Juggling Dynamite

Here are just a couple of reasons we believe that the recent spike in the C$ is temporary and our current expectation is for C$ reversion to levels between 91-85 area.

Worldwide austerity due to over consumed debt-laden countries will and has created a dearth of spending that China can ill-replace.

Canada’s outlook like many other nations is pegged to the hopes that China will pickup the slack for the gap left by slower global consumption rates as China itself attempts to slow its own economy. See:  Canada Inflation unexpectedly eases Also: Caterpillar (note second to last para)

Global growth is decelerating  from the short-term effects of QE’s and bailouts to reveal the true glide path of money velocity (real global GDP). When all the re-adjustments and reality set in and private investors are forced to take a hit (Greek Sovereign debt is a good start), then we will get true price discovery. See: German Business Morale

The market is slowly coming to grips with the idea that we are in a deflationary cycle that is the other side of the over-consumption credit bubble that pulled in huge amounts of marginal buyers.

Central banker’s have always tried to alter the business cycle, but alas they cannot. The sugar always wears off and the after-effects are undeniable.

US Republican politicians continue to assert that the American people will not accept an increase in taxes to help pay down the national debt. They are spreading this maneur to protect a select few. Repeated polls attest no evidence of this assertion. There is little disagreement that the American government is much too big and that its maintenance places undue burden on the private sector. But the fact is that most Americans who have been polled express an understanding that the path back to fiscal health is multi-faceted: government downsizing, military budget cuts, an end to financial bail-outs, entitlement reforms, an expiration of the Bush tax cuts, higher taxes on consumption and a removal of non-productive tax loop holes.

See People Support Higher Taxes to Reduce the Deficit by a 2-to-1 Margin:

Over the past 20 years I have done financial counselling for hundreds of families including my own. Key elements of every plan for a better future include paying down debt, increasing savings and controlling spending. It’s just common sense.

Risk appetite is back “roarin’ for a priest” today on fresh hopes of European miracles.  Here’s the Wall Street Journal:

“European stocks soared and the euro advanced strongly as European leaders edged closer to a fresh financing package for Greece and contain possible effects in other debt-laden members of the bloc of euro-using nations.”

We have seen these euphoric episodes repeatedly over the past year, only to prove a fleeting preface to the next phase of market decline. Today the word is that the German and French leaders are cobbling together an agreement that would allow the European Financial Stability Facility (EFSF) to be used as a TARP like patch able to lend money to troubled governments, recapitalize troubled banks and buy sovereign debt on the bond market. The ECB also has indicated that they may now reverse their long standing (very rational) rule of not accepting defaulted paper as collateral for loans. This latest mad plan would allow Greek’s junk paper to be tendered as respectable collateral and thereby extend and pretend the Greek banking system a little while longer. This is a farcical patch and everyone knows it. Risk traders are buying the news all the same.

For those of us who have learned to be skeptical of prestidigitization, math cannot be ignored. The successive bailouts and QE’s have worked to bring negative economic growth trends back to about zero over the past couple of years. However this has distracted many from the reality about where future growth prospects actually sit today, even assuming the patches are passed.

The European debt crisis started out in a periphery (Ireland, Greece and Portugal) which represents 5-6% of Eurozone GDP. Having now highlighted the over-indebtedness and remaining property bubbles in Spain and Italy too, the debt crisis now affects countries that together comprise more than 35% of European GDP. Even assuming the best of scenarios where the bailout patch is successful in stabilizing the Eurozone from here, Spain and Italy are forecast to grow at less than 1% annually for the next 5 years. Greece and Portugal will continue to labour in years of deep recession and brutal unemployment as far as the eyes can see. Even miraculous Germany is projected to grow at just 2% GDP for the next couple of years.

On the back of unprecedented fiscal and monetary stimulus US GDP has managed to limp by on less than 2% growth for the first two quarters of 2011. Japan is still in its post-quake recession. The UK is on life support. China is struggling to resolve its own problems with a banking system brimming in bad loans and a manufacturing index which contracted below 50 to 48.9 in July.

Ok don’t worry be happy, Canada and Switzerland have relatively less government debt. Too bad they can’t self-fund their economies without healthy trading partners, but alas both are heavily dependent on exports for growth.

Nevertheless both currencies are this week soaring, with the Canadian dollar now 5 cents above par and some 10% above fair value.  See chart courtesy of Cory Venable.

This was the Bank of Canada in its monetary policy report released yesterday:

“Net exports remain weak, reflecting modest US demand and ongoing competitiveness challenges, particularly the persistent strength of the Canadian dollar…the bank expects [hopes!] growth in Canada to re-accelerate in the second half of 2011…The Bank’s projection assumes that authorities are able to contain the ongoing European sovereign debt crisis, although there are clear risks around this outcome.”

If only monkeys could fly. Facts will eventually demand respect. They always do in the end. The OECD leading economic indicator is now below zero (-.2%). It followed this same year over year decline in October 2007 as the recession was beginning and the stock market was slipping into its last 50% decline. The Wizard is a wizzled little man hiding behind a curtain on a stool. I wish it were otherwise. Practical people must govern their risk accordingly.