17/08/2011 - 10:35

Debt crisis exposes a tale of two worlds

17/08/2011 - 10:35


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Several factors indicate GFC II is different to the first time around.

THREE years ago, when the first wave of the GFC broke over the Western world, the price of copper performed a near-perfect swallow dive, plunging from $US4 per pound to land with a splash at around $US1.30/lb.

The time between the high and the low was about six months, lasting from late July to late December 2008.

What’s interesting today in looking back at that grim piece of history is that the first signs of copper’s collapse were obvious within days of the GFC outbreak with ‘Dr Copper’, as it is sometimes called, telling investors that the world was indeed very sick.

During the second half of 2008, as the copper price fell rapidly, the global financial system came close to collapse, banks stopped lending and trade ground to a near standstill.

This time around, as was explored in a column on the WA Business News website last week, there are different forces at work, as shown by looking at a number of key indicators, including the Baltic Dry Index (BDI), a measure of ship-hire costs – and the copper price.

Since GFC II was unleashed about three weeks ago during the appalling US political debate over that country’s debt ceiling, the price of copper has fallen from around $US4.40/lb to around $US3.90, a decline of about 11 per cent. By the time you read this column the copper price might even be back above $US4/lb.

On the Baltic exchange, the cost of renting a bulk carrier to haul iron ore or coal has barely moved since the start of GFC II. Yes, as some readers have pointed out, it is down on earlier this year, and yes, it is miles down on its early 2008 peak.

But the key point this time is that the US debt crisis, and the European political crisis, has not had the same immediate effect on the BDI as happened in 2008, when ships simply dropped anchor because no-one knew who would pay the rent, or whether the bank on the other side of a cargo-hauling transaction would honour the contract.

The price of aluminium is another example worth noting, because in the six months between July and December 2008 it fell from around $US1.45/lb to US58c/lb. This time aluminium has fallen from $US1.17/lb to $US1.06/lb.

Iron ore and coal prices have not moved, and while crude oil has fallen from more than $US120 a barrel (using Brent crude as a yardstick) to briefly below $US100/bbl, it has since recovered to around $US107/bbl.

The point investors should note is that while equity and currency markets are ‘enjoying’ a wild ride, the same cannot be said for commodities, and the key measures of world trade such as the BDI.

What we appear to be watching in those two market categories (financial assets versus commodities) is the difference between the Western and Eastern worlds.

More specifically, we’re watching the difference between that part of the world with money, and the part in debt.

Luckily for Australia (again) we’re in that quadrant of the globe that is getting richer and wants more of what we supply.

EU perils

THERE is, of course, another bellwether that cannot be ignored in any analysis of what’s happening in the world – the price of gold.

Half currency and half commodity, gold straddles the world in every sense of the word; it is a link between the financial chaos of the West and the stability of the East.

However, gold is also a measure of trouble ahead because the people buying gold (and that includes a number of the world’s central banks) sense that the grand European experiment is rapidly unravelling.

Whereas a few years ago, talk of the European Union (EU) dissolving back into its separate country entities was unthinkable, today it is being openly discussed with the catalyst for the break-up the astonishing unilateral action of the European Central Bank (ECB) to buy the debts of troubled EU members.

Once started it will be very difficult for the ECB to stop this process of propping up members in trouble with their debts as speculators pick off the European dominoes, forcing the bank to spend more money which it simply does not have but must create like magic by firing up the printing press.

Half of Europe – the failing bit which includes Greece, Italy, Portugal and Spain – thinks an ECB equivalent of the magic pudding is a terrific idea. The other half, especially Germany, which suffered terribly from hyperinflation in the 1920s, thinks it is a terrible idea.

So the question emerges, who quits? Will Greece and Spain retreat to the currency comforts of the drachma and peseta and enjoy the benefits of a floating exchange rate like Britain, or will Germany cut itself adrift and return to its beloved deutschmark?

The answer to those questions will become clearer over the next six to 12 months, though from an Australian perspective it is essentially irrelevant, except to look forward to an affordable holiday in the Greek islands where the Aussie dollar will buy an awful lot of ouzo should the drachma return.

Bank buster

HERE’S a sign of tougher times, though not because of what’s happening on financial markets, more because of increased government regulation and intrusion into the way business works. A bank in Texas is handing back its licence.

What’s driven Main Street Bank of Kingwood, Texas, to quit banking (in an orderly fashion) is that the owners can’t be bothered filling out government paperwork and answering to faceless bureaucrats.

What the chaps behind Main Street propose to do is dump the ‘status’ of being called a bank and effectively become a second-tier financier.

The switch means that Main Street’s funding costs will rise, and it will no longer have an implied government guarantee, but it will also be able to charge a lot more for its loans and fill out far fewer government forms – something that might one day appeal to Australia’s junior banks.


“Gentility is what is left over from rich ancestors after the money has gone.”
John Ciardi



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