Monday's Top 10: Digital displacement; Barclays as master manipulators; a mega trend; sanctions working?; skewing the findings?; George Carlin; Dilbert, and more

Here's my edition of Top 10 links from around the Internet at 10:00 am today. We now have a Monday-Wednesday-Friday schedule for Top 10.

Bernard will be back with his version this Wednesday. We will have another guest posting on Friday.

As always, we welcome your additions in the comments below or via email to david.chaston@interest.co.nz.

See all previous Top 10s here.

1. The digital displacement of labour
Unless you are willing to pay more for an inferior product you need to wait for, your current buying habits are driving an amazing transformation.

I was going to say that Michael Spence has been thinking about the future of supply chains.

Actually he is recording what is starting to happen in the present.

Your cell phone (about to become an amazingly powerful computer) is your ticket into this world.

Lots of traditional jobs are going to be lost. New ones will be available to the adaptable. Be thankful New Zealand's core competency is food.

Here is Spence:

The world we are entering is one in which the most powerful global flows will be ideas and digital capital, not goods, services, and traditional capital. Adapting to this will require shifts in mindsets, policies, investments (especially in human capital), and quite possibly models of employment and distribution. No one knows fully how all of this will play out.

The driving force in this round is cost reduction via the replacement of labor.

This transformation has important side effects. For physical goods, there are costs associated with logistics and lead times, owing to inventories and poor forecasts of the market. With digital capital-intensive technology, however, production will inevitably move toward the final market, wherever it is. This re-localization constitutes a major shift in the structure of global supply networks.

An extreme form of this may be coming in the form of 3D printing, a technology that makes it possible to produce an astonishingly wide and growing range of products by printing them one layer at a time. Examples include buildings, athletic shoes, designer lamps, aircraft wings, and much more.

As the costs of this technology decline, it is easy to imagine that production will become extremely local and customized. Moreover, production may occur in response to actual demand, not anticipated or forecast demand.

In some sense, this represents the ultimate compression of supply chains, as firms produce to final demand with minimal delay.

2. 'A market that's always manipulated'
Matt Levine at Bloomberg shows how amazingly easy banks manipulated the London gold price fixing.

As he points out, British bank Barclays started manipulating the gold price as soon as it stopped manipulating Libor.

The result from regulators? A fine. Barclays are still in business. Go figure.

If you were writing a paranoid fantasy of gold price manipulation you'd be hard pressed to come up with something more on the nose than the U.K. Financial Conduct Authority's order against Barclays. It has everything; it is the benchmark of manipulation by which all future manipulation will be measured. Well, this or Libor. Delightfully, this manipulation occurred on June 28, 2012, the day after Barclays was fined 290 million pounds for manipulating Libor. They just really wanted to perfect their manipulating technique.

And oh did they! For starters, they manipulated the most manipulable thing imaginable: Digital options. Former Barclays precious-metals exotics trader Daniel Plunkett, who also settled with the FCA (for a £95,600 fine and an industry ban), sold a customer a digital option that would pay $3.9 million if the 3 p.m. London gold fix on June 28, 2012, was above $1,558.96, and zero if it was at or below that barrier.2 So right there the temptation is obvious: If you're around the barrier, you can save $3.9 million by pushing prices down just a little bit.3 As it happens, the gold price on June 28 was just above the barrier, so a bit of selling by Plunkett could move his client out of the money and make him a bunch of money.

In normal liquid markets, doing a bunch of selling to push the price down is an uncertain thing - there might be buyers! - but this was not a normal market. This was the London gold fixing process, which everyone thinks is always manipulated. And for good reason: It's five banks, getting on the phone, talking about what the price will be, and adjusting their trading based on that information. And the description of what went on during the June 28 call will not improve your view of the process.

3. 'A mega-trend for sovereign risk'
Standard & Poor's has recently rated New Zealand as intermediately vulnerable to the effects of climate change, the highest ranked 'developed country' in their assessment. (link requires registration.) Among other things, they ranked nations based on the percentage of their population living below an altitude of 5 metres, their share of agriculture in total economic output, and their ranking in the GAIN Vulnerability Index, (a measure developed by the University of Notre Dame that measures countries’ vulnerability and readiness to deal with climate change). It was our dependence on our rural sector that had us high in their risk assessment.

Perhaps we should be prepared for a downgrade - and a higher cost of money borrowed.

The full table is an interesting read, but if you don't have time to go there, this chart is the quick summary:

4. Buying insurance against climate change
If we can't prevent the impact of climate change, perhaps we should start insuring against the risk of it affecting 'us'. (A twist on the 'think global, act local' bumper sticker.) Clearly, the impact will vary around the world and there will be 'winners' as well as 'losers'.

Robert Shiller thinks that if societies don't have the will to act in a concerted way in advance, then the financial markets might be able to step up and help us share the costs that will eventuate.

In short, we need to worry about the potential for greater-than-expected disasters, especially those that concentrate their fury on specific places or circumstances, many of which we cannot now predict.

That’s why global warming needs to be addressed by the private institutions of risk management, such as insurance and securitization. They have deep experience in smoothing out disasters’ effects by sharing them among large numbers of people. The people or entities that are hit hardest are helped by those less badly damaged.

Fortunately, we aren’t too late to take action to insure against some climate risks. And yet this has not been a major element in most of the climate debate.

We already have weather derivatives that can help, like the 50 contracts in 13 countries offered by the Chicago Mercantile Exchange. A ski resort can already buy protection against inadequate snowfall and a city can buy protection against too much snowfall next winter by, in effect, taking the opposite side of the same futures contract (through the exchange), thereby pooling their opposite risks. There are also catastrophe bonds, like the three-year, $1.5 billion Everglades Re Ltd. issue sponsored this month by the Citizens Property Insurance Corporation. It would provide relief to the insurer of Floridians hit by a bad hurricane; in such an event, the bond holders would bear losses.

But there is a problem with instruments like these: They tend to focus on relatively short-term risks, and don’t hedge against the increasing cost of disasters over distant future years. Yet if the problems of global warming become more serious, they will very likely be long-lasting, raising some complex, tough-to-quantify issues. 

5. What would you have done? (honestly ...)
News from the real world outside of banking ...

Guasti told The Associated Press on Thursday that she and her friends had bought the beat-up couch and a chair for $55 at a Salvation Army thrift shop in March. They noticed the arm cushions were weirdly lumpy. Then, one night in April, one of them, State University of New York at New Paltz student Reese Werkhoven, opened a zipper on one arm and found an envelope.

It contained $4,000 in bubble-wrapped bills.

Guasti, Werkhoven and roommate Lara Russo opened the other arm zipper and started mining the treasure stashed inside. They counted it up: $40,800.

"Honestly, I was a little overwhelmed," Russo said. "I wanted to put it back in the couch and like re-find it in the morning when I can process it better."

What they did next is the interesting thing. They tracked down the owner who had been hospitalised, and while in there her family had done a cleanout of her house.

6. Perhaps sanctions are working
Overnight, Vladimir Putin acknowledged that US and EU sanctions are actually hurting Russia. The cost of annexing the Crimea is hitting Moscow policy makers suggesting they underestimated the risks in their gamble. This is from a Sunday Reuters report and is a lot more conciliatory than we have heard before. Tensions may in fact ease.

"A civil war is raging through Ukraine. But why are we the ones who are being blamed for this?" Putin asked at one point, venting his frustration with a situation in which he portrays Russia as misunderstood and not treated as an equal.

Such thinking is now pervasive in the Russian political establishment but so too is the growing sentiment that the sanctions, mainly visa bans and asset freezes on individuals and companies close to Putin, are having a serious effect.

Putin acknowledged this more openly than previously, saying: "The sanctions ... are having a real impact."

Russia is sliding into recession and capital flight has accelerated this year as the crisis in Ukraine caused the biggest East-West standoff since the Cold War.

"We are not planning any self-isolation," Putin said, proposing dialogue and cooperation to show that Russia is open for business and, perhaps, to head off more sanctions.

"We hope that common sense ... will prompt our European and U.S. partners to work with Russia."

Asked whether Russia will recognize the legitimacy of Sunday's presidential election in Ukraine, he also sounded conciliatory, saying: "We will treat the choice of the Ukrainian people with respect."

7. One way to spur lending
The ECB is getting ready to introduce a negative interest rate at its next meeting on June 6 (NZ time), according to Spiegel Online.

It is now expected to cut its main policy rate from +0.25% to +.015%.

The bank also wants to introduce a negative rate on bank deposits of -0.1 for the first time in its history. The ECB's deposit rate is currently at zero, and a further cut would mean that banks would effectively have to pay a fee to park their money. Normally they would be paid interest to do so. Under the new punitive rate, if a bank were to deposit €100 million in a central bank account, the ECB would withhold €100,000.

The measure is aimed at encouraging banks to lend money rather than park it at the ECB. It is hoped the move will prevent the kind of credit crunch and freeze in lending seen during the height of the euro crisis, when private and corporate loans all but dried up.

8. Grow up
In the car on Friday night I listened to National Radio program, Focus on Politics which explored youth unemployment. Parts of it were truly silly, shamelessly glossing over really important trends and delving into the apparent long term damage of hurt feelings by being on a youth rate. I kid you not.

I have looked at the data on this before but thought it would be useful to revisit it, now that one year has passed since the re-introduction of youth minimum wage rates.

When they were first removed in April 2008, unemployment by 15-19 year olds skyrocketed. The GFC no doubt compounded the problem, but it proved to be a huge own-goal. Since youth rates were reintroduced in May 2013, we have seen a relatively quick market response. Youth unemployment is now back to levels last seen in 2009 when they were rising frighteningly fast. They now seem to be falling quite quickly, but for almost eight years there has been considerable damage wrecked. 

15-19 year olds in the labour force are not in education. At March, 108,000 were working, 31,000 weren't. 360,000 were in education. The 31,000 who are unemployed are called NEETs - not in employment, education or training. From the chart, their unemployment levels are currently about 22%, down from a high of 30.9%.

But what the RNZ reporter and her 'guests' ignored was that far from being a permanent scar for most, the unemployment rate nearly halves when this 'youth' group grows up. When they are 20-25, the unemployment rate is less than 12%. By the time they are in the 25-29 age range it is just 6.5%. Actually, by the time they grow up, those rates will likely be even lower because they are falling quickly in 2014.

Of course (and this may seem a bit obvious), if you consider those 15-19 year olds 'employed' in their education, over the whole 499,000 in that age group then the actual unemployment rate is 6.2% (lower than for 25-29 year olds) - same 31,000 unemployed but without the politically sexy 22% rate.

When reporters ignore the data and just rely on supplied press releases - political press releases at that - their reports can wander into a weird place.

9. Skewing the findings
Remember the problems with some of the work published by economists Ken Rogoff and Carmen Reinhart? Their work claimed to show that excessive debt is in the end a bad place for countries to end up. But that blew up in their face when spreadsheet errors in their research were exposed and Keynesians rejoiced.

Now the FT has done some analytical work on the current fad: Thomas Piketty's Capital. It seems there are similar problems with Piketty massaging his original data to fit his conclusions. More here, and here.

Piketty has now such a head of steam that maybe no-one will really care about the detail. Certainly Piketty doesn't:

Contacted by the FT, Prof Piketty said he had used “a very diverse and heterogeneous set of data sources ... [on which] one needs to make a number of adjustments to the raw data sources."

10. Today's quote
"People who see life as anything more than pure entertainment are missing the point." - George Carlin