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So far, so good, so what? / China Musings / What-The-Frac?? / Book & Show Reviews
Kaoboy Musings 8 – 10/17/2019
So far, so good, so what?
Lots going on since my last missive (Kaoboy Musings 7, 10/7/19). Here’s a recap:
U.S. and China entered into a tentative “Phase 1” deal:
Fed announced “QE 4” despite calling it “not QE”
Inflation data remains subdued with PPI/CPI both coming in near zero
University of Michigan Consumer Sentiment Index significantly beat expectations: 96 vs 92
Housing starts came in slightly weaker (1256k vs 1320k)
Initial jobless claims came in as expected (214k vs 215k)
Q3 earnings season has started on a strong foot with companies like JP Morgan, Morgan Stanley, and Netflix all handily beating expectations
As my subject header suggests (hat tip to Megadeth as I borrowed an album title), so far, so good – I interpret this mix to be a “Goldilocks brew,” where the data are not bad enough to warrant recession concerns but not strong enough to warrant a hawkish Fed. Although the devil’s always in the details (hence the “so what?”) when it comes to any agreement with China, this “Phase 1” deal signifies a significant thawing of tensions at the very least. At the same time, the Fed’s “not-QE QE” is an admission that perhaps the Fed got a little ahead of itself in terms of withdrawing liquidity from the system (causing among other things a rip-roaring USD and a sharp, technically induced spike in overnight repo rates to 10% on 9/17/19) and is moving to reverse that. It’s not surprising to me that since the beginning of October, the USD index (as measured by DXY) has weakened 2%, and the S&P 500 has rallied about 2%
I’ve been reading quite a bit about China (see below for my reading list), as I’ve wanted to better understand Xi’s true motivations. Here are a couple takeaways:
Xi is cut much more from Mao’s autocratic/state-centric cloth than from Deng’s decentralized/“free market” cloth. Since Xi came to power in 2013, he has aggressively adopted a heavily nationalistic “Chinese Dream” agenda where he has closed off China’s markets to the world (in heavy contrast to the Deng-inspired decades of Jiang Zemin and Hu Jintao) while simultaneously paying lip-service to being a champion of globalization on the world stage. At the same time, he has deftly used the mantle of “anti-corruption” to purge the Politburo of his adversaries, and in 2018, Xi pulled a “Palpatine move” by abolishing China’s longstanding two-term limit for the Presidency.
The increasing strength of China’s SOEs (state-owned enterprises) along with their use by the government as arbiters of state policy will continue to distort world markets unless China is strongly economically disincentivized. China’s top-down, “command-and-control” economy is very effective at getting things done fast; however, it is very ineffective at finding optimal market equilibria versus a free-market, capitalist system. As I discussed in past Musings, I believe China’s biggest state directive is to foster rapid urbanization in a bid to increase per-capita GDP and outrun its demographic timebomb (see Kaoboy Musings 7). As a result, the state has employed millions of people in industries it deems to be strategic priorities: steel, cement, solar cells, EVs, etc. In almost every single case, this directive has produced massive economic distortions in those markets until the resultant overcapacity (in some cases of over 50% as in steel and cement) forces a response either internally or externally. I believe that Xi’s much-touted “One Belt One Road (OBOR)” initiative to essentially rebuild the Silk Roads of old via a modern network of railways, pipelines and maritime routes is yet another state directive that is going to produce massive economic distortions around the world.
China’s Sopranos-style shylocking methods in its international dealings is increasingly being recognized as a new form of “colonialism” and will severely hamper its bid to become a global hegemon. On the surface, China’s OBOR initiative is incredibly impressive: $5 trillion to be spent in thousands of infrastructure projects around 60+ countries. For developing nations in Africa and in Central Asia, the lure of Chinese money seems irresistible – until these countries realize that they’ve signed deals with the Devil. A case in point is the Hambantota Port of Sri Lanka, where China knowingly lent Sri Lanka more money than it could repay and then forced Sri Lanka to cede the port to China on a 99-year lease. A strategically brilliant and ruthless move by China – but it makes the U.S.’s foreign entanglements seem downright altruistic. In the long-term, I believe practices like these make it impossible for China to compete with the U.S. from a soft power perspective.
In short, China is short on natural resources and long on human labor. While it makes eminent sense to engage in this kind of arbitrage (and the OBOR initiative does just that), I believe China’s state-centric worldview is fundamentally flawed and cannot compete with the capitalistic system of efficiently apportioning resources in the long-term. Furthermore, its brazen loan-sharking methods will backfire, in my humble opinion.
There have been some recent announcement by politicos to ban all hydraulic fracturing activities in the U.S. While I try to avoid partisan discussions in my Musings, I do try to bring contrarian perspectives to “mainstream” views. While I get that the extraction and subsequent use of any fossil fuel ignites the ire of environmentalists and climatologists around the world, I believe the mainstream discussion largely ignores the “what-if” scenarios that would occur worldwide if fossil fuels (and frac-produced fossil fuels to a lesser extent) were eliminated outright.
I read an eye-opening book last year entitled The Moral Case for Fossil Fuels that addresses exactly this discussion void. Alex Epstein, the author, very convincingly debunks a lot of myths regarding fossil fuel use and makes the case (with a lot of supporting evidence) that:
Fossil fuel use has greatly improved human quality of life for billions.
The Earth has been on a consistent warming trend since the dawn of the Industrial Revolution – long before significant carbon emissions could have possibly been an influence.
Most climate models have been grossly inaccurate (i.e. not even close) in their predictions.
Outside of nuclear, fossil fuels remain as the most efficient generator of energy for humankind.
There is much to-do about developing battery technologies (forget about the environmental impact of this) to enable widespread use of intermittent sources of energy like wind and solar – nature has already produced the most efficient battery, and it is called the hydrocarbon.
In short, he is not arguing against global warming nor is he denying that carbon emissions contribute to global climate change; rather, he makes the case that 1) the mainstream discussion regarding whether or not to eliminate fossil fuels from our energy diet largely revolves around inadequate theories that fossil fuels are the primary determinant of climate change (as opposed to long geologic eras of climate change that are inexorable), and 2) that it is not fair to single out the shortcomings of fossil fuels without simultaneously considering the positive contributions (cheap, abundant energy for billions).
There is a great YouTube debate where the author Alex Epstein debates a well-known climatologist named Bill McKibben:
I would encourage those with open minds to watch this debate and read this book – as always, I’m interested in devil’s advocacy and would love to hear your opinions afterward.
Shale oil (what hydraulic fracturing produces) currently accounts for ~60% of total U.S. oil/gas production of around 11 mm barrels/day. Shale oil has enabled the U.S. to supplant Saudi Arabia as the world’s largest oil producer since September, 2018 and has enabled the U.S. to become a significant exporter of oil for the first time in decades. I just read a research report from energy specialist Tudor, Pickering and Holt that estimated that world oil prices would spike to $85-$130/barrel on a sustained basis without U.S. shale oil (oil currently trades at $54/barrel).
I’ll end this segment with a provocative question: what will $100 oil on a sustained basis do to the world economy not to mention the already energy-starved population of billions in the developing world?
Book & Show Reviews
My recent reading list:
The New Silk Roads by Peter Frankopan
Was a bit disappointing vs. Frankopan’s first book, The Silk Roads. The first third of the book gave some interesting insights on how China’s “One Belt One Road” initiative is influencing development in the Central Asian countries (the “-stans”: Kazahkstan, Turkemistan, Kyrgyszstan, Uzbekistan, Tajikistan, Afghanistan, and Pakistan). Unfortunately, the next two-thirds of the book devolved into a highly partisan tirade, which is a turn-off to me in any book.
The Third Revolution: Xi Jinping and the New Chinese State by Elizabeth Economy
I thought this was a very, no-nonsense depiction of Xi Jinping’s rise to power, how his worldview was heavily influenced by Mao vs. Deng and explains why perhaps there is rare bi-partisan support for trade policies that stand up to China – when the “carrot” strategy doesn’t work, sometimes you have to use the “stick.” Fascinating to see the motivations behind China’s “One Belt One Road” initiative as well as some of the consequences.
The Moral Case for Fossil Fuels by Alex Epstein
See discussion above. I found this book to be very provocative and eye-opening in many ways.
My recent watch list:
Inside Bill’s Brain: Decoding Bill Gates on Netflix
I thought this 3-part series was great despite the mixed reviews it got. I would’ve liked to see a bit more coverage on his Microsoft years, but overall, it did a decent job of introducing the audience to Bill’s childhood influences as well as showing how his focus has evolved from aggressively competing for world domination to aggressively pursuing big philanthropic initiatives through the Bill & Melinda Gates Foundation.
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