Tuesday's Top 10 with NZ Mint: How China's subsidies and exchange rate manipulation skew 'free' trade; Traffickers choose baby formula over heroin; Peak fossil fuel demand; Taibbi on swaps rigging; Dilbert

Here's my Top 10 links from around the Internet at 10 am today in association with NZ Mint.

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

See all previous Top 10s here.

My must read is #9 from Matt Taibbi  on swaps market rigging.

1. Subsidised China - The Economist points to a new book about the subisides China's government pays to its industries.

It's not something we hear our government complaining about in its trade relations with China.

It could be argued it doesn't matter much for us, given we produce milk powder China wants and can't produce on its own. 

Yet.

We keep forgetting China is a communist country that doesn't give two hoots about a free and fair market.

It routinely manipulates its currency and has been intervening again heavily, as noted in a recent critical report by the US Treasury.

We're pretty naive in New Zealand. We see China in the same way we see ourselves: competing fairly to build companies and profits. China sees its own interests as national interests and that's how the various players often see their role -- to serve the national interests.

Here's the Economist:

On their conservative calculations, China spent over $300 billion, in nominal terms, on the biggest SOEs between 1985 and 2005. This help often came in the form of cheap capital and underpriced inputs unavailable to international rivals. The glass industry got soda ash for a song, for example. The auto-parts business got subsidies worth $28 billion from 2001 to 2011 through cheap glass, steel and technology; the government has promised another $10.9 billion by 2020. The subsidies to the paper industry topped $33 billion from 2002 to 2009. All industrial SOEs benefited from energy subsidies.

The harm done by these subsidies to foreign competitors is ably chronicled by the Haleys. Rivals are forced to go up against national champions that enjoy subsidised inputs and seemingly free money in markets that are protected. Worse yet, the bosses of Chinese SOEs are not in business principally to make a profit: they are often encouraged by the government to pursue other goals, such as resource acquisition, foreign policies and technology transfer, regardless of cost.

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2. The financial risks in China - Bloomberg reports China's leaders are becoming worried about the growing financial risks building inside China as recent growth came more from credit growth than real growth.

China’s top leaders said the country must guard against financial risks and boost consumption amid signs that the recovery in the world’s second-biggest economy is faltering. “China needs to cement its domestic economic growth momentum and guard against potential risks in financial sectors,” the Politburo Standing Committee said in a statement late yesterday published by the official Xinhua News Agency. Macro-economic policies should be stabilized and micro controls in some sectors should be loosened, it said after what Xinhua said was a “special session” on the economy.

The Politburo Standing Committee pledged to accelerate the establishment of a standard local government financing mechanism after “explosive” growth in local debt raised concerns about the financial health of the economy, according to Xinhua’s report which didn’t give more details.

Greater efforts are needed to bring out the potential of domestic consumption, according to the statement. While focusing on improving the quality and efficiency of economic development, the country should maintain a proactive fiscal policy and prudent monetary policy while making them more targeted, it said.

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3. An outraged mob in China - The Guardian reports on how an outraged mob outed an official for a luxurious dinner. He was later sacked, despite begging for forgiveness. The new leaders in China are really cracking down on any signs of official extravagance.

Zhang Aihua did what he could to appease the outraged mob that burst into his private party, shocked as they were to witness tables strewn with rare Yangtze river fish and imported wine. He knelt on a table, picked up a loudhailer, and begged for forgiveness.

As the Communist party boss of an industrial zone in Taizhou City, in the south-east of Jiangsu province, Zhang probably knew that this revelation of official profligacy would cost him his job. "I was wrong tonight. Please forgive me. I'll do anything if you let me go," he pleaded, according to state media.

But his pleas went unheeded. When Zhang was fired on Monday, he became the latest victim of president Xi Jinping's frugality and anti-corruption drive – an effort fuelled in no small part by an exasperated public set on exposing the country's extreme wealth gap with mobile phone cameras and microblogs.

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4. Baby formula trumps heroin - Bloomberg reports on the desperate measures some Chinese are taking to get their hands on tins of baby formula after Hong Kong limited exports to two tins per person.

For border officials in Hong Kong, baby formula trumps heroin. Since the former British colony on March 1 restricted outbound travelers to two 2-pound cans each, a syndicate has been cracked and more people have been arrested for smuggling milkpowder than were detained all of last year for carrying heroin.

The reason? Mainland Chinese demand, fueled by distrust of locally made food after product-safety scandals that included the deaths of at least six babies due to tainted milk. The U.K. and New Zealand are among countries with limits on milk sales as bulk purchases of brands such as Danone (BN)’s Aptamil and Mead Johnson Nutrition Co. (MJN)’s Enfamil caused local shortages.

This detail is interesting. Fonterra is not on the list of big brands in China. Why not?

Sales of baby formula in China grew 29 percent to 95.2 billionyuan ($15.4 billion) last year, more than four times the size of the U.S. market, according to industry analyst Mintel Group. Milk powder retails at higher prices in mainland China, which excludes Hong Kong, Macau and Taiwan. The country’s top five international sellers of formula -- Danone, Nestle, Mead Johnson, Abbott Laboratories (ABT), and Wyeth LLC (WYE) -- will increase their market share by 5 percentage points this year to about 55 percent, China Market Researchestimates.

5. Creative destruction and the economy - Steve Keen writes at Macrobusiness about the debate now raging among economists after the Global Financial Crisis about the nature of economies, financial systems and stability. Well worth a read.

A defining feature of mainstream economic modelling is the belief that the economy is stable: given any disturbance, it will ultimately return to a state of tranquil growth. Mainstreamers argue over how fast this will happen: Chicago/Freshwater /New Classicals argue it adjusts instantly, while Saltwalter/New Keynesians say it will take time because of ‘frictions’ in the economy’s adjustment processes. But they both take the innate stability of the economy for granted, and this belief is hard-coded into their mathematical models.

This stability is also seen as a good thing – so much so that anything which obstructs it being achieved should be removed. They argue over policy in a crisis like the world’s current one, with New Classicals falling firmly into the ‘Austerians’ camp while New Keynesians favour fiscal stimulus, but they speak almost as one in favour of eliminating monopolies, reducing union power, deregulating finance – or they did before the financial crisis came along.

One would think that after as disturbing an event as the Great Recession – and let’s call it as it is now, the Second (or perhaps Third) Great Depression in Europe – that this belief in the innate stability of capitalism might be at least reconsidered by the mainstream. But though they’re willing to tinker at the edges, their core vision of the economy as being either in or near a stable equilibrium remains an unchallenged mantra.

I come from a different tradition that sees the economy as inherently unstable, and which regards this instability as both creative and destructive. Schumpeter famously gave us the phrase “creative destruction” to describe the process by which capitalism develops new products and new institutions, and my work builds on his and that of his most famous pupil, Hyman Minsky.

6.  'Peak fossil fuels closer than you think' - So says the founder of Bloomberg New Energy Finance, Michael Liebreich, here at Bloomberg. The chart is fun too. He argues demand for fossil fuels will peak, rather than supply.

The last comment about slowing electricity demand is particularly relevant for Mighty River Power investors.

“By 2030, the growth in fossil fuel use will almost have stopped,” Liebreich told renewable-energy investors yesterday at the BNEF 2013 annual summit in New York. “We’re told that it needs to happen by 2020” in order to prevent irreversible climate damage. “That won’t happen. But by 2030, it pretty much will.”

It’s not an easy thing to project. By 2030, the global middle class is expected to grow by two-thirds. That’s 3 billion more shoppers who will want access to cars, bigger houses, cloud computing -- more energy. Energy growth will continue, just not fossil fuels’ contribution. Investment in new energy capacity will double by 2030. About 73 percent of that investment, or $630 billion annually, will be devoted to renewable energy, according to BNEF.

In order for 'peak fossil fuels' to occur, the rapid adoption of renewable energy worldwide must be sufficient to supply the rising energy demand, especially in emerging markets like China, India and Brazil. China is now the world’s biggest investor in renewable energy, investing $65.1 billion last year in new capacity, compared with $35.6 billion in the U.S.

Fuel-efficient technologies are also working to slow demand growth. Advances in energy efficiency have foiled attempts to forecast electricity demand in countries like the U.S. and Australia since 2005, Liebreich said. Every year, the forecast for energy consumption has been reduced, and every year actual electricity demand has come in even lower due to more fuel-efficient cars and power-saving buildings. Liebreich sees energy-efficiency adoption a new normal.

7.  The race for one buyer - New Zealand is having its own debates at the moment about creating single buyers to create some market power to overcome or extract excess profits or benefits being obtained by other parties. Labour and the Greens are trying it with NZ Power. The meat industry is trying it with 'Meat Fonterra'.

Here's Reuters reporting that China is now trying to create a single buyer for iron ore to avoid getting hammered by the market power exercisied by the likes of Rio Tinto (!), Vale and BHP. The idea that companies and countries are happy with level playing fields and 'free' markets is a myth. Companies and countries will (and arguably) should do all they can to fight fire with fire. We live in a world where there is just the strong and the weak. Fair has nothing to do with it. 

The conclusion is we must build market strength wherever possible. Hence Fonterra.

 China will refuse to grant new licenses to iron ore importers unless they participate in a domestic trading platform, in a fresh move by the world's biggest iron ore consumer to wrestle pricing power away from global miners.

China, which buys around two-thirds of the world's 1-billion-tonne plus sea-borne iron ore, has been attempting to regain the upper hand in pricing the steel making raw material since grudgingly accepting an industry-wide shift to spot pricing after four decades of a yearly-set price ending in 2010.

Under new rules, traders and steel mills seeking a new license to import will now have to trade at least 551,155 tons of iron ore on the platform set up by the China Beijing International Mining Exchange (CBMX), a document on the regulations obtained by Reuters showed. Only Chinese firms are eligible for import licenses.

8. Don't trust fund managers - Here's Charles Hugh Smith pointing to research showing that index funds beat actual fund managers 99.6% of the time over a 10 year period. HT Darryl. I liked the use of the phrase 'neofeudal debtocracy'.

Frequent contributor B.C. recently screened 24,711 funds on Yahoo Finance's fund screener and 17,785 funds on the Wall Street Journal's online screening tool. The results were sobering, to say the least: using a basic set of criteria, the first screen turned up a mere 5 managers who beat the S&P 500 index over five years. Using a slightly different set of criteria, the second screen found 71 funds out of 17,785 outperformed the index over ten years.

That's .4% of managed funds, i.e. an index fund beat 99.6% of all fund managers.
 

So what do we get for investing our capital in mutual funds and hedge funds? The warm and fuzzy feeling that we've contributed the liquidity needed to grease a monumental skimming operation. Ten out of 10,000 is simply signal noise; in effect, nobody beats an index fund.
 

The entire financial management industry is a rentier arrangement: they skim immense profits and return no productive yield at all. This is of course a key characteristic of the neofeudal debtocracy that is the U.S. economy: various cartels and state fiefdoms operate rentier arrangements that skim a percentage of the national income, protected by the state and endless PR from any market forces or transparency.

9.  Another beautiful Matt Taibbi rant laced with research - This time he looks at interest rate swaps. HT many

Libor already affects the prices of interest-rate swaps, making this a manipulation-on-manipulation situation. If the allegations prove to be right, that will mean that swap customers have been paying for two different layers of price-fixing corruption. If you can imagine paying 20 bucks for a crappy PB&J because some evil cabal of agribusiness companies colluded to fix the prices of both peanuts and peanut butter, you come close to grasping the lunacy of financial markets where both interest rates and interest-rate swaps are being manipulated at the same time, often by the same banks.

"It's a double conspiracy," says an amazed Michael Greenberger, a former director of the trading and markets division at the Commodity Futures Trading Commission and now a professor at the University of Maryland. "It's the height of criminality."

10. Totally Jon Stewart on gun control and the Australian example. John Howard deserves a lot of credit for this. I was a political reporter in Canberra at this time and Howard took on big opponents and won.

Watch out for the Ninja Police.