The Day the Markets Crashed

(To fully understand this story, refer to 2012:The Other Prediction , where I explained why the US dollar would crash on 21 December 2012)

It was the morning of Friday, 21 December 2012, and the bell at the New York Stock Exchange was about to ring. Gloom and a sense of foreboding hung over the trading floor. Outside, there were hundreds of ‘Occupy Wall Street’ protesters rallying against the abuses of the 1%.

It was not only ‘triple witching’ day (the day when all kinds of option contracts expire), but also only three full days before the trading year ends; and many traders were still holding more US stocks than they wanted. The Dow Jones stocks that they still held no longer seem to be safe anymore, and they had to have ‘safe’ stocks in their portfolio by year-end. Thus, many traders were set to sell off the rest of their Dow Jones stock holdings that day.

2012 had been a disastrous year. Till February, the Dow Jones was above 12000 points, but by March the tide had turned and prices drifted downward the rest of the year. Nothing could cheer people enough to take prices higher. The reelection of Obama and the Democratic sweep of Congress had not helped. On the contrary, Wall Street was depressed after the elections. There are now bills pending in Congress that will force an increase of taxes on Chinese goods come the New Year. And this will surely cause a Chinese reaction and a trade war at the worst possible time. And to make things worse, oil prices had drifted upwards all year – Brent was now at $150/barrel (and WTI at $130).

Today, the Dow Jones was just above 10,000 points. For the first time in history, foreign traders have dumped their US stocks in their year-end ‘window dressing’ operations. Apparently, they no longer considered Dow Jones stocks as ‘good’ stocks to hold.

After the Bell
Right after the opening bell, share prices plummeted. Within the first hour, stock trading had to stop for 15 minutes because the Dow fell more than 10% below the average of the previous quarter (the trading curb, at approximately a 1000 points drop), triggering the automatic stop.  After trading resumed, the Dow reached 9000 points, and a whole series of stop-loss orders to sell stocks hit the exchange.  In contrast to previous crashes, investors were no longer rushing into Treasuries. They were in fact dumping US Treasuries almost as fast as they were dumping stocks. This meant that the effective interest rates on US debt rose from 3% to 5% in a couple of hours.

The US dollar suffered accordingly. It was at $1.60: 1 Euro by 1 pm. At 2 pm, there was concerted action by a number of Central Banks (most of them were limited in their response because their home markets were already closed by this time), which buoyed the dollar to $1.55: 1 Euro. It was the middle of the night in Asia, and the Fed was mainly alone in intervening to save the dollar.

The market dipped even lower by the close of trading, as a whole swath of put options were exercised (which involved the sale of a lot of stocks and currency); the Dow closed at ‘only’ 8500 points (it had gone below 8000 points during the day), and with the exchange rate at $1.60: 1 Euro. It was terrible, but everyone was sure that concerted Central Bank action scheduled for Monday will calm the markets.

It was not to be. Middle Eastern markets were opened on the 22nd and 23rd (Saturday and Sunday), and stocks and the US dollar continued their slide, reaching $1.70:1 Euro at the end of Sunday trading. In the morning of Monday, the Bank of Japan  intervened heavily to support the dollar; but by midday, it stopped. At the same time, the Peoples Bank of China started dumping dollars. This was followed by Russia, and then a host of Third World countries.

The ECB, the Bank of England, the US Fed and the Central Banks of Canada and Switzerland furiously bought dollars all day. Together they bought more than a trillion dollars on that day alone. It did not help. Middle Eastern, other Third World sovereign funds and many Third World Central Banks dumped their US$ bonds and stocks all day. The Euro remained at $1.70:1 Euro all day.

It was a gloomy Christmas in most US households, who saw their 401k balances evaporating, and who realized that the prices of goods will go up a lot in January.  On the 26th, ordinary Americans dumped their holdings in Dow Jones stocks, and bought Japanese and European mutual funds. Oil (WTI crude) hit $200/barrel, and gasoline rose to $6/gallon.  The US government announced that it was monitoring to see that no gas station will sell gasoline above that level. The government warned against price gouging by retailers, and issued an order that prices were to remain at the present levels for the meantime, unless explicit permission was given to raise an item. But this set off a stampede of people buying what they can while the prices were relatively cheap. By the end of the year, grocery stores reported that their stocks of food had been all sold out; panicky people were stocking up.

By the first trading days of the new year, the US dollar had gone to $1.90: 1 Euro, and it was steadily deteriorating. Interest rates on US treasuries hit 7%, and kept climbing. By 15 January, the US government formally called on the IMF for help. The US government could no longer finance its debt, with the interest rate on Treasuries at 9% and climbing. The IMF put together a rescue package of about 1 trillion SDRs. But this would only be given if the US reduces its deficit from $1.3 trillion yearly to only $100 billion in 2012. Obama then forwarded a budget proposal which specified: a 50% cut of defense spending, a tax on luxury houses, cars and yachts, a national Value Added Tax of 15% (and abolition of state sales taxes), etc.

The IMF declared that it was making the SDR the new international reserve currency, and that it would exchange dollars held by Central Banks at $2: 1 SDR. This provided a floor for the value of the US dollar, and stabilized the currency markets. For cash, people used the Euro or the Yen.  After the IMF action, the US dollar was removed as the reference currency for oil (which changed from dollars/barrel to Euros/hectoliter), gold (to Euros/gram) and other commodities.

(this is a depressing story, but it will actually end up well. In another blog, Two Years After the Fall    I show what would happen two years after the crash.)

Euro Zone Austerity is Correct

US and UK economists are quite vehement in opposing the Eurozone’s stress on austerity. They say that this would jeopardize economic growth, which is important for increasing employment and maintaining welfare. But they are just expressing conclusions which stem from the dominant Keynesian view of economics. We will see that this view needs to be amended or replaced.

Addicted to Growth
American economists are addicted to growth. Keynesian economics teaches that governments should use fiscal and monetary policy to maintain growth at all times. Now, at its extreme, the US Fed is the one mainly holding up the US economy by using monetary policy alone. This obsession with growth has led to the Fed and the Bank of England (BoE) to print money (aka ‘quantitative easing’) in order to stimulate growth. People in these two countries have been led to believe that this is a good thing. That the economy will be alright, if only people continued shopping.

Non-economists may find such a policy of ‘printing money and encouraging shopping’ problematic; but then they would be faced by Keynesian economists assuring them that it is right. What the Keynesians fail to realize is that the world  is in the middle of an international tug-of-war for resources. Printing money and shopping are, in effect, asserting the US’ position as ‘consumer of last resort’ at a time when other countries would rather use resources elsewhere. And that is the weakness of the policy: third world booming economies are  increasingly reluctant to prop up the US economy if this means that they would be deprived of resources they need for their own development. The US economy, instead of benefiting the world with its consumption, is more becoming an impediment to growth of other countries.

In this light, the Euro countries’ call for governments to live within their means is a good policy. This means, concretely, that governments should no longer stimulate their economies through excessive government spending (fiscal policy). And combined with the EU’s thrust to lessen its carbon dioxide emissions; it means that Europe’s resource footprint will grow slowly, if at all. It will also mean that Europe will be producing goods and services in an increasingly efficient and competitive manner.

Building Efficient Economies
Government austerity forces economies to be more efficient, and to utilize all their resources properly. Austerity could mean cutting hidden subsidies on fossil fuel, taxes on waste, more efficient production or promoting recycling. While a natural problem with austerity programs is that they may also reduce vital services like the social safety net or public transportation, this will be corrected in the course of the political process as other parties would restore these.

Efficiency includes the concept of a good social safety net, because when workers who are displaced by rapid market changes are well taken cared of, they would more readily accept those changes. Societies should avoid, most of all, the destruction of human capital in the form of forced idleness and de-skilling.

There are also specific policies which skew a particular country’s utilization of resources. Among these are: differences in retirement age (e.g. Greece used to allow retirement at 52 years); low corporate tax (Ireland); or, tax-exemption for mortgage interest payments (Netherlands). Different rules for the Value Added Tax, for social security contributions and benefits; rules for buying and building houses; and, specific taxes on oil, ‘sin’ products etc distort economic and fiscal balances between countries.

Bank of Last Resort?
The idea that the ECB should step in and buy hoards of Italian bonds is wrong. The problem of Italy is that the ‘market’ thinks that its bonds are risky, and thus asks for a higher interest rates for them. While this perception is particularly problematic now, but if the problem does not get out of hand in the medium term, it will eventually solve itself. Investors would eventually settle on buying Italian bonds that have only slightly higher interest rates than German Bunds.

Higher interest rates are important for keeping governments more disciplined when it comes to making their budgets. Making interest rates uniform now (by instituting ‘Eurobonds’ for example) would effectively reward those countries who are misbehaving.

Time is on the side of the EU and the Euro. The Eurozone has a trade and payments surplus. This is quite different from the US, which has budget, trade and payments deficits.  Eventually bond buyers will need to park their money somewhere, and where better than the EFSF and the ESM (which are less than 1 trillion Euros in total, and are as solid as German Bunds)? It will eventually turn out not to be a good idea to park their billions of (petro)dollars in US Treasuries – whose supply increases by at least $1.6 trillion/year.

No Theory Yet
This is not to say that the Eurozone leaders are following a coherent plan, based on a well thought-out theory. Euro leaders are mostly improvising on the run, after being pushed by market conditions to take certain steps; while at the same time also hindered by those same forces from solving the problems quickly.

Economists heckle the policy of austerity because of the Keynesian prediction of an economic downturn if governments cut spending. But austerity is a move that is forced on countries by the market – the market is in effect demanding lower budget deficits, and will punish any government that now does deficit spending. But saying that governments are forced to undertake austerity does not mean that austerity is bad either. Governments are now implementing austerity , which it never would have done without market pressures.

The EU’s decreasing carbon footprint is an independent development, but one which fits neatly into the new EU economic ‘model’. So are the social welfare systems in EU countries, which are only marginally affected by the crisis. Now, the EU is confronted with the need for austerity, together with lessening its carbon footprint and maintaining its social welfare systems.

The present high pressure atmosphere within the Euro zone is clearing out many economic cobwebs. Technocratic governments in Italy and Greece will now work within the parameters, and try to both economize and grow. This means among others: that corruption be lessened, tax compliance improved, and protected professions opened to competition.

A new economic theory will eventually emerge that will affirm the correctness of austerity and reducing the resource footprint under conditions of resource scarcity.

Enough Jobs for People

There is apparently a job shortage in the world. It seems as if machines are replacing a lot of people in agriculture, industry and even services (See Why Workers Are Losing the War Against Machines) So, does progress mean that people are being out-competed by machines? In other words: are we headed (or are in) a situation where there are too few jobs to go around?

One approach to ‘solving’ the job question, especially in developed countries, is to make workers upgrade their skills. Farmers become agricultural managers and agri-machine operators, factor workers become processing engineers, etc. But let’s face it: up-skilling is not for everyone. So, unless we are prepared to have a large army of unemployed unskilled workers, this solution is not adequate at all.

Enough Work
The question of enough jobs actually boils down to there not being enough tasks that businessmen are willing to pay people to do. There are a lot of things that need to be done, but which are either done by volunteers, or don’t get done at all. It all is a question of economic arrangements. Or, put another way, it is a question of rearranging the market so that the market makes sure that there is a need for those other things.
Let us now look at some areas where there are plenty of jobs.

Urban Farming could put so many people to work, while at the same time be good for people’s health and the environment. People could grow vegetables, potatoes, even grain on rooftops, backyards and empty lots. But they don’t. And this is because there is no ready market for the products. People don’t buy that much vegetables and fruits, and when they do they buy these in grocery stores, not from a neighbor’s garden.

The government could stimulate urban farming by helping develop a market for the products. Ad campaigns could promote the consumption of locally-grown fruit and vegetables. The government could also help set up neighborhood vegetable markets. Also, it could provide technical advice and help for growers, e.g. cheap fertilizers and seeds. It would help a lot if governments declare that income from growing vegetables would not be included in the computation of income for food stamps or welfare benefits (up to a certain limit, of course). This should entice the very poor to take up farming.

At the same time, other kinds of food (especially grains and meat) could continue to be produced in the rural areas. These foods should be produced in an efficient and environmentally sound manner.

Recycling. Collecting and sorting recyclable materials is quite labor-intensive. On the basis of market forces alone, most recycling activities would not be profitable. This results in a lot of recyclable materials simply ending up in dump sites or incinerators.

People could collect recyclable materials door-to-door. This is especially good for things like furniture and appliances. And garbage processing centers need people to physically sort materials. A lot of people could work at recycling electronics – dismantling these to get reusable materials.

The problem with recycling is that it does not yet give a market profit. ‘Externalities’ (e.g. pollution, displacement of people, waste of water etc) in obtaining raw materials are not fully included in the market price for these raw materials. And the result of this is that it is much cheaper to simply dispose of things rather than recycling them.

But recycling does not only mean that vital resources are reused, it also means that much less gets dumped in landfills or incinerated. And this translates into a savings of government expenses for garbage handling.

Governments should step in and make recycling profitable, by imposing a tax on the importation of all raw materials. Or by granting tax exemptions on the operations of recycling companies. Or by charging a recycling fee upon sale of consumer durables, which would be collected by those who would actually recycle them (system is used by Netherlands). Or by stepping in and providing a market for certain minerals – esp. rare earth minerals. Or, a combination of the above measures. These measure would not be a distortion of the market, but merely a matter of internalizing the externalities of the production of raw materials.

‘Tailored’ Products. It is now increasingly possible to produce many things tailored to a person’s tastes, measurements, DNA and whims. And this is a great opportunity to get people to work. Even though mass-manufactured items may still be cheaper, people seeking quality will opt for made-to-order items. Medicines, for one, will be increasingly based on a person’s DNA – for maximal effectiveness and minimal side effects. When this happens, there will be a need for advisers in pharmacies who will help people get the right medicine variety for their illnesses.

Clothes will be more made-to-order, and they can be made quickly. People would just input their measurements from a file or chip, and specify designs and materials (also selected from various fashion databases), and then a CAD-CAM dress shop would instantly cut the cloth and human seamstresses will put the clothes together in a matter of hours. These shops could be located near airports or train stations, and a traveler could order their clothes before leaving home, and have them ready when they arrive. They would need a lot less luggage.

Fab centers with 3D printers could also make things like personal jewelry and household items. Already, it is possible to ‘print’ 3D objects made out of a single material. Soon, it should become possible to print using 2 or more materials in one product.
Fab centers could also be combined with Clothes centers. They could provide employment for many. In these new kinds of shops, you could also have a physical book produced (from an e-book database) or a CD burned.

The shops which personalize services and products would employ a lot of people. They would also increase the quality of products, and people’s satisfaction with them.

Governments could stimulate the growth of the ‘tailored products’ industry by establishing standards, extending technical support and maybe even initial wage subsidies.

Infrastructure Maintenance. The government should require that all buildings be maintained properly. There would be building inspectors who mete out fines, or order repairs themselves, on buildings. Badly maintained buildings should either be taken over by the government, or torn down, giving way to new construction.

As a result of the ‘maintenance directive’ a lot of companies catering to building and infrastructure maintenance will be formed, giving employment to many. The building supplies industry will also thrive. Good maintenance make sure that buildings and infrastructure get used optimally. In effect, it conserves the materials that went into those buildings and infrastructure.

Community Services. There are a lot of things that need to be done under the overall heading of community services.  Services could include helping people with the upbringing of children, from parenting seminars, ‘homework supervision, pre-school to teen programs.

Families in distress also need help. Those with ‘especially challenged’ members need help, as well as those with sick or invalid members. Dysfunctional families would need family coaches, and some families need help in managing their budgets.

Activities to help forge communities, and to get people to participate are also important. This would include inter-cultural interaction, settling disputes among neighbors, etc.

Governments often don’t fully appreciate the need for community services. This is especially felt in the tendency to cut down on ‘social services’. The government does not need to completely bear the burden for doing these things. What it could do would be to strengthen the community level networks and institutions that do these things. The government and businesses could put in money, but community members themselves should also contribute in the form of labor or cash.

Community services are necessary to maintain a stable social environment, which in turn helps make workers more productive.  A good quality of life will also help make the whole population able to respond better to any changes caused by environmental or market conditions.

Quality not Quantity
Machines will only make workers obsolete if the economic system continues to concentrate on producing ever increasing amounts of goods. This will lead, not only to making workers obsolete, but also the exhaustion of natural resources, and the lowering of the quality of life. But if governments aim is to maximize people’s culture and the Earth’s resources, the economy will continue to grow and employ people while improving the quality of life.

Recycling, maintenance and tailored products are things that seek to maximize the use of resources. On the one hand, there would be a closed loop for raw materials (minimizing extraction as well as garbage); on the other hand, what gets made is used optimally (in the case of tailored goods and well-maintained buildings). Urban farming maximizes both space and labor for producing food; and minimizes the use of fuel or storage facilities because the food is produced near the consumer.

These measures could be taken even without any radical change of economic system. It is only a matter of including some additional dimensions to the present system.

Bill Against Call Centers?

In the US House of Representatives, there is a pending bill (the U.S. Call Center and Consumer Protection Act) that seeks to discourage companies from transferring their Call Centers abroad. [Bishop Introduces Bipartisan Bill to cut off Taxpayer Dollars for Call Center Outsourcers ] This law, if passed, threatens to lessen the demand for Philippine-based call centers. The proposed bill will penalize US companies outsourcing their call centers by cutting their Federal grants and loans.

No Effect
The proposed bill with probably not pass the US House of Representatives. There is a Republican majority there, which is pro-free trade and  pro-corporation. Outsourcing of call centers is a significant way of reducing operating costs of companies, and thus will be supported by Republicans.

Even if it passes, though, the law’s effect is likely to be minimal. It would be easy for companies to go around it. For one, a lot of US companies already have call centers abroad, or they hire the services of a BPO (Business Process Outsourcing) company. They will not be affected by a ban on ‘transferring’ call centers abroad.

Then, there are some companies which combine an in-house US-based call center with a call center based abroad. The more difficult problems are addressed by the in-house staff, while the routine questions are handled in the Philippines or India.  With this arrangement, a company could conceivably expand its overseas customer service staff without reducing its in-house staff.

Another way of ‘going around’ the law would be to have specialized US-based BPO companies get contracts from US-based companies to handle their customer service work. The BPO company then assigns Third World based personnel to do the Customer Service work.  This means that the BPO company is the one which outsources work abroad, and thus be deprived of Federal grants and loans, but that won’t be a problem for them.

Up the BPO Ladder
Call centers (also called ‘voice BPO services’) are the part of the BPO services which are the target of the protectionists. Right now, this comprises the largest part of the Philippine-based BPO services. There is the impression among many in the US that call centers in India or the Philippines are ‘cheap’ – in the sense of being both low cost and low quality. They do not realize that Philippine-based call centers are perhaps better than US-based ones in terms of quality; due to highly motivated Filipino agents.

But there are other kinds of BPO work, which are growing even faster than call-centers. There is the medical transcription work, which is the transcribing of medical records for US-based doctors. There are back-office operations (accounting etc) for US banks and other financial firms. Back office work is especially lucrative because of the time difference – Phil or Indian workers work on the transactions when it is nighttime in the US. Back-office operations are less language-dependent than call center work, and thus could be done for companies from countries other than the US.

There are also virtual tutors, remote publishing, virtual personal assistants, and a host of other virtual services which could also be provided by Philippine-based BPO companies. Eventually, all kinds of non-voice BPO will become the bigger part of Philippine BPO services.

Cut the Beef
Even though we know that Cong. Bishop’s proposed law will not have much of an effect on Philippine call center services, the Philippines should still express its concern at what is a protectionist act aimed directly at a key Philippine export.  If we do nothing, there could later be other laws that will be more effective.

The Philippines should tell the US that it will consider possible responses to this hostile act, in terms of restricting the entry of some US products to the Philippines in the name of protecting Philippine jobs. Preferably, these would be US service exports of an equivalent value – perhaps something like insurance, advertising or consulting services. We should also consider imposing extra levies on imports such as beef or chicken, or orange juice.

Philippine political leaders are known to be timid in relations with the US, and may not see such moves as ‘proper’. The public should make it clear to the politicians and technocrats in government that such ‘proper’ behavior does not serve the Philippines’ interest. The Philippines should flex its muscles whenever Philippine interests are in possible jeopardy. Otherwise, the US would simply trample on our interests at will.

Mobilizing OF Savings for Development

Overseas Filipinos (OFs) remitted a total of $18.8 B in 2010. Most of this money went to family expenses e.g. food, education, health care and housing. The question that gets often asked is: how can we utilize OF remittances for Philippine economic development?
Remittances are already being utilized, in two different ways:

OF Bonds
The Philippine government issues OFW Bonds that are supposed to siphon some part of OF remittances to help the overall national budget. These have relatively higher yields than ordinary government bonds. But the vast majority of those who buy these bonds are not OFs, but Philippine-based Filipinos.

Most OFs would not find OFW Bonds attractive. While the interest rate may be high in pesos; keeping their money in bank accounts abroad, or invested in foreign stocks could be more lucrative, especially when you consider that foreign currencies appreciate relative to the peso. Besides, there are also fears about their liquidity (or, how easily will it be to sell those OFW Bonds?).

Micro-businesses
OFs also set up micro-businesses e.g. tricycle, jeepney, taxi or sari-sari store. These are invariably run by their relatives.

There are often problems with relatives who manage these micro-businesses. They are not run in a business-like manner – vehicles are not properly maintained, they are used for personal purposes, funds are not set aside for buying replacement vehicles. So, the OF has to ‘invest’ again in a few years, or even regularly spend for maintenance.

These micro businesses are effectively given to relatives. They are not owned by the OFs. This OF ‘investment’ is thus limited to what they can afford to lose, to give away. The OF will keep their own savings (for their retirement, etc) safely in their host countries.

Ownership and Scale
The problem with either approach is that the OF does not have ‘ownership’ of their investment. In the first kind (OFW Bonds), the government can spend the money on anything it likes to; in the second kind (microbusiness), the OF cedes control to relatives. Thus, these investments do not really ‘feel’ as if the OF is saving for their future or for retirement. There is also the matter of mismanagement of funds by the government or by the relatives.

Ownership would mean that the OF has continuous control over the investment, and can even withdraw it when he/she decides to. He/she should have the freedom to get the best people to manage his investment, and to determine what happens with the money or any other benefit generated by it.  With continuous control, the OF would then be said to ‘own’ it.  The investment should also literally be in their name. When this is possible, more OFs could be convinced to invest their hard-earned savings in the Philippines.

Then there is the question of scale. An OF’s personal savings is usually limited, and it can only fund micro enterprises. In order to fund bigger businesses (small to medium sized) e.g. poultry, rice mill, grocery store, small factory, there need to be mechanisms by which OFs could bundle their savings.

Channels for OF Investments
There are a number of possible arrangements where the requirements of ownership and scale are fulfilled (in various ways and extents) and the OF can use them in investing in Philippine development. So far, though, none of these have really been developed.

Savings in Rural Banks. The rural bank can serve as an intermediary for OF savings for investment. The OF saves money there, and by agreement, the rural bank extends loans to the micro or small business of his relative. This way, the relative is forced to run his business properly, since he will be under the supervision of the rural bank.

‘Diaspora’ Funds. In this case, the OF saves his money in a Diaspora Fund (DF) based outside the Philippines. The DF extends loans to enterprises in the migrants’ home countries.

Mutual Funds. The OF could also invest in Philippine-based mutual funds that invest in Small and Medium sized Enterprises (SMEs). These mutual funds select SMEs that they invest in, choosing those that are well run and which just need a bit more money in order to expand.

The mutual fund could also specialize in investing money in ‘large’ corporations. It will then be a kind of portfolio investment fund in Philippine large cap stocks.

The OF only has a decision of being ‘in’ or ‘out’. Management decisions are made by the mutual fund’s managers.

Investment Fund Run by a Corporation or Cooperative. Some Philippine corporations (small or medium) could set up Special Funds, in which OFs can participate. The Special Fund will be put to a specific use, and profits distributed to participants regularly.

Shares of Corporation. OFs could also directly buy shares in a Philippine-based corporation, and exercise all the ‘powers’ of doing so. There could possibly be problems though regarding the nationality or residency requirements of those corporations.

It is the challenge that faces governments, NGOs and enterprises in the Philippines in the next few years to develop these, and perhaps more, forms to utilize the savings of OFs for economic development projects that go beyond the scale of a single family.