Beware of Another Oil Shock

Earthquakes, bank runs, riots and choppy markets.  What a week!

With the messy situation in the Middle East, more market participants are expecting sharply higher oil prices in the near term.  The latest people to put out a bullish forecast for oil is Nomura.  As reported by the UK Telegraph, Nomura has stated that should Algeria's production be shut down together with Libya's, then oil prices could hit US$220 per barrel.

To me, if oil were to hit that level, it would be a quick spike up that would kill the global economy.  I doubt it will be a slow climb because if the world economy could not withstand a price of US$147 per barrel back in 2008, it will definitely not be able to withstand that price today given that it is in a far weaker shape today, let alone US$220.

That said, what was more interesting in the Telegraph report was the following quote:

Jeremy Leggett, a leader of the UK industry task force on peak oil and energy security, said the Mid-East crisis "shows the extreme fragility of the global system. People don't realise how close we are to a potential precipice if this unrest reaches critical mass in enough OPEC countries. Governments need to draw up emergency plans and get cracking on proactive measures while we still have time," he said.

While some Singaporeans rightly fear the spectre of a worsening inflationary situation, there could be worse to come.  At the community, family and individual levels, we need to think of ways to deal with these challenges with minimal reliance on the government.  This is not the time to complain about the inadequacy of the budget handouts, nor boast about the popularity of your political website vis-a-vis the PAP, nor fight amongst yourselves to see who gets to be the boss.  And no, the real danger to the country is not when the PAP implodes, as some  have suggested.  There are far bigger storms out there.

Thoughts on Tan Jee Say's Economic Regeneration Ideas

I have just read the 3-part summary of Tan Jee Say's paper "Creating Jobs and Enterprise in a new Singapore economy – Ideas for Change" as presented by The Online Citizen. There is much that I can agree with in the paper, especially with regard to the deleterious effects of the casinos, the need to consider a minimum wage as well as the errors of 'trickle-down' economics. Without addressing his ideas on a point-by-point basis, I'd like to a different perspective on some of those ideas, as well as to point what where I think his ideas are fundamentally flawed.

Manufacturing vs. Services

My first disagreement is his claim that the increased volatility in Singapore's economic output has its cause in the manufacturing sector. While evidence from big economies such as the US have suggested that a service economy does have lower volatility, we have to remember that the US has a internal market, and that it has 'bought' that lower volatility at the very high cost of structural budget and trade deficits.

From an Austrian School perspective, I would argue that the increased volatility in recent years is actually due to the more volatile global aggregate demand situation, driven as it were in by the persistent money printing of the advanced economies, leading to multiple asset bubbles and ever-greater misallocation of capital.

As for moving out of manufacturing and becoming more service-oriented economy, I am not quite convinced that this is the way to go if raising productivity is a prime concern. From my business experience, the empirical evidence for the rate of diffusion of technical innovations in the domestic services industry is very low. Apart from MNCs and GLCs who have deep pockets to invest in process improvement technologies, local companies are very reluctant to undertake such enhancements, even with the plethora of government subsidies and incentives that are currently available. Apart from the availability of cheap foreign labour, there appears to be some structural rigidities in the domestic economy which allows many inefficient companies to continue to operate free from the forces of 'creative destruction', which I have yet to figure out.

Besides this, if we use the example of the United Kingdom, we see that if we remove the world-class City of London, the so-called knowledge economy there is arguably non-existent. Given that none of the service sectors identified in the paper are areas were Singapore is already world-class, how confident are we that the move to a service-based economy will not result in structural deficits or persistent low-productivity? Would Germany, Japan or South Korea be a better model for us?

Family Regeneration

Given that the paper used a moral argument against the casinos, I was somewhat disappointed that it stated that the root causes of our low fertility lie in the stresses and high cost of having children. As I have argued elsewhere, this problem is not amenable to economic solutions, since it has to do with the fundamental issue of an individual's worldview and moral compass. Given the self-centred, materialistic ethos that pervade mainstream Singaporean society, we ought not be surprised that having children is not considered a priority amongst many married couples. Furthermore, I would also argue that the fundamental existential insecurity arising from Singapore's small size and geographical location have also contributed to our unwillingness to reproduce, unless that is countered by strong religious beliefs. As such, unless the problem is addressed from a worldview perspective, all measures will ultimately be ineffectual.

Fundamental Problem

The fundamental problem with the model proposed in the paper is that it appears to assume a global macro environment that is a mere extrapolation of the one that has been extant in the past 40 years, which had provided the stability and economic structure for Singapore to grow rapidly. This can be seen in the strategy of making Singapore into a service hub, which assumes that this region is prosperous and stable enough to want to use our services. It fails to account for the possibility of unfriendly competition from neighouring countries, as had happened, for example, during Mahathir's reign in Malaysia, where he adopted many policies aimed at weakening Singapore's competitive advantage. Furthermore, with the inevitable need of the US and other advanced countries to repair their national balance sheets, the free-trade regime that we have operated under may no longer exists, as newer rising powers such as India and China are more inclined towards a statist model of capitalism. Under such a scenario, the free-trade assumptions underlying the strategies will not be valid. Whither then our sources of growth?

Lastly, the paper also does not account for the possible threat of resource and energy scarcity, which can lead to geopolitical instability in the region, and a weakening of Singapore's position relative to the resource-rich countries around us. This, in my view, may well be THE defining issue for Singapore in the coming decade.

Notes: A follow-up article on this topic can be found here.

Thoughts on the Budget

Having listened to the Budget Speech in its entirety over the radio yesterday, I came away with the feeling that there was very little new thinking in it, apart from what I believe is a structural shift towards greater welfare spending, the latter being an acknowledgement of the inevitable reality of our aging population, the magnitude of which most Singaporeans seem to have yet to grasp.  The government appears to be giving what the people wants - more welfare.

While there were targeted measures to help the poorer segments of the population cope with inflation, nothing was done to address the fundamental causes such as the rapid growth in M3, reliance on real estate speculation to create the illusion of wealth and the impact of such speculation on rentals and other overhead costs for businesses.  Furthermore, I could not find anything in the Budget that was aimed at preparing the country for the energy transition that will be coming our way within the coming decade.  But on this point, I am less disappointed since the awareness of an energy crisis is not mainstream.

SDP's so-called Shadow Budget

Notwithstanding the above, I also found the SDP's attempt at gaining credibility rather amusing.  Based on what I saw on my Facebook news feed, SDP supporters were busy hailing its budget proposal as a breakthrough in thinking.  There were even claims that it must have caused considerable distress to and panic in the PAP government.  So I went to the SDP website to have a look, and came away thinking that SDP supporters must have been drinking too much of their own Kool-Aid, just as they have accused government supporters of the same.

The idea that “[o]ur re-prioritized spending is to benefit the people rather than the PAP” is nothing more than the stale idea of welfarism that has been practised in the West for the past 60 years.  There was absolutely nothing original in the SDP's shadow budget.

As much as the SDP harps on about the tyranny of the PAP government and how it will offer freedom, the fact that it has proposed a budget similar in size to the government's last budget show that the party has no understanding of the concept of freedom, since it feels that the need to maintain the power to allocate the people's wealth as it feels fit.

The idea of bio-fuels as an alternative industry shows that the SDP's energy literacy is very low.  If it had done a simple search on websites like theoildrum.com, it would have discovered that bio-fuels is a total waste of time.

Furthermore, its proposal to cut defence spending shows that its geopolitical sense is very poor, unable to see beyond the pleasant rhetoric of the diplomatic pronouncements of countries in our neighbourhood to discover all the undercurrents in foreign relations.

Paying you with your own money

The other irony in all these is that while the critics of the PAP government accuse it of using an 'election budget' to buy votes, opposition parties such as the SDP are basically doing the same thing with their emphasis on greater social welfare spending.  They should perhaps read 'The Law' by Frederic Bastiat to see the beam in their own eyes, rather than harping on the speck in the PAP's.

If you are interested in learning how politicians of all stripes strive to bribe you with your own money, I'd suggest reading this article: The Sad Road to Socialism.

Beware of politicians bearing gifts, especially dumb ones.  Otherwise, regardless of how much reserves we have, we will be voting ourselves into national bankruptcy in our love for welfare handouts.

The Fight Against Inflation

The latest news in the fight against inflation comes from China raising bank reserve ratio requirements yet again, the second time in 2 months.  Here in Singapore, we see the FY2011 Budget offering some help to low-income households to counter the effects of inflation.

Yet, nothing fundamental has been addressed by such measures.  Both in China and in Singapore, as is the case in most other countries, real interest rates are still negative.  And as long as real rates are negative, inflation will continue to ravage the poor as investors pile into hard assets in a bid to preserve their purchasing power while speculators add fuel to the fire by going along with the ride.

On the other hand, raising rates aggressively will kill the speculative bubbles in real estate in both countries, causing a lot of pain.  So policy makers in both countries are in a difficult position, although I would argue that it is better to pop a bubble sooner rather than later, because the consequences of delayed action will mean a much bigger clean-up cost down the road.  Politically, China is unlikely to act aggressively to tame inflation (unless there is social unrest), as I suspect Hu Jintao will want to pass the hot potato to Xi Jinping next year.  I don't know what the PAP government here is thinking.

With this reality in mind, it is important for us to look carefully at different ways to hedge against inflation.  As I have previously mentioned, one way to hedge is to store food by buying extra quantities when supermarkets have mark-downs for items that one consumes regularly.  If the price of a food item is growing at an annual rate of say 5%, this means that buying that item on the cheap will yield a 'return' of 5%.  How many investments are there that have such yields?

As for other investments, I shall refrain from commenting at this point in time because I feel that the markets are currently at a critical juncture and are sending out very confusing signals.  Given the divergences in the markets, it takes only 1 negative event to spark sharp sell-off.  As such, caution is advised.

On the Egyptian Situation

Based on the headlines that I have seen on my Facebook news feed, posted by politically liberal people on my friends list, the mainstream media appears to be making the demonstrations against President Mubarak as a struggle for freedom against dictatorship and tyranny.  Yet, as with all things regarding the Middle East, it's never as simple as the liberal press would like to us to believe.  Lurking behind the scenes could well be forces that are advancing a dialectical process that progressives in the press are so familiar with, a process that they have deceptively coat with a veneer of morality (good vs evil) in order to hide the truth.

For those who think that Mubarak is a hideous dictator oppressing a freedom-loving people, one may want to consider the following passage from this source:

Nine out of ten Egyptian women suffer genital mutilation. US President Barack Obama said Jan. 29, “The right to peaceful assembly and association, the right to free speech, and the ability to determine their own destiny … are human rights. And the United States will stand up for them everywhere.” Does Obama think that genital mutilation is a human rights violation? To expect Egypt to leap from the intimate violence of traditional society to the full rights of a modern democracy seems whimsical.

In fact, the vast majority of Egyptians has practiced civil disobedience against the Mubarak regime for years. The Mubarak government announced a “complete” ban on genital mutilation in 2007, the second time it has done so - without success, for the Egyptian population ignored the enlightened pronouncements of its government. Do Western liberals cheer at this quiet revolt against Mubarak’s authority? 

[...] In the most fundamental matters, President and Mrs Mubarak are incomparably more enlightened than the Egyptian public. Three-quarters of acts of genital mutilation in Egypt are executed by physicians.

What does that say about the character of the country’s middle class?

And while the mainstream media has portrayed the demonstrations as a manifestation of the people's frustrations with many issues including rising food prices, it's not hard to observe that the poor people who are really hurt by such things are not the ones demonstrating, but rather the educated middle-class people.  So again one has to ask whether there are forces behind the scenes trying to manipulate the situation to their advantage.  This perspective was considered by the private intelligence service STRATFOR.

In one of their Intelligence Guidance notes, the following was written:

What we have to find out is who is behind this. It could be the military wanting to stage a coup to keep Gamal Mubarak out of power. They would be doing this to preserve the regime, not to overthrow it. They could be using the demonstrations to push their demands and perhaps pressure Hosni Mubarak to leave voluntarily.

The danger is that they would be playing with fire. The demonstrations open the door for the Muslim Brotherhood, which is stronger than others may believe. They might keep the demonstrations going after Hosni leaves, and radicalize the streets to force regime change. It could also be the Muslim Brotherhood organizing quietly. Whoever it is, they are lying low, trying to make themselves look weaker than they are — while letting the liberals undermine the regime, generate anti-Mubarak feeling in the West, and pave the way for whatever it is they are planning.

I don't have any particular views about the situation in Egypt.  Just like the folks at STRATFOR, I am more interested in finding out whether there are larger forces lurking behind the scenes that may have more global impact.

SGD Exchange Rate and Inflation

On 1 Feb, the Standard Chartered Bank's Global Research team published a report on inflation entitled Inflation: illusionary, imflammatory.  On page 4 of the report was a table (Table 1) showing CPI inflation data of various countries in Asia.  Part of that table is reproduced below:

	2008 High	Headline	Core	Non-Core	Food/Energy Weight
China	8.7	4.6	2.6	8.3	0.44
Hong Kong	6.3	3.1	1.9	5.3	0.29
Singapore	7.5	4.6	2.1	10.0	0.41

From the above data, we can see that despite its hard USD peg which does not allow its currency to gradually appreciate in order to slow down imported price pressures, Hong Kong has achieved the lowest rates of inflation.

Looking at the Non-Core portion of the inflation data, which includes food and energy prices, the difference between Hong Kong and Singapore is even more remarkable.  Both territories import almost all of their food and energy, so in theory, an appreciating currency ought to ameliorate some of the effects of higher import prices.  Hong Kong imports most of its food from China, whose currency has actually appreciated relative to the USD and HKD, which adds to the cost pressures in the former.  And yet, it has a lower food/energy inflation rate than Singapore.

So unfortunately for us here in Singapore, the much steeper appreciation of the SGD does not appear to have helped as far as food inflation is concerned.

(As an aside, since the trade-weighted index used by the MAS is not public information, I chose to use the USD exchange rate as what I believe to be a reasonable proxy for the strength of the SGD, given that a very significant part of our trade appears to be denominated in USD.)

So it leads me to wonder whether there are domestic factors that have acted to negate the positive impact of an appreciating SGD on the inflation rate.  I have no answers, but it's something to think about, isn't it?

Video: US Fed QE and Food Inflation

A short but comprehensive explanation by Bill Fleckenstein on how the reckless money printing by the US Federal Reserve is causing food inflation and hurting the poorest people in the world.

Visit msnbc.com for breaking news, world news, and news about the economy

Future Growth Amidst Resource Scarcity

It appears to be axiomatic amongst our policy makers that the future of Singapore depends on raising the productivity and knowledge intensity of our economic activities. While this strategy is undoubtedly important insofar as it helps to reduce our dependence on foreign labour, as someone who subscribes to the global resource scarcity thesis, I sometimes wonder how far we can go as a country given the fact that we have little control over the most fundamental aspects of all human economic survival - food, energy and water. (As an aside, our ability to produce Newater has merely transformed our water problem into an energy problem, since Newater production is energy-intensive.)

Two days ago, I came across an analysis by John Taylor, Chief Investment Officer of FX Concepts, a forex research company. He argued that with the Internet and the proliferation of knowledge, it has become less scarce a commodity:

Countries that control more of the factors of production will be dominant. Today, the tables seem to be turning on the West. As education has become almost universal, knowledge, intellectual expertise, and competent labor have become less expensive and less valuable as a result.
[...]
Because the playing field has become level for the first time in history, we would argue that, at this time in history, the battle has shifted to raw materials. If we assume that today's critical resources are gas, oil, agricultural output, and rare earths, Europe is totally out in the cold and the US is supported only by its strength in food production. Although commodities have played a diminishing role in economic history and, thanks to scientific advances, should continue this long-term trend, the scramble for scarce resources should impact economic cycles and growth in the decades ahead.

Given that knowledge is intangible and it's production is not directly constrained by the physical reality of limited resources, his argument certainly has some merit, in my view. And if he is correct in his assessment, there will be very important and serious implications for Singapore's economic future. This is an issue which neither the government nor the opposition parties has addressed publicly.

Food for thought as we savour Chinese New Year delicacies.

Earth to Bernanke

With many Americans concerned about the rising costs of food and other necessities, Bernanke's latest speech at the National Press Club indicated that he doesn't think inflation is a serious problem in the US. I wonder if he lives on another planet.

In any event, his stance on inflation produced an immediate reaction in the commodities market, as we can see from the 5-min gold futures chart below:

As mentioned previously, I was too risk-averse to make long bets on commodities at this stage, and Bernanke proved me wrong. The rough rice futures contract moved higher again and it was a mistake on my part not to have taken a position.

Food Crisis 2011 - Will Politics Trump Markets?

While we in Singapore complain about the high price of barbeque pork slices, a favourite Chinese New Year food, high food prices have had far less sanguine effects on the poorer parts of the world, as we have seen from the political turmoil in Tunisia, Egypt and the rest of that region of the world. Wheat prices have hit a 30-month high and have doubled since a low in mid-2010, and this has obviously had a negative impact on Egypt, who has to import around half of its annual consumption.

With developing countries close to screaming in pain from the inflation exported by the United States through Bernanke's disastrous quantitative easing policy, I have to wonder how much more food prices have to go up before Hillary Clinton tells Bernanke and the President's Working Group on Financial Markets (the so-called 'Plunge Protection Team') to step in and cool things down.

As an aside, I tend to think that Obama is a mere teleprompter-reading puppet who has neither the intelligence nor experience to deal with such complex issues, and that Mrs. Clinton is the real brains behind such matters. Being a Marxist agitator ('community organiser') in the Saul Alinsky tradition in Chicago is not a real job.

Such an intervention in the commodities market is not without precedent. It had happened before in 2008 during what Donald Coxe, chairman of Coxe Advisors LLC, called the 'Saturday Night Massacre', where it was thought that the US government, working through its Wall Street connections, hammered down commodity prices through the futures market. The only difference between now and 2008 was that the US political class had a vested interest in having commodity prices down due to the then-impending Presidential Elections. As for the present situation, I would argue that being the sole (albeit declining) superpower in the world, the US has a vested interest in trying to keep things under control, especially when it comes to the Middle East, where it is engaged in protracted wars in Iraq and Afghanistan that it has no hope of winning. Allowing things to further deteriorate will definitely have a negative impact on the global economy, on the stability of the Middle East and possibly on the supply and price of oil.

Be that as it may, looking at the various charts of agricultural commodities, rice has just broke its sideways pattern to move up to a 27-month high while wheat and corn may still have further upside. That said, I am wary of getting into long positions, as my sense of the consensus view is that too many people think prices will keep going up due to supply challenges underpinning the fundamental picture of food commodities. The fundamentals are correct, but with the CCI breaking record after record on the upside, I am just worried that the opinions are too one-sided and that there is a speculative frenzy feedback loop fed by the ongoing social unrest. Since I am somewhat a kiasu person, I am most likely going to sit out this episode of price movements.

And given that rice prices have start to move, we need to be on a lookout for protests and social unrest in those parts of the world where rice is the major staple food. So far, our region has been spared unrest, but don't count on that to continue if rice prices start to move aggressively up like wheat and corn.

In the meantime, I'll be thankful for the abundant food available here in Singapore and enjoy my Chinese New Year.

Singaporeans Are Whiners

I didn't know whether to laugh or cry (啼笑皆非) when I saw the following post on REACH Singapore's Facebook page:

Suggestion to school to review their policy to adopt to recent climate changes.

Today I witness outside the primary school:
1. student perform duty in walkway, was caught in rain.
2. students stay in HDB block to wait for rain stop and go to school late.
3. security at school gate leave on dot and those late had to walk to school drive in gate under rain.
4. security not able to react fast enough to open gates when the rain pour suddenly.
5. thunder voice hear from school gate when rain pour suddenly.

I believe the parents need support from the school too and wish to suggests:
1. find out the way to limit the expose to rain when students on duty.
2. take consideration of recent climate changes and have the security stay in duty long enough to takecare those might be late.
3. open the gate when the sky turn dark, so that parents can send their kids to school without get caught in rain.

Going to the extent of asking the government to protect people from inclement weather really takes the cake. I was very much tempted to reply to the author that perhaps we ought to ensure that the SAF issue our kids with umbrellas when they enlist, so that they won't get wet during field exercises.

Freedom and asking for protection from the Nanny State are fundamentally incompatible political arrangements. Unfortunately, many Singaporeans who demand more freedom from the PAP government's control in the same breath will ask that same government to help fix their problems. This is not political maturity - it's more like a bunch of spoilt kids throwing tantrums when things don't go their way.

These are days when preparedness advocates like me feel that we are spitting into a tornado.

A More Expensive Cup of Coffee

Some people have been complaining about the increase in prices at Starbucks and other coffee-shops. As far as coffee is concerned, here's the reason why these establishments have to raise prices:

 Prices have doubled over the past 18 months thanks in no small part to Mr. Bernanke's reckless money printing.

The Road to Madness is Paved with $100 Bills