#Switzerland Offers Counterpoint on #Deflation’s Ills @WSJ

Switzerland is seeing steady economic growth and low jobless rate despite deflation. 

Switzerland Offers Counterpoint on Deflation’s Ills

Here, the Alpine country’s famed Matterhorn. Photo: Fabrice Coffrini/Agence France-Presse/Getty Images

By

Brian Blackstone

Oct. 18, 2015 1:34 p.m. ET

It’s as close to an economic consensus as you can get: Deflation is bad for an economy, and central bankers should avoid it at all costs.

And then there’s Switzerland, whose steady growth and rock-bottom unemployment is chipping away at that wisdom.

At a time of lively global debate over low inflation and its ill effects, tiny Switzerland—with an economy 4% the size of the U.S.—offers a fascinating counterpoint, with some even pointing to what they call “good deflation.”

Consumer prices in Switzerland have fallen on an annual basis for most of the past four years. They hit a milestone last month with an annual price drop of 1.4%, the biggest in more than five decades. Even after food and energy prices are stripped out, core prices fell 0.7%.

“It’s hard not to call that deflation,” said Jennifer McKeown of Capital Economics, referring to the technical term for a sustained slump in consumer prices.

And yet evidence of deflation’s pernicious side effects—recession, weak employment, rising debt burdens—is pretty much nonexistent in Switzerland. Its economy is expected to expand this year and next, albeit slowly, in the 1% to 1.5% range. Unemployment was just 3.4% in September. Government debt is low.

“Usually people associate deflation with depression,” said Charles Wyplosz, a professor at the Graduate Institute in Geneva. “In the Swiss case, the economy is doing OK.”

Some of that success is due to the shattering of another long-held maxim: that central-bank policy rates can’t go negative to offset the effects of falling prices.

Switzerland, in a bid to sap demand for the franc and drive down the currency’s value, has a -0.75% rate on certain deposits parked its central bank, meaning financial institutions pay to keep their money there. This effectively amounts to a negative real, or inflation-adjusted, policy rate because core inflation is typically a good indicator of underlying price pressure. Denmark and the European Central Bank have taken a similar path with their deposit rates.

Although wage growth has slowed in Switzerland, it was 0.6% on an annual basis in the second quarter, which combined with falling prices means strong real pay gains, boosting spending power. Meanwhile, the rate on a 10-year mortgage is only around 2%. 

ENLARGE

For years, central banks from Japan to Europe and the U.S. have been fighting mightily to buck up their inflation rates and escape the deflationary trap. The concern: that falling prices will prompt consumers to spend less—based on expectations that prices will continue to decline—and businesses will delay investment amid uncertainty about revenues.

The Great Depression and, more recently, Japan’s two-decade struggle with deflation, are typically cited as Exhibits A and B on why central bankers should do all they can to avoid the trap.

The Federal Reserve spent trillions of dollars from 2008 to 2014 on government bonds and mortgage debt to combat this risk. More recently, it opted to keep interest rates near zero six years into an economic recovery with the unemployment rate barely above 5%, in part because inflation is so low—unchanged over the year ended Sept. 30. 

Major central banks prefer annual inflation of about 2% to provide a cushion against deflation.

Faced with stagnant consumer prices, the ECB is in the midst of a €1.1 trillion ($1.249 trillion) bond-buying program. The Bank of Japan has purchased broad swaths of public and private assets, too. The reasoning behind all these moves is that once deflation becomes entrenched, it is difficult to reverse.

But in Switzerland’s case, falling prices, brought on in large measure by what most analysts see as a significantly overvalued franc, has generated some positive fruits. It has forced companies to raise productivity and stay competitive in global markets, particularly compared to the rest of Europe.

Despite the franc’s strength, Switzerland’s trade surplus was nearly 5% of gross domestic product last year, suggesting its products are still competitive globally. Consumer spending continues to grow, albeit at about half the rate of three years ago.

“You have to distinguish between good and bad deflation,” said Alexander Koch,economist at Raiffeisen Schweiz in Zurich. “There’s no crash, no strong increase in unemployment in manufacturing and as there are no bursting bubbles in other sectors, domestic demand and the labor market are quite resilient.”

Maybe it’s the Alpine air, but economists at the Basel, Switzerland-based Bank for International Settlements—a consortium of central banks—have also challenged some of the conventional wisdom on deflation’s pernicious effects.

It may have negative consequences, but “on the other hand, deflation may actually boost output,” they wrote in a March report. “Lower prices increase real incomes and wealth. And they may also make export goods more competitive.”

So why aren’t central banks embracing the Swiss example? Analysts note that it’s difficult to distinguish between good and bad deflation until it’s too late.

Nor is Switzerland without its own struggles. To keep the franc in check, the central bank may be forced to cut the deposit rate even further, analysts say, particularly if the ECB eases policy more. Super-low rates on mortgages and other forms of debt could create housing and other bubbles. An abandoned effort to cap the franc’s value to the euro led the central bank to book a loss of 50 billion francs ($52.45 billion) for the first half of the year. And average consumer price levels are still quite high compared to the rest of Europe despite declines in recent years.

But, says Jörg Krämer, chief economist at Commerzbank in Frankfurt, Switzerland’s deflationary experience shows that for some, it’s “not as harmful as most people think.”

Switzerland Offers Counterpoint on Deflation’s Ills - WSJ

#Solar & #Wind Reach a Big #Renewables Turning Point : BNEF - Bloomberg @Business

"As more renewables are installed, coal and natural gas plants are used less...[and] the cost of using them to generate electricity goes up. As the cost of coal and gas power rises, more renewables will be installed. "

The virtuous cycle has begun.

This from Bloomberg:

Solar and Wind Just Passed Another Big Turning Point

Wind power is now the cheapest electricity to produce in both Germany and the U.K., even without government subsidies, according to a new analysis by Bloomberg New Energy Finance (BNEF). It's the first time that threshold has been crossed by a G7 economy.

But that's less interesting than what just happened in the U.S. 

To appreciate what's going on there, you need to understand the capacity factor. That's the percentage of a power plant's maximum potential that's actually achieved over time.

Consider a solar project. The sun doesn't shine at night and, even during the day, varies in brightness with the weather and the seasons. So a project that can crank out 100 megawatt hours of electricity during the sunniest part of the day might produce just 20 percent of that when averaged out over a year. That gives it a 20 percent capacity factor.

One of the major strengths of fossil fuel power plants is that they can command very high and predictable capacity factors. The average U.S. natural gas plant, for example, might produce about 70 percent of its potential (falling short of 100 percent because of seasonal demand and maintenance). But that's what's changing, and it's a big deal. 

For the first time, widespread adoption of renewables is effectively lowering the capacity factor for fossil fuels. That's because once a solar or wind project is built, the marginal cost of the electricity it produces is pretty much zero—free electricity—while coal and gas plants require more fuel for every new watt produced. If you're a power company with a choice, you choose the free stuff every time. 

It's a self-reinforcing cycle. As more renewables are installed, coal and natural gas plants are used less. As coal and gas are used less, the cost of using them to generate electricity goes up. As the cost of coal and gas power rises, more renewables will be installed. 

The virtuous cycle has begun.

Source: Bloomberg

Wind and solar have long made up a small fraction of U.S. electricity—about 5 percent in 2014. But production has been rising at an exponential rate, and those two energy sources are now big enough to influence when coal and natural gas plants are kept running, according to BNEF.

There are two reasons this shift in capacity factors is important. First, it's yet another sign of the rising disruptive force of renewable energy in power markets. It's impossible to brush aside renewables in the U.S. in the same way it might have been just a few years ago.  "Renewables are really becoming cost-competitive, and they're competing more directly with fossil fuels," said BNEF analyst Luke Mills. "We're seeing the utilization rate of fossil fuels wear away." 

Second, the shift illustrates a serious new risk for power companies planning to invest in coal or natural-gas plants. Historically, a high capacity factor has been a fixed input in the cost calculation. But now anyone contemplating a billion-dollar power plant with an anticipated lifespan of decades must consider the possibility that as time goes on, the plant will be used less than when its doors first open. 

Capacity Factors Take a Sharp Turn

Source: Bloomberg, Data: BNEF

Most of the decline in capacity factors is due to expensive "base-load plants that are being turned on less because of renewables," according to BNEF analyst Jacqueline Lilinshtein. Plants designed to come online only during the highest demand of the year, known as peaker plants, play a smaller role. In either case, the end result is that coal-fired and gas-fired electricity is becoming more expensive and the profits less predictable.

The opposite is true of wind and solar, as well as new battery systems that can be paired with renewables to replace some peaker plants. Wind power, including U.S. subsidies, became the cheapest electricity in the U.S. for the first time last year, according to BNEF. Solar power is a bit further behind, but the costs are dropping rapidly, especially those associated with financing a new project. 

Latest Solar Costs by State

Source: BNEF, Annotated by Bloomberg

The economic advantages of wind and solar over fossil fuels go beyond price. Still, it's remarkable that in every major region of the world, the lifetime cost of new coal and gas projects are rising considerably in the second half of 2015, according to BNEF. And in every major region the cost of renewables continues to fall. 

http://www.bloomberg.com/

latest publication from @EY_MiningMetals on the Business risks facing #mining & #metals in 2015–2016-Moving from the back seat to the driver’s seat

The latest publication from @EY_MiningMetals on the Business risks facing #mining & #metals in 2015–2016-Moving from the back seat to the driver’s seat @EY_MiningMetals

 http://www.ey.com/Publication/vwLUAssets/EY-business-risks-in-mining-and-metals-2015-2016/$FILE/EY-business-risks-in-mining-and-metals-2015-2016.pdf

#Glencore just the tip of the iceberg? @Zerohedge takes a look at #Trafigura, #Mercuria coming next....

Financial Crisis Alert: Black Swans Are Circling The Commodity Pits

Back in July, long before anyone was looking at Glencore (or Asia’s largest commodity trader, Noble Group which we also warned last month was due for a major crash, precisely as happened overnight) which everyone is looking at now that its CDS is trading points upfront and anyone who followed our suggestion last March to go long its then super-cheap CDS can take a few years off, we had a rhetorical question:

Which will be first: Trafigura, Mercuria or Glencore

— zerohedge (@zerohedge) July 22, 2015

Judging by what happened less than two months later, it appears that we have our answer: for now at least, Glencore, which is now flailing and which Bloomberg reported moments ago is set to meet with its bond investors tomorrow (supposedly to allay their fears of an imminent insolvency), is firmly the “answer” to our rhetorical question.

And yet, something stinks.

First, a quick look at Trafigura bonds reveals that the contagion from the Glencore commodity-trader collapse, which “nobody could possibly predict” two months ago and which has rapidly become the market’s biggest black swan, has spread and we now have a new contender. And while Trafigura’s equity is privately held, it does have publicly-traded bonds. They just cratered:

… sending the yield soaring to junk-bond levels.

As discussed below, this may just be the beginning for the company which, because it does not have publicly traded equity – but has publicly traded debt – has so far managed to slip under the radar.

But who is Trafigura? Only the world’s third largest private commodity trader after Vitol and Glencore. 

From the company’s own description:

Trafigura is one of the world’s leading independent commodity trading and logistics houses. We’re at the heart of the global economy. Every day and around the world, we are advancing trade – reliably, efficiently and responsibly. We see global trade as a positive force and we go further to make trade work better.

More important than some pitchbook boilerplate, is the company’s history: Trafigura was formed in 1993 by Claude Dauphin and Eric de Turckheim when It split off from a group of companies managed by Marc Rich, aka “the king of oil” in 1993.

Who is March Rich? Why the founder of Glencore of course who as a reminder, was indicted in 1983 on 65 criminal counts including income tax evasion, wire fraud, racketeering, and trading with Iran during the oil embargo. Upon learning his prison sentence may be as long as 300 years, Rich promptly fled to Switzerland; he was so afraid of US authorities, he even skipped his daughter’s funeral in 1996.

Marc Rich got a presidential pardon from Bill Clinton in a decision which was blessed by the kingpin of corruption, former DOJ head Eric Holder.  Clinton himself later expressed regret for issuing the pardon, saying that “it wasn’t worth the damage to my reputation.”

But back to Trafigura, whose summary financials reveal that the company – with $127.6 billion in revenues in 2014 and $39 billion in assets – is absolutely massive. In fact, in terms of turnover, it is virtually the same size as Glencore.

But the most important and relevant numbers are on neither of the pretty annual report grabs above. They are highlighted in red in the excerpt from the company’s interim report: the $6.2 billion in non-current debt and $15.6 billion in current debt for a grand total of 21.9 billion in debt!

Now, this is less than Glencore’s $31 billion (the implication being that Trafigura has a solid $6 billion equity cushion although judging by the bond plunge the market is starting to seriously doubt this) but the problem is that Trafigura’s EBITDA is lower. Much lower. 

According to CapIq, Trafigura had $1.8 billion in LTM EBITDA, suggesting a debt/EBITDA leverage ratio of a whopping 12x. If one wants to be generous and annualizes the company’s disclosed 6-month EBITDA (for the period ended 3/31/2015) of $1.1 billion, the EBITDA grows to $2.2 billion. This lowers the debt/EBITDA for Trafigura to “only” 10x.

Indicatively, Glencore’s own debt/EBITDA, and the reason for so much conerns about the company’s solvency, is about half of Trafigura’s.

At least on the surface, it appears that Trafigura, which is as reliant on the ups and down of commodity trading as Glencore, is far more levered, and exposed, to any commodity crush than the Swiss giant.

But what really set off our alarm bells, is that a quick skim through the company’s annual report reveals something disturbing: a commissioned report titled “Too Big To Fail: Commodity Trading Firms and Systemic Risk” whose purpose was to explain why, as the title implies, commodity trading firms are not systemically important. The timing, just months before a historic rout for commodity traders, is odd to say the least.

As a general take, any time someone first brings up, and then tries to talk down the impact of something as being “Too Big To Fail”, run.

More seriously, there are two problems with this analysis: as events in the past week have shown, commodity trading firms clearly carry a systemic risk: after all, one after another news outlet rushed to explain why yesterday’s market plunge was the result of Glencore fears. It would have been the same with Trafigura’s equity plunge… if the company had publicly-traded equity instead of just debt.

The second problem is the subheader to the paper:

Trafigura commissioned a white paper this year on commodity trading firms and systemic risk. Its author, Craig Pirrong, explains why he believes these firms are unlikely to have a destabilising effect on the global economy.

The paper’s conclusion: “Commodity trading firms are not a source of systemic risk.”

Oops.

Who is Craig Pirrong? As the NYT explained in a 2013 article titled “Academics Who Defend Wall St. Reap Reward“, Pirrong, a University of Houston professor, is just a member of that all too pervasive “paid expert for hire” group, academics without actual credibility inside their own circles, and who as a result will “opine” on anything and everything – usually involving Wall Street regulatory and “risk” matters, just to get paid.

This is precisely what Trafigura did when it commissioned him to “explain” why Trafigura is not systemic. Ironically it did so in August, just as all hell was about to break loose for the commodity traders, especially the most systemic ones.

And while the market has shown how the paid opinions of such “experts for hire” should be completely ignored, the question remains: just what was Trafigura so concerned about when it commissioned a well-compensated study meant to goal-seek the company’s explicit conclusion: that it is not systemic, when it obviously is.

Opinions aside, at the end of the the market will decide just who is systemic and who isn’t. One look at the price of Trafigura’s bonds above has given us the answer: it is a move comparable to what happened to Lehman bonds – if not equity – the day after the bankruptcy filing.

Clearly the Lehman bonds could not believe what just happened until it was too late. For Glencore, and increasingly Trafigura, the bond price is finally signalling the realization that “this is indeed happening.”

* * *

We’ll save our discussion of Mercuria for another day.

Source: Forget Glencore: This Is The Real “Systemic Risk” Among The Commodity Traders | Zero Hedge

#Swiss watchdog #WEKO says opens #preciousmetals collusion probe @Reuters

Better late than never?

Swiss watchdog says opens precious metal collusion probe

ZURICH (Reuters) - The Swiss competition regulator said on Monday it had opened an investigation into possible collusion in the precious metals market by several major banks.

Switzerland's WEKO watchdog said its investigation, the result of a preliminary probe, was looking at possible collusion in setting bid/ask spreads in the market by UBS (UBSG.VX), Julius Baer (BAER.VX), Deutsche Bank (DBKGn.DE), HSBC (HSBA.L), Barclays (BARC.L), Morgan Stanley (MS.N) and Mitsui (8031.T).

"It (WEKO) has indications that possible prohibited competitive agreements in the trading of precious metals were agreed among the banks mentioned," WEKO said in a statement.

A WEKO spokesman said the investigation would likely conclude in either 2016 or 2017, adding that the banks were suspected of violating Swiss corporate rules.

The WEKO investigation is the latest in a string of probes into manipulation of the precious metals and foreign exchange markets.

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Last year, Switzerland's financial regulator FINMA said it had found a "clear attempt" to manipulate precious metals price benchmarks during a cross-market investigation into trading at UBS.

In May, four major banks pleaded guilty to trying to manipulate foreign exchange rates and, with two others, were fined nearly $6 billion in another settlement in a global investigation into the $5 trillion-a-day market.

A spokesman for Zurich-based UBS declined to comment. The other banks were not immediately available for comment.

(Reporting by Joshua Franklin; Editing by Miral Fahmy and Louise Heavens)

http://mobile.reuters.com/article/idUSKCN0RS0DX20150928

Swiss watchdog says opens precious metal collusion probe | Reuters