Part of my morning commute usually involves catching up on Twitter and most recently the financial information coming out of Zero Hedge along with a couple of other sources from Maudlin Economics. Many of these articles probably don’t warrant a full blog post but I thought I might start aggregating them on Sunday mornings with any thoughts I had. This has the potential to happen only this Sunday but it’s good to have goals.
Mara has apparently been reading every article on the Atlantic lately based on my inbox but this one caught my eye. A certain faction of conservatives, namely goody goody two shoes in Nebraska and Oklahoma are fighting Colorado’s marijuana legalization saying that the states have no right to preempt federal drug laws, the irony being that it’s almost always the conservatives who yell the loudest about federal encroachment on their rights when it comes down to health care, welfare or anything else that might help people who actually need it. In this instance, the issue is being fought brought by law and order type conservatives who don’t like that citizens of those two fine states are going to Colorado to buy their pot. The issue here that the article highlights is that the states are under no obligation to enforce federal laws passed by Congress that are too sweeping for the feds to enforce on their own.
Federal drug law has always relied on the states for enforcement because the feds don’t have the manpower to enforce it. States go after little dealers in the system (which is why our incarceration rate has quintupled since Reagan’s misguided and disastrous drug war went into effect. States throw people in jail for non-violent possession crimes while the Feds can go after the traffickers. However, the states are under no obligation to actually do this and in the case of states like Colorado, can actually pass laws that are inconsistent with that. Thinking of it another way, if Congress passes laws that are too broad in scope, the states are in no way obligated to fill in the gaps. This is actually a good thing for democracy as it keeps an important check on federal power. It will be interesting to see how the suit of Nebraska and Oklahoma against Colorado proceeds. If the conservative side wins, we will have set a precedent for removing one of the last checks on Federal power and take a big step farther down the path of centralized government.
This week, the Swiss National Bank (SNB) decided to end its 3 year old cap on the franc to the euro and let the market move freely in relation to the franc’s value. In response, the franc soared in value related to most major currencies, the euro being the biggest move where it appreciated 17% or so. The cap was originally put in place back during the last financial crisis when the SNB decided to limit the volatility of its currency. And so for years, the franc has been exceptionally stable against the euro. The mechanism for how this was done is beyond the scope of this post but the short version is that the Swiss would print francs and buy Euros to support the cap. By doing this they acquire lots of Euros in their foreign asset fund which seemed like a good idea at the time because the Euro was one of the strongest currencies around.
Fast forward to 2015 and suddenly the Euro is a mess. We’re talking more and more about a Greek exit from the euro which is a total unknown. Deflation is sweeping Europe which is a BAD THING in the grand scheme of things for an increasingly indebted world. On Thursday, the European Central Bank (ECB) will almost assuredly begin its own qualitative easing where it floods the market with Euros to fight the deflation. All signs are pointing to a weakening Euro and there is no end in sight. Imagine you are the SNB holding a bucketful of Euros and you might see why they want to bail out on dragging their own currency down with the Euro. Of course, this move has lots of implications. On a immediate level, allowing the franc to appreciate is bad for Swiss exports. In the ongoing currency wars, countries try to improve their economies by weakening their currency which typically increases exports. So why would the Swiss do something to actively hurt their own exporters? For one, they may have decided they don’t export that much stuff to the EU anymore and in fact they don’t. With the exception of Germany, the only country in the EU doing well (also a topic for an entirely different post), Euro dominated countries don’t account for a big chunk of Swiss exports. Instead, economies like Japan, the US and China are the ones buying expensive Swiss watches and fancy cheese.
Because Switzerland never joined the EU, they now have the flexibility to pivot their economy and make it less dependent on the disaster that is unfolding across Europe. That is what they are probably doing. One of the interesting side effects of this move is how it can roil markets. That’s because in our over leveraged, low interest rate financial system, investors are always reaching for yield. One strategy is to trade in a currency that has low volatility like the franc. Firms were happy to loan francs to day traders at highly leveraged rates (loaning 50 francs with only 1 franc as collateral is leverage). They could do this because over the last two years, the franc had an average volatility of .1 percent. It seemed totally safe. Until it wasn’t when the franc got really volatile this week. Everest Capital, a hedge fund in Miami, shut down a $830 million fund that hemorrhaged cash. Other hedge funds are in the same boat.
The takeaway from all this is that times, they are a changin’ in 2015. The dollar looks to get stronger as the EU begins fighting deflation. Even in the US, prices are falling and retail sales aren’t too great. In looking at retail sales, if you remove auto sales, this Christmas season was the third worst this century meaning only the Christmases of 2001 and 2008 were worse. Mmm, that doesn’t sound like a recovery to me. That sounds more like the US consumer is continuing to deleverage in an attempt to get their financial house in order. And when the US consumer doesn’t buy cheap Chinese crap, China’s economy gets sluggish. And when that happens, well, who knows what the end result is.
If you have a perverse affinity to monetary policy and its effects on our global financial system, it should be a fun year.
Apparently the people who lived in our house for the last 50 years didn’t ever want a back yard and had no fence. With a road behind us that cuts through from one major street to the other, it felt like we lived next to a freeway at times. This week, we had a fence put in which has also allowed the garage to be cleaned out since it was holding all the lawn furniture. It’s starting to feel more and more like we don’t live in a homeless shelter.