Goldman Sachs reports.  However this quarter, given the enormous news and outsized influence in the foreign exchange market, it may as well be called the currency & co. sector. Despite this, the banks may be a bit hurt by the weakness of the trading in corporate bonds and credit related instruments, which could hurt banks more dominant in those products like Morgan Stanley and Bank of America, and not achieve as much

Interestingly, the strength in currency this quarter could make this the first period in six years in which first-quarter markets revenue rise on a year over year basis.  Not to be too much of a chartist, but this is especially important because of the first quarter’s indication of yearly performance.

All this good news aside, there may be a bit of news that has remained a little too quiet recently. According to the Wall Street Journal:

“The strength in currency trading comes amid an investigation into banks over their foreign-exchange practices. A group of banks including J.P. Morgan and Citigroup are in negotiations with the U.S. Justice Department over allegations the banks manipulated foreign-exchange rates. The banks have said they are cooperating with the investigations.”

Fortunately, the investigations by the Justice department have brought about new regulations into the Forex market. The world’s major central banks have agreed to a new set of guidelines for the foreign-exchange market, creating a road map for how individual countries’ regulators should protect client information. The new guidelines establish that it will be the banks’ responsibility to implement policies which control communication between traders. These policies should “require their personnel to refrain from passing on information that they know or suspect to be misleading,” according to the document.

 

Jobs Revised 5 Post

College Job Crisis result of student debt

Student debt has plagued college graduates for a ton of money that the government may never see. “Seven in 10 seniors who graduated from public and nonprofit colleges in 2013 had student loan debt, with an average of $28,400 per borrower. This represents a two percent increase from the average debt of 2012 public and nonprofit graduates,” according to one source. One of the problems with student debt is the lack of jobs available after graduation. Students who invest years and thousands of dollars are unable to find jobs. The problem is not their qualifications. There simply aren’t many high-paying jobs. A supply and demand issue is all. In recent news,aA Wall Street Journal article titled “From the At Work Blog: Survey finds many companies plan a hiring boost in 2015” says employers are looking to hire more graduates. This is good news given the high amount of US debt college students owe. According to the article, “Employers plan to hire 9.6% more new graduates than they did last year, according to a survey of 162 U.S. employers released Wednesday by the National Association of Colleges and Employers. Some 56% of employers plan to increase hiring, while 12% plan to have hiring remain constant, and 32% plan to decrease hires, the survey said. Employers said they posted an average of 148 openings, up nearly 50% from last year. In turn, the job market is no longer quite as tight for job seekers. Employers received an average of 23 applications per posting, down from 28 responses per posting last year, according to the survey.”

For young college graduates, the unemployment rate is currently 8.5 percent (compared with 5.5 percent in 2007), and the underemployment rate is 16.8 percent (compared with 9.6 percent in 2007),” states the following article. College debt is now over $1,000,000,000,000, and the economy has felt the impact of college students who are unable to financially support themselves without jobs that can cover the costs of tuition. When you have college students that are working minimum wage salaries, the entire point of college no longer exists. Students who take the opportunity cost of going to college to earn a degree are losing the money they would make working straight out of high school. Now, not only do they not have the money they would have made working, they also have to pay tuition that could have easily matched a steady income over several years. College students are said to earn roughly $18,000 more each year than students with no degree. With out of state college costs here at U of M, for example, some $40,000 a year, that’s roughly $160,000 a student could have saved. Not to mention the salaries they would have earned over the years they would have been attending lectures. This new increase in employers’ hiring plans is some good news for college students, although it won’t solve the college debt that America faces today. Actually, it won’t really do anything. The amount of college graduates is still going to outweigh the amount of new jobs available. College debt is still going to grow despite the new job openings. America is going to have face the music eventually, and employers as well as the government are going to have to find a way to allow students to pay their debts.

Canada’s Strange New Budget Legislation (Revised)

Thesis: A government outlawing deficit spending is overly idealistic and restricts lawmakers by making fiscal stimulus overcomplicated.

Tomorrow, April 21, Canadian Finance Minister will deliver his budget proposal, including an unprecedented piece of legislation that would outlaw government budget deficits, per the Wall Street Journal.  The bill includes a necessary loophole clause that would make exceptions for recessions or extraordinary circumstances such as wartime or a natural disaster.  It’s a proposal that seems to be addressing a problem where one doesn’t exist – Canada has historically run a fairly responsible budget, with a very modest ~35% net debt to GDP ratio.  And as one of the most politically and economically stable countries in the world, it doesn’t cost Canada much at all to borrow.

Basic countercyclical policy dictates that governments should spend during economic downturns in order to prop up aggregate demand, financing itself by issuing debt, which it then pays off during economic booms.  This law tries to make this behavior a mandate by forcing the government to cut spending during good time.  It’s a nice idea in theory, but it may make the use of fiscal policy to stimulate recessions a bit tricky.  Specifically, a problem arises when the government tries to define where a recession actually ends – cutting a stimulus package the moment a quarter shows a positive growth rate (however small) is rarely ideal.  In fact, we only have to look back a few years to demonstrate this in practice.  Canada’s stimulus package for the recent global recession was introduced in 2009 and continued throughout 2011, according to The Star, even though the Canadian economy showed positive growth rates as early as mid-2009.  By allowing stimulus to continue past the point where a recession technically stops, the government can ensure that the spending has boosted the economy throughout the entirety of the country, since growth rates in some outlier areas may skew the aggregate growth rate positive even when other parts of the country are still hurting.  It also gives consumers a solid timeline to base their expectations on – if households know that the fiscal stimulus could be cut off at any time, they may be more reluctant to go out and spend.

What the Canadian Finance Minister is proposing would force stimulus packages to be reluctantly designed in small, short-term packages, which may require the government to respond to a recession multiple times, dragging out its length.  What’s more, the increased scrutiny on deficit spending might make lawmakers reluctant to even consider introducing stimulus proposals.  And since the spending would have to be so short-term (and maybe even cut off if the economy recovers prematurely), the government can’t commit funds to longer infrastructure projects – a major component of many federal stimulus packages.  There’s no good reason for the Canadian government to restrict itself like this besides political grandstanding.  A more prudent step towards managing federal debt would be to expand the budgeting process to require a balanced budget over the course of a business cycle.

Final Revision -Inequality in Household Wealth: A Long Time in the Making

The economic inequality between racial and ethnic groups has risen markedly over the past half century. The graph below illustrates a sharp divergence in average family wealth by race/ethnicity over the period from 1963- 2013. How can such a large difference be accounted for? Disparity in income and education readily spring to mind as explanations. While these variables certainly account for some of the difference, wealth disparity is three times greater than income disparity by some measures, and the wealth of college-educated minority groups still lags behind that of the majority counterpart. There is an additional explanation.  In this post I attempt to argue that current racial wealth disparity is partially explained by one of the largest components of wealth: housing. To be sure, early FHA policies set in motion a housing valuation scheme based on neighborhood demographics, and the legacy of these policies are seen in the current wealth disparity.

New Picture (5)

Source: datatools.urban.org

 Why housing is worth considering:

The most valuable item on many household balance sheets and a significant component of net worth is home value. According to the Federal Reserve Board, primary residences account for 30% of household balance sheets. Home equity is used by many families to finance education and save for retirement. As one of the most valuable privately-owned assets, it is a nontrivial factor in calculations of household net worth. Given the positive effect of net worth on consumption and output trends, a substantial amount of attention is owed to the political and social forces that made and continue to make wealth accumulation difficult for some.

A history of federal housing policy sheds light:

As part of the New Deal Housing program The Federal Housing Administration instituted racial assessment in rating property values. In doing so, the FHA redlined integrated and minority neighborhoods giving them lower (red) ratings than exclusively white neighborhoods. The government cited financial risk as the rationale behind their ratings system. This lead to the governments underwriting of over $100 billion in new housing loans from 1934-1962 (where graph above begins) almost exclusively to white home buyers. Alternatively, federal housing projects were built in central cities which housed high concentrations of non-white minorities. The result of such actions was to suburbanize America racially.

When the FHA ended its policy of racial risk assessment and non-white families were able to move into suburban neighborhoods, their neighborhood property values declined. Original residents of these subdivisions faced incentives to sell off their properties in anticipation of lowering house values. This reinforced the FHA’s initial policy, creating a dual housing market: one which subsidized home ownership for families of the racial majority and one that divested minority families of the same opportunities for wealth accumulation. Although the government eventually turned to more progressive policies, it had already laid the groundwork for economic disparity into the future.

A 2010 report from John R. Logan and Brian J. Stults on “The Persistence of Segregation in the Metropolis” illustrates the current legacy of such policies:

“In 367 metropolitan areas across the U.S., the typical white lives in a neighborhood that is 75% white, 8% black, 11% Hispanic, and 5% Asian.”

“The basic message here is that whites live in neighborhoods with low minority representation. Blacks and Hispanics live in neighborhoods with high minority representation, and relatively fewwhite neighbors. ”

Clearly, the effects of government redlining did not reverse course when public policy changed.

Much of wealth is inherited. The role of inheritance in passing on wealth suggests that the structure of residential segregation established in the mid-1900s in part contributes to present position of net wealth. I.e., if transfers of wealth are generally familial, then the effects of discriminatory housing in the fifties, for instance, are likely show up in the current racial wealth gap. This is further compounded by current residential preferences and incentives (to protect property value by living away from minority groups) reminiscent of those in existence when neighborhoods first opened to integration, a claim supported by the neighborhood statistics cited above.

Remedial policies must address the effect of housing discrimination on wealth if they are to unlock a more robust consumer base and consequently drive up the growth rate of output. This post takes a further look at one of the root causes of racial economic disparity in the U.S., the effects of which still linger. This is a first step in the process of ensuring full participation of all U.S. citizens in the American economy and its recovery.

 

China’s New Silk Road Is Worth $62 Billion Dollars

Thesis: China will inject $62 billion dollars of capital to support its “New Silk Road” plans to build infrastructure links to foreign markets. The action will build up Chinese sway in the world.

China plans to build a new silk road, especially for Beijing’s “One Belt, One Road” strategy, which is to build roads, railways, ports, natural gas pipelines and other infrastructure stretching into south and Southeast Asia, the Middle East, and through Central Asia to Europe to create demand for China’s industrial exports. If the plan works well, it will extend Chinese sway across Asia. What’s more, combine with the Beijing’s diplomatic success in securing the support of more than fifty countries for the China-led Asia Infrastructure Investment Bank. I believe Chinese sway will be boosted in the world.

China wants to use its massive foreign exchange reserves to inject $62 billion dollars of capital to two of the three “policy banks”, China Development Bank and Export-Import Bank of China, which are established only for financing infrastructure and other policy priorities within China and abroad. According to the official data, China’s foreign exchange reserves owned $3.7 trillion dollars. 

Obviously, the New Silk Road will help China to expand its export market. Also, more foreign infrastructures that connect with China will add more foreign trade partners to China. On the other side, to inject money for infrastructures will also help to support the slowdown in China’s economy. The reason is that most of the foreign infrastructures will be contracted by Chinese companies.

Another reason for the New Silk Road will boost Chinese sway is that Washington was stepping back from international economic leadership. Some Republicans wish to close the US Export-Import Bank because the funding almost runs out. If the Bank is eliminated, it will stunt growth for small and big business that rely heavily on sales from China. In 2014, air transportation industry hold 45.2% of amount money for the US Export-Import Bank. I believe if the Bank is closed, it will hurt so much on air transportation sector including Boeing and Ryanair.

In conclusion, the New Silk Road plan is a long-term plan. And the “policy banks” are non-commercial banks. It still needs more time to transform them into commercial entities. However, once the New Silk Road plan is on the right track and the developments are sustainable, at that time China will boost its sway not only across the Asia area but also across the world.

IBM Expands Partnerships

Thesis: While IBM is effectively reorganizing itself around cloud computing and taking full advantage of their new big data analytics brand Watson, the firm needs to rebrand their image entirely to maximize the potential of their new initiatives in the evolving tech marketplace.

Life is tough for firms in the new age of technological evolution and innovation, even for tech giants such as IBM who has been in the industry for 104 years. A company that thrived on business hardware like cheese slicers and card punchers in its earliest days and moved to mainframe computers and microchips in more recent years, the need for hardware has declined greatly. The process of reinventing a historical giant can be quite daunting, but by not adapting and staying ahead of the innovation curve you can end up like record companies did in the 1990’s when Apple came in with iTunes. Even though IBM is late to the party, as their hardware sales continue to decline they announced that they will shift $4 billion in 2015 spending towards their “strategic imperatives” of cloud, analytics, mobile, social and security technologies. While IBM is effectively reorganizing itself around cloud computing and taking full advantage of their new big data analytics brand Watson, the firm needs to rebrand their image entirely to maximize the potential of their new initiatives in the evolving tech marketplace.

Stemming from one of their most advanced inventions, IBM Watson has brought upon the crucial innovation for their strategic partnerships. After the artificially intelligent computer system capable of answering questions posed in natural language won jeopardy in 2011, IBM decided to create an entire business unit around it early last year. Since then IBM has announced several major partnerships with Apple, Twitter, The Weather Channel, and most recently through their Watson Health initiative: Johnson & Johnson, Medtronic PLC. With Watson Health, IBM will pool and distribute healthcare data and analysis, but being announced just last month it is unclear whether or not this will be profitable. FBR & Co. Analyst Daniel Ives stated, corporate buyers are “moving away from traditional services and traditional hardware toward some of these next generation areas of spending, and that’s a headway for some of these traditional stalwarts such as IBM.” These new cloud partnerships and strategic initiatives are on track to become a $3.8 billion business this year, compared to being on track to be a $2.3 billion business in the first quarter of 2014 (Business Insider). They still have a lot of catching up to do as they are behind Amazon who is projected to come in around $6 or $7 billion for their cloud services. IBM is innovating and attempting to catch up to their competitors, rebalancing their revenue streams and being forward-looking enough to be left in the dust of cloud, analytics, mobile, social and security technologies. However, in order to keep up with their younger competitors known for innovation and performance, IBM needs to invest more in re-branding their image to give a competitive advantage in the ever-changing market beyond that of their historical presence and reliability.

Municipalization of Electric Utilities

Thesis: Municipalization of electric utilities is beneficial to consumers.

Our electricity market comprises of two parts, generation and distribution. The generation of electricity is done under a competitive setting, and then sold to retailers at wholesale. However, the retailers who handle distribution are monopolies (Forbes). This is allowed because they are natural monopolies. A competitive setting would mean that multiple transmission lines connect to the same consumer, which would be inefficient. Unfortunately, this would also allow the firms to charge any price. Furthermore, some distributors of electricity also own generation facilities. Obviously, there would be heavy regulations to prevent the abuse of market power.

According to an article on the Wall Street Journal, the profits allowed for electric utilities are capped at around 10% of the shareholder’s equity that they have tied up in transmission lines, power plants, and other assets. Such that the more the firms spend on these assets, the more profits they are allowed to make. And firms are indeed abusing this loophole to increase profits. Electricity utilities are pouring billions into new equipment, even when they don’t need to. And then easily transferring the costs onto consumers because our demand is inelastic and they are a monopoly.

Additionally, heavy regulations have prompted electric utilities to spend obscene amounts of money on lobbying. An article on Forbes lists companies that paid more lobbying than federal taxes, the list is full of energy companies. Firms lobby in order to protect their interests, which is almost always profits. The cost of lobbying is also passed on to consumers.

Private firm’s relentless efforts to maximize profits is ultimately causing another inefficiency through reckless spending on unnecessary infrastructure. One might suggest that we can simply fix this by increasing oversight of firms’ spending activities. However, this could be difficult to achieve and would require resources from the government. Instead, it would be better to municipalize the electric distribution network altogether. Having publicly owned utilities, run by municipal government, would eliminate the need to extract profits from consumers, lowering our power bills.

Reducing the amount we pay for electricity is not the only benefit. As of now, clean and renewable generation such as wind and solar are still unprofitable. Our government has to offer subsidies to encourage firms to build these generators. But it is not enough, as wind and solar only account for a tiny portion of electricity generation. By taking over the industry, we can directly build more of these generators.  Municipalizing generation plants could benefit consumers from an environmental standpoint as well.

 

Slower Job Hiring is the Result of Lower Unemployment (Final Revised Post)

Thesis: The longer time to fill job vacancies is caused by a decrease in unemployment, rather than other factors such as job personality tests.

A recent article published by the Wall Street Journal titled, “Today’s Personality Tests Raise the Bar for Job Seekers” highlights the growing importance of personality tests for hiring new candidates. “In 2001, 26% of large U.S. employers used pre-hire assessments. By 2013, the number had climbed to 57%, reflecting a sea change in hiring practices that some economists suspect is making it tougher for people, especially young adults and the long-term unemployed,  to get on the payroll.” I have personal experiences with these personality tests in applying for finance related jobs. The growth in popularity of theses assessments is surely a positive as it enables employers to better screen candidates for culture fit and to verify the candidate possesses the characteristics for that job function i.e. customer service must be able to communicate well with people. The last phrase of that excerpt I disagree with, however. Personality tests themselves do not discourage against young workers or individuals who have been unemployed for a while. The authors’ viewpoint on this aspect is very shortsighted and fails to take into consideration the type of candidate a young person or unemployed individual is compared to someone with potentially more active experience.

Furthermore, the author goes on to explain how the time it takes to fill job vacancies has been on the rise since the Recession. The author claims that personality tests make it harder for job seekers and are the cause of this issue. However, the author fails to point out how unemployment has also been on a steady decline since the Recession. We have a classic case of cause vs. correlation, and I feel like the author is badly mistaken in the claims drawn in the article. Furthermore, I would go on to make the argument that employment and time to fill job vacancies are directly correlated. Therefore, when there is higher unemployment, there are more available workers in the market, and open job positions can be filled quickly. When there are less people actively seeking a job, the time to fill those open positions will be greater. My proposed solution seems to be a more realistic logistical model than personality tests accounting for the dramatic change in time to fill job vacancies. For more information on personality tests that employers use to hire new candidates as well as what some of the largest U.S. companies look for in these results click here. I view the topic of personality tests as intriguing, but not a separator between age of potential employees or the rise in time to fill job vacancies.

Why Inflation is Good News for the Economy.

T: In fact, with inflation rising, the US economy can expect steady job gains in the short-term future, and effectively transition to higher interest rates in the economy.

On Sunday, the WSJ reported that inflation, as gauged by the CPI, has risen for the second consecutive month with a .2% growth rate. While most people would lament inflation since they lose purchasing power, this is actually a very promising sign for the economy. In fact, with inflation rising, the US economy can expect steady job gains in the short-term future, and effectively transition to higher interest rates in the economy.

With inflation rising, we can expect job-gains in the short-term future because rising inflation is a sign that active money in the economy is increasing. With gas prices stabilizing, it seems that inflation has started to make gains in the economy. Generally, inflation should occur when more money is put into the economy by adjusting interest rates and quantitative easing. When inflation is too low, this can be a sign that the amount of cash being used in the economy is much lower than it should be. Similarly, a deflation can be the result of a recession since money stays stagnant during a recession. In this scenario, people may be investing the money abroad, or saving their money in banks. Right now, with inflation rising from a very low level, this is a sign that business activity has increased in the economy. When money spreads around the economy, people are more likely to spend that money because income has risen and seems more stable. Consequently, consumption causes stores to invest more money and hire more workers to accommodate this increase in demand. Thus, inflation rising allows us to believe that spending will rise, which will cause jobs to increase.

While job gains in the economy are certainly a great thing for the FED, the FED might be more excited with rising inflation because it will allow the FED to raise interest rates with fewer complications. Recently, the head of Mexico’s Central Bank has stated that he is worried about how fragile the economic recovery is around the world with regards to low interest rates. Certainly, he has reason to be worried since governments around the world have massively cut interest rates since the recession, and further stimulated their economies with quantitative easing. This response has been unprecedented. It will be interesting to see how the FED deals with that; however, rising inflation will allow the FED to avoid this dilemma. The rise in inflation will offset the effect of higher interest rates. Therefore, inflation is definitely an exciting economic development for the FED.

While most Americans will dread this rise in inflation, there is significant evidence to suggest that this will positively affect the economy. In general, with inflation rising, the US can expect substantial job gains in the short-term future and less effects from the rise in interest rates at the end of the year.

Russian economy cracking

Thesis:In the next 3 years the Russian economy might be pressured to get assistance from the IMF if they remain on this aggressive track.

 

Tension between the United States and Russia started immediately after World War II celebrations and that tension grew into the Cold War. The Cold War is over publically, but economic sanctions placed on Russia for their involvement with Ukraine tells a different story. The United States along with several other countries in the EU have enforced economic sanctions on Russia.   Vladimir Putin remains strong as Russia endures the consequences of its own actions, but it’s economy has grown weak. In the next 3 years the Russian economy might be pressured to get assistance from the IMF if they remain on this aggressive track. Ignoring the collapse in Oil, food embargoes, Interest rates, and dwindling reserves are sinking the economy.

 

Several countries with the support of the United States have placed sanctions. “In response to sanctions from the west, the Kremline banned imported foods from any country which had issued sanctions against Russia. As a result food prices have spiked” (Levada). Prime Minister Dmitry Medvedev imposed a one-year ban of beef, pork, poultry, fish, fruit, vegetables, cheese, milk and other dairy products. Well According to Eurostat Russia imports nearly 10% of its agriculture and food exports. Ten percent is a large portion of food for a population of around 142,173,850. While these food embargoes are not creating the same kind of food shortage that Russia saw in Soviet eras, but certain western foods are becoming unavailable and domestic prices are rising. Vladimir Putins response sanctions have driven consumer price inflations in Russia, its highest point in three years.

 

According to the Bank of Russia the inflation rate in the month of February 2015 was 16.7, which is up 1.7% from January. “The latest news is that Russia’s central bank raised interest rates from 10.5 to 17 percent at an emergency 1 a.m. meeting in an attempt to stop the ruble, which is down 50 percent on the year against the dollar, from falling any further” (Washington Post). This raise in the interest rate backfired to create more uncertainty as the exchange rate sits at 80 Ruble per dollar. This dramatic drop is leading experts to predict a 5% shrink in Russian GDP (CNN). This collapse is reducing the value of Russian savings as their money continues to loss value, and it is happening during a simultaneous collapse of their biggest export.

 

High inflation and unstable markets have forced Russia to liquidate it’s foreign currency and gold reserve. It’s reserve of about $600 Billion has decreased by more than $200 Billion since 2008 (bloomberg). This has created an economic freeze that is bound to crack. Looking towards the future stockholder are looking at Russia now as a value trap, and they don’t see the upside. Russia might be forced to get help from global sources like the IMF but their actions in Ukraine are preventing that. Russia needs to learn that there are gains from trade, and that it needs to learn to play nice our it can’t survive in the global economy.