Thursday, April 14, 2011

Google 1Q earnings miss analysts' target

By MICHAEL LIEDTKE

Google's first-quarter earnings came in below analyst projections as the Internet search leader sped up hiring and increased spending other areas to drive up its expenses.

The results released Thursday may heighten investor fears that Google's earnings might suffer because of the company's commitment to hire at least 6,200 workers this year. That would be the most in Google's 13-year history.

Google co-founder Larry Page, who replaced Eric Schmidt as CEO after the quarter ended, has indicated he plans to keep investing in long-term opportunities that may take years to pay off, even if that crimps the company's short-term results.

Page, known for his aloofness, made a few tame remarks on Google's earnings conference call Thursday before turning the presentation over to the company's chief financial officer, Patrick Pichette, who has been steering the presentations for the past year.

"I'm very excited about Google and our momentum, and I'm very, very optimistic about our future," Page said. He also assured that the management transition that Google announced three month ago is unfolding as the company envisioned, with Page overseeing day-to-day operations while Schmidt handles government relations and stalks possible acquisition targets in his new role as executive chairman.

Google shares shed $27.74, or nearly 5 percent, to $550.77 in extended trading. The stock closed the regular session at $578.51, up $2.23.

The company earned $2.3 billion, or $7.04 per share, in the period ending in March. That was an 18 percent increase from nearly $2 billion, or $6.06 per share, last year.

If not for the cost of employee stock rewards, Google said it would have earned $8.08 per share. That was below the average estimate of $8.11 per share among analysts surveyed by FactSet.

Revenue was nearly $8.6 billion, a 27 percent increase from last year.

After subtracting the commissions paid to ad partners, Google's revenue stood at $6.54 billion. That figure topped the average analyst estimate of $6.33 billion, according to FactSet.

Expenses grew faster than revenue. The company added 1,916 employees to end March with more than 26,300 workers. More than half of the new staff is working on products and services to supplement the search advertising network that makes most of Google's money. The new growth opportunities include video ads on Google's YouTube site, ads on smartphones, and more banner advertising.

A 10 percent raise that Google gave all its employees at the beginning of the year contributed to rising costs.
Google also spent $890 million on data centers and other capital projects in the quarter, more than triple the $239 million it spent in the same period last year.

Crude Oil Set to Break $150 by Mid Summer


Jason Simpkins writes: Money Morning predicted in its 2011 Outlook series that oil prices would see $100 a barrel by summer. And that's proven to be true - but not entirely for the reasons we discussed.
In addition to the increased demand we talked about in January, violence in the Middle East and North Africa (MENA) has driven oil prices into the stratosphere. The price of light, sweet crude climbed above $112 a barrel last week, up more than 22% from where it started the year.

A recent pullback has driven prices back down to about $107 a barrel, but don't be fooled. Strong demand in emerging markets, a weak dollar, political turmoil in the MENA region, and a strong speculative sentiment will continue to push oil prices higher.

In fact, oil prices could reach $150 a barrel by midsummer and $200 a barrel by the end of the year.
"I believe we will reach $150 a barrel by midsummer," Money Morning Contributing Writer and Editor of the Oil & Energy Investor Dr. Kent Moors said in an interview. "Dollar weakness is a factor,as is rising demand from non-OECD [Organization for Economic Cooperation and Development]countries. Other factors include supplyconcerns, quality of crude extracted, reserve replenishment, level of stockpilesand the occasional saber rattling."

What to Make of the MENA Region
The so-called "Jasmine Revolution" taking place throughout the Middle East and North Africa more than anything else has affected the price of oil. 

In February, Egypt's revolution gave oil prices the impetus to breach the $100 a barrel level for the first time since 2008. Soon thereafter Libya descended into civil war, adding further momentum to the oil market.
Egypt's conflict was in large part resolved by the resignation of President Hosni Mubarak, but Colonel Moammar Gadhafi remains in power in Libya. 

NATO allies have assisted the Libyan rebels by enforcing a United Nations-sanctioned no-fly zone, but have stopped short of ousting Gadhafi from power. What will happen next is far from certain. 

If the situation is quickly resolved, oil prices could fall as the cloak of uncertainty is lifted from the market and production resumes. But if the conflict drags out - or the Jasmine Revolution continues to spread through countries such as Yemen - oil prices could remain at elevated levels, and perhaps even top their record highs by midsummer. 

More bearish analysts say that speculators have gotten carried away by the regional unrest and that higher oil prices will dent demand, leading to a price decline. 

"We have a hedge-fund community, a Wall Street community that is way over-extended on their bets on rising oil prices," Stephen Schork, president of the Schork Group Inc. and author of the Schork Report told Bloomberg News. "Speculators on Wall Street now own more barrels of sweet oil than are actually sitting in the Strategic Petroleum Reserves (SPR). They own twice as many futures contracts in gasoline than there are at the NYMEX delivery hub in New York Harbor." 

Furthermore rising gasoline prices risk driving off would-be consumers, says Schork, who believes prices at the pump may rise 20 cents to 25 cents this summer.

"Consumers just simply can't pay any more," he said. "We are at the demand point where elasticity is certainly going to wane. Americans cannot afford that. They will alter their discretionary behavior when it comes to gasoline." 

However, that hasn't been the case so far. Gasoline inventories dropped by 7 million barrels in the week ended April 8, as demand rose 3.7% to 9.18 million barrels a day, according to the Energy Information Administration (EIA). The EIA forecasts a 0.5% increase in gasoline consumption this summer compared to last year.

If higher gasoline prices fail to ward motorists away from the pumps oil will likely continue its advance - and political unrest in oil producing regions will only add further momentum.

Money Morning's Moors agrees that oil prices could pull back if order is restored throughout the MENA region. But he doesn't believe such an abrupt end to hostilities is likely. Furthermore, underlying supply-demand imbalances and market volatility will continue to push prices significantly higher.

"There is certainly some inflation in the current price resulting from the risk factor," said Moors. "The underlying effective market value of the crude is probably about $95 a barrel. However, even without any other exogenous factors, that would still result in $150 by midsummer."

And as far as speculation is concerned, Moors doesn't believe the futures markets are overly distorted. 

"There are less than 800 million barrels in the SPR; while daily trade internationally is about 85 million barrels - less than 10 days of global trading equals theSPR," he said."Since those contracts are held by parties seeking a return several months in the future, it's not unusual to have more barrels held in futures than available in the SPR. That's a red herring argument if there ever was one."

Indeed, for Moors and many other analysts it comes down to simple supply and demand. 

"Libya is the centerof media attention but not the primary problem," said Moors. "Remember this market is no longer driven by the developed countries. For instanceDouglas-Westwood came out with a report last week indicatingthat Chinese oil demand will not be lessening any time soon. I'd say $200 oil is guaranteed even without the current unrest, probably by 2015 unless demand really surges"

Douglas-Westwood LLP Douglas-Westwood Managing Director Steve Kopits on April 4 delivered to the U.S House of Representatives Subcommittee on Energy and Power a dire warning about the likely development of China's future energy demand.

"China's conventional oil fields are mature. Today, it must be active in global markets to secure domestic needs ...and the situation will deteriorate markedly in the coming decade," said Kopits. "By 2020, China's dependence on foreign oil may be as much as 80%, versus an anticipated 40% for the U.S. China's vulnerability is cause for concern for the country's policymakers."

Emerging Markets Driving Demand
China has been at the forefront of a huge surge in oil demand among developing markets. Oil demand in China is expected to grow 10.4% this year - the fastest rate of any country in the world. 

"It is hard to overstate the growing importance of China in global energy markets," Fatih Birol, chief economist for the International Energy Agency (IEA) said in that organization's annual report. "The country's growing need to import fossil fuels to meet its rising domestic demand will have an increasingly large impact on international markets." 

Birol says that 700 out of every 1,000 people in the United States and 500 out of every 1,000 in Europe own cars today. In China, only 30 out of 1,000 own cars. And Birol thinks that figure could jump to 240 out of every 1,000 by 2035.

Furthermore, when Japan hit $5,000 of gross domestic product (GDP) per capita, oil demand grew at a 15% annual rate for the next 10 years, according to oil-industry consultant firm PIRA. The same is true of South Korea. However, China reached the $5,000 GDP per capita mark in 2007, and oil demand has only grown at a 7% compounded annual growth rate.

"The U.S. citizen uses twice the amount of oil per annum than a European and 10 times the amount of a Chinese citizen -- but Chinese demand is growing strongly," said Douglas-Westwood Chairman John Westwood. "We face a future where China needs to fuel its economic development and it is likely that can only be achieved by outbidding the West for the world's increasingly limited oil supplies."

Oil demand is growing briskly in other economic hot spots around the globe, as well. China's "BRIC" counterparts - Brazil, Russia, and India - are all expected to grow strongly this year. 

Asset management firm DWS Investment forecasts over 7% growth for the BRIC economies as a whole. It also anticipates strong growth in smaller emerging markets such as Singapore, Thailand, South Korea, Taiwan and Indonesia.

That, in turn, has lead to increased demand for oil.

In fact, the usage gap between developed markets and their emerging counterparts has shrunk from 12 million barrels per day (bpd) in 2010 to just 4 million bpd today.

Meanwhile, consumption in developed economies remains 8% below 2007 levels, which means supplies could be squeezed very tightly if the United States is able to finally emerge from its economic malaise. 

Worldwide oil consumption will increase by 1.4 million barrels a day, or 1.6%, this year to 87.94 million a day, according to the most recent estimate from the Organization of Petroleum Exporting Countries (OPEC), which controls about 40% of the global oil supply.

OPEC has pledged to support oil market stability, but so far the cartel has been slow to react - choosing instead to blame high oil prices on speculation, rather than any shortage of oil supplies.

"The response from OPEC to the loss of Libyan crude has been quite modest," David Fyfe, head of the industry and markets division at the IEA, told Reuters. "We are still waiting to see much sign of a pickup in terms of rising OPEC supplies." 

Global oil output fell by around 700,000 barrels per day in March to 88.27 million bpd because of violence in Libya, according to the IEA.

"Hypothetically, if global supply were to chug along at March levels for the rest of 2011, OECD inventory could slip to near five-year lows by December," the organization said in its March report.

The IEA noted that higher oil prices have had a negative effect on demand, but Fyfe doesn't expect that to become a serious concern until later this year. 

"We are quite early in the cycle, we have only been above $100 a barrel for the first quarter," Fyfe said. "We would expect sustained economic effect from prices to take 6 to 12 months to feed through."

Cashing in on Crude
Ultimately, violence in the MENA region has only exacerbated an already existing problem - namely that supply increases can't keep up with accelerating demand growth.

There is a danger that if the Jasmine Revolution subsides and oil supply resumes in full, oil prices will suffer a setback. But such a setback would only be temporary, as rising demand in emerging markets, an ongoing recovery in the developed world, and the general weakness of the U.S. dollar will conspire to push prices higher.

That means we could see West Texas Intermediate Crude (WTI) climb as high as $150 a barrel on the New York Mercantile Exchange (NYMEX) as soon as this summer. 

At the very least, any decline in the price of crude would offer a strong buying opportunity for long-term investors who believe $200 oil is unavoidable.

That said, one of the simplest ways to profit from surging oil prices -- outside of investing in futures on the NYMEX exchange -- would be to invest in an exchange-traded fund (ETF) that tracks the commodity's movement.
The iPath S&P GSCI Crude Oil Total Return ETF (NYSE: OIL), the PowerShares DB Oil Fund (NYSE: DBO), the SPDR S&P Oil & Gas Explorers & Producers Fund (NYSE: XOP) and the SPDR Oil & Gas Equipment & Services Fund (NYSE: XES) are all options to consider.

If you're looking for specific companies, it may be best to look in China, where the most growth is currently occurring. To that end, China National Offshore Oil Corp. (CNOOC) (NYSE ADR: CEO) is one option.
CNOOC is often referred to as the most "Western" of China's oil majors because it was founded with a mandate to form joint ventures with foreign companies. CNOOC is the vessel through which China is acquiring foreign expertise in the energy sector. 

CNOOC in October announced it would pay $1.08 billion for a 33% stake in Chesapeake Energy Corp.'s (NYSE:CHK) Eagle Ford shale acreage in Southern Texas, a deal that highlighted China's desire to develop its shale-gas extraction techniques.

China has 26 trillion cubic meters of shale-gas reserves that are largely unexplored due to a lack of drilling ability. Chesapeake is a pioneer in the shale gas industry.

"China's natural gas production has tripled in the last decade, a growth rate of 13.3%," said Douglas-Westwood's Kopits. "We project this to double in 2015 and nearly triple to 8.6 trillion cubic feet in 2020, implying 10% annual growth."

Another company to look at is Suncor Energy Inc. (NYSE: SU). Suncor was the focus of a recent "Buy, Sell or Hold" feature in Money Morning. 

Suncor has refineries, wholly owned pipelines and specialty lubricant products. It sells gasoline in retail locations in Canada under the Petro-Canada brand and in the United States under the Phillips 66 and Shell brands. But most importantly, it boasts strong and reliable crude oil production from its oil sands operations in Canada.

At a time when the many traditional Middle Eastern oil producers are besieged by civil unrest, reliable oil production from a stable country such as Canada is especially valuable. Additionally, higher oil prices make expensive tar sands production more cost effective.

"Of the Canadian oil plays, I most like Suncor because of its position as the most important producer of tar sands oil," said Money Morning Contributing Editor Martin Hutchinson. "This is only modestly profitable at current oil prices, but if prices run up or a global crisis restricts supplies, Suncor can be expected to increase hugely in profitability. It is currently at 19 times trailing earnings, but only 16 times expected 2012 earnings - which probably have not been adjusted for oil prices well above $100 per barrel."

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European Nuclear Union

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Drought imperils moves to end decline in US cattle

by Agrimoney.com

The drought in the US Great Plains, which is causing consternation among wheat growers, is also threatening moves among cattle farmers to rebuild herds after a decline lasting since the 1970s, US farm officials said.
More than one-third of the American cattle herd is held in the southern states has been left parched by a dearth of rain which has reached "critical" levels in Oklahoma, and encouraged bush fires, largely in Texas, which have burned more than 360,000 acres of land in the past week.
The harsh conditions are threatening to snuff out an apparent willingness among farmers to restock, encouraged by high cattle prices, which set a record 122.875 cents a pound in Chicago last week.
A 5% fall in the slaughter of beef cows in the first three months of the year "could be an indication that producers may be beginning to consider cow-herd stabilisation or even expansion", US Department of Agriculture analyst Rachel Johnson said.
"However, continued dryness in the southern tier of States and scattered additional areas will likely dampen expansion plants in those affected areas."
Indeed, the conditions "could lead to further cow herd reductions", and reduced regional demand for feeder cattle for fattening up on pasture in spring and summer grazing programmes, Ms Johnson said.
Long-term fall
A rebound in cattle numbers would end, or at least interrupt, a decline in cattle numbers dating back to 1974, when US herd numbers peaked at 132m head before beginning a fall which has cut their numbers by 30%.
Part of the decline since has been down to breeding improvements which have increased vastly milk yields in dairy cows, whose total nearly halved over the last 50 years.
Americans' lower beef consumption rates, per person, have also played a part, along with the efficiency savings, and higher returns, which can be made by switching to arable farming.
Fatter margins
Nonetheless, cattle feeders have, so this year, "been in a positive situation, with margins not seen since last May", Ms Johnson said.
"Despite increasing grain and feed prices, margins in Match were well over $100 per head."
However, she warned that beef values "may begin to slip" as the rise in cattle placed on feedlots in the winter feeds through into growing supplies of the meat.
Separate data showed wholesale beef values falling, after rising on Tuesday for the first time in week.
Broker US Commodities said: "Boxed beef continues to struggle to hold recent strength", adding that it expected that live cattle futures have already set a seasonal high.
Ms Johnson added that a USDA cattle report on July 1 would provide an insight on prospects for a herd rebuild, revealing the numbers of heifers that farmers are keeping to breed from.

Chinese Real Estate Bubble Pops: Beijing Real Estate Prices Plunge 27% In One Month

by Tyler Durden

Could the Chinese monetary tightening be working? The National Bureau of Statistics has released its latest food price update for the period April 1-10, which shows that while most foods continue to rise modestly, several food products have plunged particularly cucumbers and rapes, both falling 8.8%, kidney beans 6.3% and kidney beans down 6.3%. Yet this is nothing compared to what is happening to Chinese real estate: it appears Chanos' long anticipated property bubble may have popped... but the supersonic boom is so loud that nobody has heard it yet.
Prices of new homes in China's capital plunged 26.7% month-on-month in March, the Beijing News reported Tuesday, citing data from the city's Housing and Urban-Rural Development Commission.

Average prices of newly-built houses in March fell 10.9% over the same month last year to CNY19,679 per square meter, marking the first year-on-year decline since September 2009.

Home purchases fell 50.9% y/y and 41.5% m/m, the newspaper said, citing an unidentified official from the Housing Commission as saying the falls point to the government's crackdown on speculation in the real estate market.

Beijing property prices rose 0.4% m/m in February, 0.8% in January and 0.2% in December, according to National Bureau of Statistics data.

The central government has launched several rounds of measures since last year designed to cool the housing market, though local government reliance on land sales to plug fiscal holes mean enforcement hasn't been uniform.
The only question is how much actual equity buffer was used in these purchases. For all intents and purposes a drop of this magnitude levered even 2 times (assuming 50% or so equity down) means that China is on the verge of a complete bubble implosion. If the pummelling in the Beijing real estate market shifts to other cities not only is the Chinese tightening regime over, but the SHCOMP in the next few weeks could get very interesting as people understand the world's biggest marginal bubble has popped.

See the original article >>

China Just Gave You Another Big Reason To Be Bullish On Energy

by Gregory White

China just reported a year-over-year 13.41% surge in power demand in March, according to China Daily. For the first three months of 2011, demand increased an equally impressive 12.72%.

This is a sharp pick-up after growth fell to a 5.4% late last year.

And a reminder if you're wondering how that energy is being made, it remains largely a fossil fuel story.
From the EIU:
Chart


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Silver offers the only positive return

By Dr Jeffrey Lewis

When thinking about an investment, the best managers look for returns that beat what they perceive to be average. In the long run, wealth is a relative measure today, even the poorest people are wealthier than the richest people five hundred years ago, though we’d still say that today’s poor are poor.

Investments work along the same lines, with the simple concept being that an investment must have performance that is preferable to your current financial trajectory, and it must have a return that beats holding money in cash, as well as the negative returns incited by inflation.

Whether or not you are a current silver holder or not, ask yourself one simple question: what price would it take for you to sell your metals or buy government debt? At what rate would it be favorable for you to invest your money in stocks, bonds or any other investment?

Now, take that number, which is likely quite high, and compare it to past performance of all the markets out there. You can compare it to stocks, bonds, and commodities, and see simply which asset type has produced returns that you would see favorable. It would be a safe bet to see that the returns and performance that you want out of your investment portfolio haven’t been found in stocks nor bonds for the past twenty years.

Silver bubble is not

For the individual investor, an exercise that looks into what he or she wants in an investment isn’t a daily happening, though it is for the institutional investor. The markets measure just like wealth you can do well, as long as the other guy doesn’t do as well as you do.

So when the hysteria of a bubble emerges, investors should ask bubble promoters where they should go from silver. Should they buy stocks, which are priced as many as twenty years into the future? Should silver investors pile into fixed-income investments and take home 4-5 percent per year?

It is here that we reach the end of such an argument. Not only are the opportunities present in stocks and bonds weak, but they’re also offering returns that aren’t consistent with their risk profiles. So why would you hold silver, if you wouldn’t own cash flowing stocks, bonds, or an assortment of mutual funds? Because silver is the new cash.

Investors who have amassed massive positions in the metals markets are telling the market that the options aren’t exciting. If you’ve only a small selection of underperforming bonds, underperforming and expensive stocks, or negative-return generating cash, is it really much surprise that you want an alternative? Traditional investments have a best possible outcome of returns equal to a few percent per year, after inflation, and cash has a best possible outcome of negative returns each year.

The bubble isn’t in silver ownership, but in low rates and indebted economic institutions. When investors hold commodities, they’re holding the new cash, and they are insulated from risk to a degree that everyone should appreciate. Silver is “in a bubble” because the remaining opportunities are stuck in a rut. At what point would silver investors swap their holdings for paper assets? You might have to bring back Volcker to make that happen.

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Is gold price in a bubble?

By Addison Wiggin

Precious metals are proving resilient after yesterday’s beat-down. Gold is back up to $1,461. Silver spent a few nanoseconds below $40 yesterday and as of this writing sits smartly at $40.56.

With regular runs at historic highs, it’s no longer cranky gold bugs and dollar bears doing their share of gold price forecasting.

Analysts for the proper, if stodgy, British bank Standard Chartered announced yesterday they are expecting gold to reach $2,107 an ounce by 2014.

What’s more, they say, “our modeling suggests a possible ‘super-bull’ scenario,” based on a “powerful relationship” between per capita income in Asian emerging markets and the gold price.

Standard Chartered estimates that per capita income in China and India will reach 30% of the US level over the next 20 years.

On that basis, the bank sees “gold prices rallying up to $4,869 per ounce by 2020, should current relationships between Asian demand and gold persist.”

Standard Chartered wouldn’t find much argument from US Global Investors chief and Vancouver alum Frank Holmes, who was the lunchtime keynote presenter here in Zurich today at the European Gold Forum.

For starters, he furnished visual evidence to back up Marc Faber’s claim in this space on Monday that gold is not in a bubble.


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U.S. Dollar Index Down Trend Intact


In my last look at the Dollar Index, I pointed out that the Dollar doesn't seem relevant anymore, and as long as the down trend was under control, then all seem to be ok. The trend is still down, and the technicals would suggest that we will be visiting the all time lows last seen in 2008 at some point in the near future. At that point, I surmise things will start to get interesting. 

Figure 1 is a weekly chart of the Dollar Index (symbol: $DXY). The red colored price bars are positive divergence bars. In this case, I am looking at the divergence between a momentum oscillator, which is moving higher, and price, which is moving lower. Positive divergence bars tend to show up at market bottoms, but in and of themselves, they are not an absolute sign of a market bottom. Positive divergence bars signify slowing downside momentum, and from a technical perspective, the highs and lows of the positive divergence bar will serve as a trading range for future price movements. A close over the highs of the positive divergence bar will lead to a reversal of trend, and a close below the lows of the positive divergence often means accelerated selling as those traders expecting a reversal close their losing positions. So in a downtrend, a close below a positive divergence bar will lead to continuation of that down trend.

Figure 1. Dollar Index/ weekly 


Returning to figure 1, we note the close below a positive divergence bar not only on February 25, 2011 (#1) but also on April 8, 2011 (#2). A close above the high (76.28) of the most recent positive divergence bar will reverse the downtrend. Until that happens, the trend remains down and in all likelihood, the Dollar Index will be visiting the all time lows last seen in 2008.

At that time, I am sure the markets will express grave concern as though no one saw this coming.

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Why Monetary Expansion Must Stop

By: MISES

The current problems faced by all the world's economies stem, primarily, from one source: the demise of sound money, whose quantity could not be increased without significant cost, and its replacement with fiat money that can be inflated to infinite amounts at almost no cost to the producer.

Expansion of fiat money makes it appear to all market participants, including financial regulators, that there are more resources available than really exist. Thusly, all participants, including governments, embark on programs that cannot be completed; there just are not enough resources in the economy.

Not only does fiat money create the illusion of greater wealth, it makes embarking on new projects irresistible. After all, does it not always appear that lack of money is all that stands between man and the fulfillment of all his dreams? Now, with unlimited quantities of fiat money, the day seems to have arrived when anything is possible. But this is an illusion.

Throughout my talk I will refer to economic laws that act as impenetrable barriers to achieving the goals sought by monetary expansion. These are laws of human nature — to ignore them brings serious adverse consequences.

Economics is a social and not a natural science, because man is a social being. His actions are not governed by physical stimuli but by preferences derived from subjective valuations, all of which are unknowable, undergo constant change, and therefore cannot be predicted. Nevertheless, we do know that man is rational; that he acts to attain goals which he believes will improve his satisfaction; that he employs scarce means to do so and that means imply costs; but since he expects to improve his satisfaction, he expects the costs to be less than the satisfaction to be attained; so man expects to profit from his actions. From this brief explanation of man as a rational being, we can derive irrefutable economic laws.

Two Evils of Monetary Expansion

There are two main evils of monetary expansion: (1) recurring financial crises and (2) expansion of the wealth-destroying welfare-warfare state.

I'll start with why we continue to have recurring and ever more damaging financial crises. Then I will discuss very briefly the expansion of the wealth-destroying welfare-warfare state.

No Societal Benefit from Monetary Expansion

Expansion of fiat money denies the irrefutable economic law that money is subject to the law of diminishing marginal utility. This insight was explained by Ludwig von Mises in his 1912 classic, The Theory of Money and Credit. Mises explained that money is not "neutral"; money is a good and is subject to all the laws of economics as are all other goods. Because each new marginal unit conveys less utility than all previous units, and because money is fungible — meaning that each new unit is indistinguishable from monetary units already existing — then the purchasing power of all money is reduced.

The first users of the new money benefit most from the newly created money. This is a tight circle nearest the event of the new money being created. Those furthest away from this event, who are in a wider circle of the general economy, all lose because this new money dilutes the value of each unit of money they are already holding. Think of it as pouring water into milk. Therefore, expansion of the money supply conveys no overall societal benefit.

Money Expansion Is Not Stimulative

Immediately we see that an increase in money cannot be stimulative overall. Although it can stimulate some parts of the economy (those who get the new money first), it can do so only at the expense of all other parts, violating another immutable law of economics, Say's Law, which essentially tells us that we can't get something for nothing. With the creation of new fiat money, wealth has been redistributed from the current holders of money — the rightful owners — to illegitimate new allocators who steal, without getting noticed, other people's money. The first or early receivers of the new money benefit at the expense of those who receive it later, through the market process, or do not receive it at all — for example, retirees living on privately accumulated wealth. The early receivers buy at existing lower prices, while later receivers pay higher prices.

As this newly created money dilutes the existing money's purchasing power, we see this as high prices — later and not immediately. Higher overall prices are the logical consequence of any expansion of money. The price level can be thought of as the result of total monetary spending divided by the total supply of goods and services offered on the market. If the numerator (total spending) goes up or the denominator (total market supply of goods) goes down, the price level increases.

Some may object to this explanation, saying that sometimes the price level remains relatively flat despite an increase in the quantity of money, because the total supply of goods increases enough to offset increases in total spending. My answer is that this is a justification for slow, planned inflation, which ignores damaging structural changes that still occur in the economy. I discuss these changes below.

The Prosperity Illusion Caused by a Rising Gross National Product

Unfortunately, increased spending creates the illusion of increased prosperity, because we measure prosperity by the growth in Gross National Product (GNP), a measure only of total spending, the numerator in the quantity-theory-of-money equation. Under sound money, GNP remains the same, because the quantity of money — and thusly, the quantity of total spending — remains unchanged.

But fiat-money inflationary spending, caused by planned inflation of the money supply, is described as economic "growth." The more government inflates the quantity of money, the greater economic growth appears to be as measured by GNP. But this is an illusion. It is not growth at all. It is just a consequence of measuring higher prices.

So far we have seen that fiat money does not stimulate the economy overall; it merely rewards some at the expense of others and creates higher overall prices. But the main structural damage, to which I earlier referred, occurs in the structure of production as manifested by recurring boom/bust cycles. Here is where fiat money and credit expansion cause pure capital consumption, robbing the future productive capability of the economy.

Malinvestment and the Austrian Business Cycle

In the mistaken belief that the economy can be stimulated into a higher level of production by more money, central bankers lower interest rates below the natural, market rate. The ultimate result of such intervention is destruction of capital through what Austrian economists call malinvestment. Capital is devoted to lines of production, primarily into longer-term investments, that will never be profitably completed.
We must address this most pressing question: Why do so many businesses fail at the same time? Can it be that a mass incompetence spreads through the economy so that we experience a large-scale bust from time to time? Governments and central bankers focus on this bust and try to postpone it, thinking that this bust is the problem.

"Lower interest rates and increased government oversight provide nothing more than full employment for bureaucrats."
 
But, ladies and gentlemen, I am here to tell you that the bust is not the problem. The problem is the boom and what created it in the first place. Fortunately this business-cycle phenomenon has been very well explained by Austrian economics. For those of you who have the time, I will be happy to explain the details of this after my talk. Suffice it to say that it is the intervention of the central bank that puts into motion the culprit of "artificial interest rates." These are false signals to businesses that there are new, real resources for investing in longer-term, capital-expansion projects. But there are no new, real resources for the successful and profitable completion of all new boom-time projects.

Coercion Is No Solution

Rather than cease its monetary intervention, government counters these consequences with coercion in the form of increasing bureaucratic oversight of banks, mandatory increases in bank capital requirements, and the creation of bailout funds.

Increasing bureaucratic oversight rests on two false ideas — that bureaucrats can discern potential problems to which bankers are blinded and that, unlike bankers, bureaucrats are not greedy by nature, so they will not take on increased risk. But government bureaucrats can no more detect errors, culpable or otherwise, than can the financial community they are supposed to regulate. The normal economic cues are hidden by expansion of money and manipulation of the interest rate. Regulators and systemic-risk analysts are no more able to detect these errors than anyone else. All the oversight boards will accomplish is adding cost to the banking system and possibly creating what Wilhelm Röpke called repressed inflation (what we today call stagflation), whereby production declines and employment falls while prices rise.

Bailout funds are the culprits behind any increased risk taking by greedy bankers. These funds create moral hazard, whereby market participants know that some or all of the cost of increased risk will be borne by others but that benefits will not be shared. In addition, due to the law of diminishing marginal utility of money, the funds themselves continue, rather than cure, the problem initially caused by money expansion, for the funds are formed by even more money expansion.

All of this intervention leads back to the evils of redistribution of wealth, higher prices, and more malinvestment — a vicious and destructive cycle.

The Cognitive Dissonance of Money Expansion Followed by Increased Coercion

This entire process creates a psychological phenomenon called cognitive dissonance; that is, holding two conflicting thoughts in the mind at the same time. Expansion of the money supply and lowering of interest rates in order to stimulate the economy is not compatible with increased bank capital requirements and oversight boards to detect systemic risk.

The government expects that a lower rate of interest will promote more economic activity through increased lending. Yet the law of diminishing marginal utility applies also to lending . The only way to make more loans is to lend to less creditworthy customers. Yet this is the situation that more oversight attempts to prevent. Therefore, even if the government's oversight boards could detect less creditworthy borrowers, the very purpose of lower interest rates is to make loans to such people.

This makes no sense from an economic or financial point of view, but it does make sense from a political, command-and-control point of view. So lower interest rates and increased government oversight become nothing more than full employment for bureaucrats, who enjoy the perks of power and who bear none of the responsibility for their actions.

The choice is clear: either more of the same — that is, more fiat-money pumping and more regulation, with increasingly worse outcomes — or an abandonment of monetary expansion and bank oversight by government along with their replacement by sound money and the normal checks and balances of the free market.

Expansion of the Welfare-Warfare State

I'll now discuss the second main evil of fiat-money growth: expansion of the wealth-destroying welfare-warfare state.

Because the wealth-generating sector of society has nothing to gain and everything to lose by the expansion of the welfare-warfare state, under a sound-money environment these wealth-destroying activities would be vigorously opposed. But under a fiat-money system, many of those who benefit from the unhampered market economy are blinded by the money illusion and believe that government spending does not come out of their own pockets. Therefore, it is no coincidence that the Progressive movement in the late-19th and early-20th centuries coincided with both increased government spending and an increase in the money supply to be provided by central banks.

Like all unsustainable enterprises, the welfare-warfare state depends upon ever-increasing injections of fiat money; otherwise, its programs collapse rather quickly. Ever-larger increases in fiat money merely delay the day of reckoning, because the ordinary cues of higher taxes and higher interest rates are avoided for a time. So fiat money leads government to make promises that it ultimately cannot deliver.

When government finally becomes aware that it is limited in what it can accomplish, it is faced with a stark choice. If it scraps programs, it risks civil unrest from the program constituents. The alternative is to continue the programs in name only, resorting to price controls and rationing. National healthcare systems are the best examples of this phenomenon. Not only is demand for healthcare services greatly increased — a true tragedy of the commons, whereby commonly held resources are plundered to extinction — but the quantity and quality of services actually decline.

The Medicare system in America tries to solve this problem by underpaying for services and then forcing providers, via threats to pull their business licenses, to absorb Medicare losses in the hopes of making up the difference with private-pay patients. To avoid losses and remain in business, medical practices counter with lower service quality and delays. Our neighbor to the north rations care to those who can live and suffer long enough to advance to the front of long waiting lists. In a recent suit brought by a Canadian patient, a Canadian judge stated that "access to a waiting list is not access to healthcare."

The Long-Term Solution: Liberate Money and the Economy from Government Control

A free-market economy, which includes money freely chosen by the market, does not suffer disequilibria, periodic booms and busts, or high unemployment. The constant search of market participants to better themselves will result in cooperation, rather than confrontation, with all peoples everywhere. The liberal order, as envisioned by scholars such as Ludwig von Mises, can expand to encompass the entire world, resulting in peace and ever-expanding prosperity for all cooperating men everywhere.

Sound money is essential; therefore, the first order of business for Europe is to stabilize the euro. Stop inflating its supply. Stop purchasing sovereign debt. Anchor the euro in gold and/or silver. Try to gain international cooperation when doing so, in order to prevent large swings in gold and silver imports and exports when other nations see that they must emulate Europe. Nevertheless, if this is not possible, anchor the euro in gold or silver anyway.

Then begin the process of privatizing money by eliminating legal-tender laws. Let the market use whatever money it chooses, even multiple monies. Some Austrian economists believe that eliminating legal-tender laws is all that is required of government, that the free market will choose the money that it finds best suits its purposes. This may be the case; the attempt is certainly worth the effort. A practical step would be to relax legal-tender laws in one or both of two ways: the nonenforcement of legal-tender laws or the decriminalization of private money production. Nonprosecution would open the door to private, competing monies.

End all regulation of banking, including deposit guarantees, which only cause moral hazard. But enforce 100 percent reserves against money certificates and demand deposits. Reform the commercial code to provide legal protections for bank depositors just as is the case with any warehouse bailment.

But allow complete freedom of loan banking, whereby the banker takes legal ownership of funds for some set period of time, with a promise to return the funds, plus interest, at the end of the contract. This form of loan banking can be risk free, as when customer loans to the bank are less than the bank's capital account. It is also noninflationary, because the bank lends only funds that have been transferred to it and it alone — the depositor gives up his claim to the funds for the length of the contract. Undoubtedly, under such legal protections and known risks, the public would be better served than by the current, fractional-reserve system of constant expansion and contraction of the money supply via bank lending.

Rules for the Statesman

Those in positions of power, such as all of you here, must be guided by reason and not emotion. Adopt as your motto Immanuel Kant's categorical imperative. Pass only laws that are universally applicable — that benefit all men at all times and in all places. Treat men as ends in themselves rather than as means to other ends, such as national or regional pride.

Not many laws will meet these high standards. Certainly, printing money, which reduces the purchasing power of money already in circulation and benefits some at the expense of others, fails this test, as does buying sovereign debt at subsidized interest rates. Both of these practices lead not to freedom and security but to suffering and conflict. I ask you to lead as statesmen always do: based on principles that work, are true, and are real.

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