Nassim Taleb Explains The "Black Swan"

Even if you don't agree with it, it is an interesting video.

Nassim Nicholas Taleb, essayist and former mathematical trader, is Distinguished Professor of Risk Engineering at New York University’s Polytechnic Institute, explains the "Black Swan" quite in detail, while arguing with Daniel Kahneman, Eugene Higgins Professor of Psychology, Princeton University, and Professor of Public Affairs, Woodrow Wilson School of Public and International Affairs. He is winner of the 2002 Nobel Prize in Economic Sciences for his pioneering work integrating insights from psychological research into economic science, especially concerning human judgment and decision-making under uncertainty.

Inflation vs Deflation: Irving Fisher On Debt Deflation

We reminded about "the mother of all problems" already some time ago ...
And we have been keen to sort out the inflation vs deflation issues too.

Irving Fisher wrote in "The Debt-Deflation Theory of Great Depressions", Econometrica, 1933:

Assuming, accordingly, that at some point of time, a state of over-indebtedness exists, this will tend to lead to liquidation, through the alarm either of debtors or creditors or both. Then we may deduce the following chain of consequences in nine links: (1) debt liquidation leads to distress selling and to (2) Contraction of deposit currency, as bank loans are paid off, and to a slowing down of velocity of circulation. This contraction of deposits and of their velocity, precipitated by distress selling, causes (3) a fall in the level of prices, in other words, a swelling of the dollar. Assuming, as above stated, that this fall of prices is not interfered with by reflation or otherwise, there must be (4) a still greater fall in the net worth of business, precipitating bankruptcies and (5) a like fall in profits, which in a "capitalistic", that is, a private-profit society, leads the concerns which are running at a loss to make (6) a reduction in output, in trade and in employment of labor. These losses, bankruptcies, and unemployment, lead to (7) pessimism and loss of confidence, which in turn lead to (8) hoarding and slowing down still more the velocity of circulation.
The above eight changes cause (9) complicated disturbances in the rates of interest, in particular, a fall in the nominal, or money, rates and a rise in the real, or commodity, rates of interest.

There were some new rounds of deflation discussions among Paul Krugman, Brad DeLong and Greg Mankiw yesterday ... Robert Ophele of Banque de France has his "Deflation or disinflation?" opinion at VOXeu.org yesterday, or Sheldon Liber with "Pick your economic poison: Inflation vs. deflation" at BloggingStocks, also yesterday!

Enrique G. Mendoza has more on Fisher's debt-deflation at VOXeu.org today here.

And here is one more post "Thinking about debt deflation" by David Merkel at The Aleph Blog with an excellent compilation of links!

Hoooh, be careful!

American Bailout Nation Gets The Golden Life Raft v.2.0.

US Treasury Secretary Geithner was supposed to bring out the "big thing" about the banks, we have covered these issues in the days before ...

The announcement:
US economic stimulus plan $838 billion
US financial stability plan $2 trillion

S&P500 finishes the day 4.9% down (click on charts to enlarge)...
S&P500 March 2009 Futures contract, intra-day chart, Latvian time, courtesy of Reuters


S&P500 chart, 6 months, courtesy of StockCharts.com

and here is the reaction by economists/commentators:

The Wall Street Journal (WSJ) Real Time Economics with a compilation of opinions, and up-to-date live blog of Geithner at Senate
FT Alphaville
Paul Krugman
Felix Salmon
John Jansen @ Across the Curve
jck @ Alea
WSJ MarketBeat
Floyd Norris @ NYT

NYT Economix with a compilation of opinions

and the GOLD is UP! RICI Agri, Energy, Industrial Metals Indexes all are down, but Precious Metals UP! Yields of government bonds are down, 10year notes 18 bps down ...

Mary Stokes Goes On Eastern European Crisis Watch

Mary Stokes has a short entry at RGE Monitor today - Eastern Europe: On Crisis Watch. It is worth getting the full picture. But here is a short conclusion:

The extent of external imbalances ... are not the only determinants of the probability of getting into a financial crisis. But what the indicators ... do show is that countries in the region are extremely vulnerable to the drying-up of foreign capital inflows. That’s why the IIF’s projection that net private capital inflows will drop off from some $254 billion in 2008 to some $30 billion in 2009 is such a major concern. Moreover, given the similar vulnerabilities across the region, my concern is that a crisis in one country has the potential to blow up into a regional financial crisis.

The giant part of Latvian imbalances come from foreign trade, as describer in the previous post ...

Latvia: Exports Plunge 4.6% On Month, 11.1% On Year in December 2008

The Central Statistical Bureau reports data of foreign trade in December of 2008. According to press release:

Total foreign trade turnover at current prices in December 2008 reached 819.4 mln lats – less by 12.3 mln lats or 1.5% than a month before and less by 130.7 mln lats or 13.8% than in December 2007, according to provisional data of Central Statistical Bureau data.

The exports plunged 4.6% on month in December 2008, and 11.1% on year.

Compared to December 2007, in December 2008 there was exports increase of cereal crops (exported mostly to Denmark, Morocco and Yemen) – 3.3 times, of alcoholic and non-alcoholic beverages – by 33.5%, of essential oils, perfumery and cosmetics – by 45.5%, of machinery and mechanical appliances – by 24.4%. In its turn, the exports of iron and steel decreased by 54.5%, of motor vehicles (including rail transport) and parts thereof – by 34.6%, of rubber and articles thereof – by 41.4%, of wood and wood products – by 39.3%, of furniture, articles of bedding and lighting equipment – by 32.8%.

The imports increased by 0.4% on month in December 2008, but decreased by 15.2% on year.

Compared to December 2007, in December 2008 the most notable decrease had imports of wood and wood products – by 63.0%, of motor vehicles and parts thereof – by 43.6%, of articles of iron or steel – by 36.4%, of rubber and articles thereof – by 30.0%, of electrical machinery and equipment – by 27.3%, of articles of apparel, not knitted or crocheted – by 23.0%. In its turn, imports of pharmaceutical products increased by 40.9%, of fish – by 25.3%, of meat and offal – by 20.0%, of meat and fish products – by 10.8%.

Latvia was running a 227 million LVL (ca. 323 million EUR) trade deficit in December 2008, for the whole 2008 the trade deficit was 3.07 billion LVL (ca. 4.365 billion EUR). The trade gap in December is some 29 million LVL lower than the average for 2008. Note, Latvia cannot run trade deficit (well, adjust it for services and transfers) without external financing ...

The monthly dynamics were negative for exports, but not anymore the 20% plunge on month seen in November.

Mega-Bears Gathering - Roubini & Taleb on CNBC

Entertaining, in the worst case ...

Here's an update on CNBC with more video...

I am not sure that Paul Krugman is joining the gangs of strong-conviction-bears. Well, not yet. But here's his, somewhat desperate(?), latest stimulus update with political sauce.

Consider as a probability!

Roubini: Anglo-Saxon Model Of (Financial) Regulation Has Failed ...

The Anglo-Saxon model of supervision and regulation of the financial system has failed, Nouriel Roubini, chairman of RGE Monitor and professor of economics at New York University, told the Financial Times on Monday. Also available at RGE Monitor!

Hey, others appear to be more gloomy ...

Saut: "Light" Will Triumph?

Jeff Saut, the respectful strategist at Raymond James has posted his weekly missive, see the latest version here. Last week Jeff suggested this.

His call for this week:

We were bullish between the October 10, 2008 “capitulation “low” and the eventual “price low” of November 20th, believing the equity markets were in a bottoming sequence. We stayed constructive into the envisioned mid-January timeframe when we turned cautious. Last week, for the first time since turning cautious, we recommended “long” trading positions on Tuesday’s open for the aforementioned reasons. Our sense was that the equity markets would shake off the worse than expected economic numbers and rally with the “carrot in front of the horse” being the stimulus package and the bank rescue plan. Interestingly, last Tuesday’s action reinforced those views since it was only the third time since 1990 that the SPX rallied more than 1%, while the financials fell more than 1%, which we thought was indicative of a stock market that wanted to trade higher. This week the battle between “light” and “dark” resumes; and this morning “dark” has the edge since the economic stimulus package has not been passed. We think, however, that like last week “light” will triumph and the equity markets will re-rally. That said, this is no lead pipe cinch, so keep your stop-loss orders, and downside hedges, in place. We’ll talk to you next week.

Consider as a probability!

Latvia Plunges Hard As 4th Quarter GDP Contracts by 10.5% On Year

Central Statistical Bureau of Latvia reports the flash estimate of GDP for the 4th quarter of 2008 today:

In the 4^th quarter of 2008, compared to the same period of 2007, gross domestic product (GDP) value has decreased by 10.5%, according to flash estimate of the Central Statistical Bureau.

In the 4^th quarter of 2008 decline of economic development continued both in fields of manufacturing and of services. Volume of manufacturing has decreased by 11.3%, of retail trade – by 15.6%, of hotels and restaurants services – by 24.8%. Also the value of collected product taxes has dropped significantly.

At the same time the data for consumer price level in January 2009 is reported as follows:

Compared to December 2008 the average consumer price level in January 2009 rose by 2.2%. The average prices of goods rose by 2.1%, but of services - by 2.3%.

Compared to January of previous year, consumer prices have increased by 9.8%, of which prices for goods increased by 8.9%, but for services – by 12.2%.

The annual average rate of change in January 2009 was 14.9%.

Chart (click to enlarge) courtesy of Nordea Analytics.

Here are flash notes by Danske Markets on GDP and inflation!
Lars Christensen and Violeta Klyviene of Danske Markets write in the note:

It is notable that the drop in GDP in Latvia is now of a similar size as the crisis in Argentina in 2001-02, Turkey in 2001 and South East Asia in 1997-98 – and much worse than during the Nordic banking crisis of the 1990s.

Latvia: What To Learn From Great Depressions Of The Twentieth Century?

This entry is also very much linked to good/bad bank discussions...

Michael Pettis, a professor at Peking University's Guanghua School of Management, runs the article "Will China have to choose between social stability and long-term growth?" on his blog today.

The basis of discussion is a research paper by Gonzalo Fernandez de Cordoba (Universidad de Salamanca) and Timothy J. Kehoe (University of Minnesota), called “The Current Financial Crisis: What Should We Learn from the Great Depressions of the Twentieth Century?”

According to Pettis:

The main point the paper seems to want to make is that intervention in the allocation of credit had a huge impact on the way the country was able (or not) to recover from the crisis and regain productivity growth:

Japan suffered a financial crisis in the early 1990s and followed similar sorts of policies as Mexico, keeping otherwise insolvent banks running, providing credit to some firms and not others, and using massive fiscal stimulus programs to maintain employment and investment. Japan has stagnated since then. Finland also suffered a financial crisis in the early 1990s and followed similar sorts of policies as Chile, paying the costs of reform and letting the market dictate the allocation of credit to the private sector. The Finnish economy has grown spectacularly since then.

What implications this might have for Chinese policy-making in response to the current crisis? Again, we always need to protect ourselves from conclusions that owe more to ideology than evidence, but at the very least we should consider the possibility that massive intervention in the banking system, for all the short-term countercyclical benefits (i.e. banks are forced to expand, to satisfy policy interests, rather than contract, to satisfy commercial interests) can create serious enough distortions that Chinese growth for the next decade or so might be sharply constrained. In their words:

We need to avoid implementing policies that stifle productivity by providing bad incentives to the private sector. With banks and other financial institutions in crisis, the government needs to focus on providing liquidity so that banks can provide credit at market interest rates, and using the market mechanism, to productive firms. Unproductive firms need to die. This is as true for the automobile industry as it is for the banking system. Bailouts and other financial efforts to keep unproductive firms in operation depress productivity. These firms absorb labor and capital that are better used by productive firms. The market makes better decisions than does the government on which firms should survive and which should die.
...................
But should this happen in the midst of a global crisis? On the one hand, in China – and probably most other countries – real reform only seems to occur after a crisis, and so this is an important opportunity to get things right. On the other hand global conditions are too ugly for China to allow bankruptcies to take their swiftest course, and so undermining the social pact, so a strong case can be made for intervening heavily now and reforming later. Ultimately this is a political question that the Chinese must make: is there a tradeoff between long-term growth and short-term instability, and if so, which should China choose?

What is the right way for Latvia?