Juggling Dynamite

Billowing risks in the global financial system are front and center once more as the world economy turns down and banks remain under-capitilized and recklessly levered. Same players, same factors, same crisis, redux.   In the UK at least, some are pointing to “Brexit” as a scapegoat.  In fact these macro conditions have been building to a breaking point over the past many years.  See UK heading for financial crisis on grander scale than 2008, with ‘Bank of England asleep at the wheel’, new study:

The Bank of England’s annual stress tests of the UK’s banks, designed to ensure Britain’s lenders will not be at the heart of another destructive financial crisis, have been branded “worse than useless”, by a new report.

Kevin Dowd, professor of finance and economics at Durham University, argues in a paper published today by the Adam Smith Institute that the Bank’s tests, which model various adverse economic scenarios each year such as a major fall in UK house prices or a Chinese property crash, have a series of “fatal flaws” and that the central bank is “asleep at the wheel”.

“The purpose of the stress-testing programme should be to highlight the vulnerability of our banking system and the need to rebuild it. Instead, it has achieved the exact opposite, portraying a weak banking system as strong”.

Professor Dowd warns that the eurozone banking system is on the precipice of another crisis, which will also engulf the UK’s major lenders.

“Once contagion spreads from Italy to Germany and then to the UK, we will have a new banking crisis but on a much grander scale than 2007-08” he said.

US real GDP growth in the first six months of 2016 averaged just 1% annualized and inflation (CPI) was up only 1.1% from a year ago, nowhere near the 2% that the Federal Reserve targets.  The peak of economic expansion is now well behind us for this cycle with the rate of growth slowing since 2014.  At the same time, markets entered this downturn at some of the highest asset valuations in history.

This is a toxic combination for invested capital.  This chart courtesy of Doug Short, reminds of stock market outcomes (market price declines) that have followed GDP downturns since 1929.   Each time that equity valuations have entered the downturn more than 20% above their mean, market prices have returned -36 to -89% from peak to trough.  Today 76% above the mean, equity valuations are worse than the peak of 1929 and second only to the all time fleeting 2001 tech top.  Sober days lie ahead for those unaware, or in denial.

Big thanks to JAZZ FM 91.1 for a fantastic safari through Niagara wine country yesterday with Jaymz Bee and so many incredible musicians.   ‘Social music’ indeed.  Cory and I had so much fun.

A truly one of a kind, listener supported station that does so much to promote Jazz education and music worldwide.  Most on air hosts are accomplished musicians themselves, so the depth of discourse is always enriching.  All based out of little Toronto.

Grateful listeners and supporters for more than 20 years.  Time flies when you are listening to jazz.  You can tune in anywhere in the world on line here.

A new report by the International Monetary Fund’s (IMF) Independent Evaluation Office (IEO) offers a scathing review of an organization dominated by political bias and classic human errors of wilful blindness, cognitive dissonance, complacency and “superficial and mechanistic” analysis , where top staff ignored signs of looming crisis, misled their own board and became euphoric cheerleaders for the euro project led by Germany and the finance sector at the expense of countries like Greece .  Unrealistic terms, missing documents, others prepared outside established channels.  This, dear readers, is a veritable shit show.

The Telegraph’s Ambrose Pritchard-Evans offers an excellent overview:  IMF admits disastrous love affair with the Euro and apologizes for immolation of Greece:

The report said the whole approach to the eurozone was characterised by “groupthink” and intellectual capture. They had no fall-back plans on how to tackle a systemic crisis in the eurozone – or how to deal with the politics of a multinational currency union – because they had ruled out any possibility that it could happen.

“Before the launch of the euro, the IMF’s public statements tended to emphasise the advantages of the common currency,” it said. Some staff members warned that the design of the euro was fundamentally flawed but they were overruled.

“After a heated internal debate, the view supportive of what was perceived to be Europe’s political project ultimately prevailed,” it said.

This pro-EMU bias continued to corrupt their thinking for years. “The IMF remained upbeat about the soundness of the European banking system and the quality of banking supervision in euro-area countries until after the start of the global financial crisis in mid-2007. This lapse was largely due to the IMF’s readiness to take the reassurances of national and euro area authorities at face value,” it said.

Meanwhile former Greek Finance Minister Yanis Varoufakis, who stepped down complaining that the status quo was not interested in realistic negotiations or restructuring, is today rightly calling for the resignation of IMF European Department head Poul Thomsen, who was in charge of terms demanded of Greece and Portugal.

Time to demand the immediate firing of Poul Thomsen. No ifs. No buts. Exit stage left. https://t.co/SftT4j2oWm

— Yanis Varoufakis (@yanisvaroufakis) July 28, 2016