Monday, January 19, 2009

The Debts of the Spenders: Watch the UK and Italy for Signs of Hyper-Inflation

The UK and Italy will be leading indicators of hyper-inflation among the G7.

The UK's Gordon Brown and Mervyn King are idiots. They are trying to imitate Bernanke
and Paulson. Unfortunately for them, they are operating on an accelerated schedule. The FSA's short ban expired on January 16 and this week is going to be all BAD data for the UK.

Also, the fundamental problem with the UK is its smaller population which is roughly 20% of the US. Smaller demographics ensure that there will also be smaller tax revenues. The UK authorities' only other alternative is to raise taxes in the corporate sector. However, this measure will also serve to drive away all the hedgies and banks that made London the "City of Finance" over the past 10 years. Such actions will lead to further job losses in the sector and additions to the ranks of unemployed.

Brown and King could not have picked a WORSE time to nationalize the UK banking system. The system was already bending under the strain of prior banking bailouts. Their actions amount to nothing more than desperate attempts to lift up FTSE share prices. Politicians can "jawbone" lenders all they want but how can you entice people to borrow after the worst credit bubble in history is just beginning to implode?

FTSE 3k w/in 6 months. And then pound-dollar parity w/in a year.

As for Italy, their problems stem not from over exposure to capital markets but in a more perverse way from under exposure. Milan has never been able to match New York, London, or even Frankfurt as a viable economic powerhouse. Capital flows have never been a particularly strong suit in Italian hands.

Instead, the Italian economy has relied on the seeming "allure" of its Old World craft industries to sell overpriced fashion and home furnishings to gullible consumers in status climbing, luxury obsessed Japan and the US. These social climbers were the same fools who lived beyond their means - flipping multiple McMansions w/marble kitchen countertops and buying the latest Gucci fashion to compete for status among their peers. The market for such luxurious indulgences has waned signficantly in recent months even as the ECB stubbornly refuses to cut rates to match the competitive devaluation favored by other world governments.

Moreover, the Italian government has never been able to reign in state spending and is chronically over budget in its wasteful public works programs. The problem is compounded by its rapidly aging demographic and relative dearth of younger workers. Put bluntly, Italians are simply not having enough babies and are also racking up extreme numbers of elderly. This problem has been growing for years but recent developments are showing just how widespread the cracks in the system have grown (and will continue to grow). Whereas the UK and US at least have the hope of increasing immigration to offset the decline in birthrates common to all developed nations, the Italians (for reasons of ethnic, cultural, or political pride) have stubbornly resisted the integration of foreigners into the social and economic fabric of their nation.

Are the Chinese, Japanese, and Arabs as willing to buy gilts as they are Treasuries? Will there be any more oil left in the North Sea w/in the next 10 years? The sun set on the British Empire a long time ago but the UK is still in denial.

Are the Chinese, Japanese, and Arabs as willing to buy Italian bonds as they are gilts or treasuries? Do they even have a strategic economic stake in Italy that can match the scale of their investments in America or the UK?

The bond markets have already spoken. But they will really roar in the latter parts of 2009-2010.