Incredible Failures of Russian Technology - The Resource Curse Taking Its Toll

The recent technical failures of Russian technology are quite staggering. The Bulava ICBM failed numerous tests before finally successfully hitting target earlier this month, the Soyuz rocket used to launch spaceships and satellites crashed on takeoff and now a fire breaks out at the Yekaterinburg nuclear submarine. Russia has never been known as a leader in quality, but the sciences and their applications had been actively promoted during the Soviet era push for large scale industrialization.

Now the entire economy is heavily dependent on oil and gas exports which are very tightly controlled by the Kremlin. This creates corruption on massive scale and causes a deficiency of investment in education and technology. Thus the human and physical capital slowly and surely deteriorates - it is much easier to pump oil than build a spaceship after all.

Even Soros is Bearish on Gold

Without making this too much of a victory lap, I was delighted to read Soros Sees Gold on Brink of Bear Market on bloomberg. While he has been wrong in the past, the words of one of the most famous contemporary investors can not be ignored. At the same time, most analysts are still bullish, which is good, as usually everyone being on the same side should be a cause for worry.

More Downside Ahead For The S&P - Retail Investors Generally Bullish

According to the latest survey by the American Association of Individual Investors 40% of US retail investors are bullish and 30% bearish. The numbers are in line with long term averages compiled by AAII(people generally have an "optimistic" bullish bias). Judging by this, equity markets are more likely to experience a pull-back if not a real sell-off when liquidity returns at the start of January. The "Santa Rally" has probably ended.

Is China Calling the End of the Gold Bubble?

PBOC has announced that all Gold exchanges except for the 2 main ones in Shanghai are to discontinue operations (see the English language US edition of China Daily). It thus forcibly consolidates the market within a few large players, that are easier to monitor and control by the authorities. So far nothing new. The Chinese government has always operated this way in regards to any politically sensitive areas of the economy such as banking, insurance and most recently rare earths exports.

The timing, however, is quite interesting. Gold has been going up and investor interest in it has been building for the past 10+ years. However the regulation tightening only comes now that the market has experienced a few major hiccups (see previous WhatIf posts on Gold below, also FT article on recent sharp decreases in Gold ETF holdings). Beijing probably fears a public backlash should Gold continue to collapse, causing large losses to naive individual investors. The memory of the vocal protests before the building of the Stock Exchange after the Shanghai Composite dropped from its lofty heights in the end of 2007 must still be fresh in their minds.

Japan's Budget Mess

It is sometimes hard to make heads or tails of the political bickering in Japan's parliament, but matters look like they are getting serious. And seriously against prime minister Noda's intentions to raise consumption tax. A few lawmakers have already left his party (the DPJ) in protest against the tax hikes under consideration. At the same time the government's fiscal position is only getting worse, with a record 49% of next year's budget to be financed by bond issuance. Clearly raising taxes would hurt the already stagnant economy, so what can be done?

In some sense Japan has a problem that many countries wold love to have - strong currency and no inflation. A central bank can can always print more of its own currency - the constraints are only that this makes it weaker against other currencies and stokes inflation. But for Japan both of those in moderation are what it needs. So the BOJ should follow the Swiss Central Bank and weaken the yen, which should give a boost to the economy and automatically increase tax revenues.

Can China Micromanage the Convertibility of its Currency?

China has recently signed a series of bilateral agreements for limited direct settlement of FX transactions. First with Russia, Indonesia, Australia and more recently with Thailand and now Japan (see BBC article). All of the agreements are aimed at facilitating trade settlement without the need of using US dollars. Also they all seem to be restrictive enough to allow for careful monitoring and control by Beijing. As an example, the agreement with Thailand only allows CNY/THB settlement in the province of Yunnan (bordering Thailand) by the local branches of 4 designated banks. This approach to gradual convertibility is similar to the Special Economic Zone model that China used in the past to introduce capitalism to the country in a limited way. Despite all the media hype, the yuan is very far from challenging the dollar as a global reserve currency. But gradually allowing convertibility of the current account (currency flows based on trade in goods and services) may just work out.

Bearish Contrarian Signal on Gold - Popular Press Still Very Bullish

Once again the popular opinion is probably guilty of error by extrapolation. Everyone is asking not if but when Gold will reach $2000 / ounce. This is always a very worrying contrarian sign as it means nobody is even considering the opposite possibility.  "New year offers gold another shot at $2,000" on MarketWatch.com offers no specific reasons why this should happen at all, but rather explanations why it hasn't yet (the assumption being that at some point it somehow _has_ to). Even though Gold is currently tracking the equity markets, the piece claims that a European collapse should trigger a massive spike and not a selloff in the precious metal. It makes you wonder, especially given the -10.5% loss that John Paulson's Gold fund has racked up this year according to Bloomberg despite the 13% rally in bullion year-to-date. It may be that the gold miner stocks that he owns are pricing in the uncertain future demand better than the spot market.