The European Union has ordered AMAZON to pay about 250 million euros ($294 million) in taxes to Luxembourg, saying it was given an unfair tax advantage from 2003 because it paid less than they would have paid in France or Germany. The EU is retroactively changing taxes. This is a sure fire way of telling companies to get out of Europe. If no matter where you build your plant, if you would have been paying a higher tax in France or Germany, the EU says that is not fair and you have to pay more in BACK TAXES.

In restructuring companies, taxes were always NUMBER ONE after Country Risk. The EU has just made Country Risk paramount. Honestly, I would have to advise companies NOT to set up shop inside the EU. Best to go to the UK and pay any tariff than to be retroactively taxes because the EU is broke. This is introducing a whole new risk into the mix. The EU is becoming a no-go-zone for business.

It is now too risky to business in Europe for they are changing the rules retroactively.

COMMENT: Marty; I get these emails about gold and have to wonder how people can keep preaching the same thing for decades and never be correct once. Not they say in a very simplistic manner that  Politicians argued that endless trade deficits were immaterial because U.S. exceptionalism allowed America to do what it wanted. If foreign leaders refused to accept dollars for commerce as Saddam and Gaddafi did, the U.S. used its military might and CIA for regime changes. Even the strongest adversaries like China and Russia cannot compete against U.S. weapons of mass destruction, so they are increasingly engaging in currency wars of their own to protect their national sovereignty. Is the dollar in trouble as a result?

They seem to advocate the collapse of the USA is necessary so they can make money on gold. Like you said on Global Warming, they want to reduce the population so a good thing would be to stop having children without thinking the birth rate is down so pension are collapsing.

What you have shown is none of this nonsense is necessary for gold to rise and that trade is a tiny fraction of capital flows. Are these people just mindless? The dollar is the lynch pin holding everything together. Here in Europe we have a lot more problems than the USA. BitCoin crashed because the Chinese were fleeing to dollars trying to get their money out of China.

REPLY: This is the classic problem in analysis. You fit the fact to your predetermined conclusion. They keep praying for the collapse of the dollar to make gold go up. The problem is then, if everything collapses, what good is gold if you cannot spend it because nothing has survived?

Very strange theory. BTW, Saddam and Gaddafi did not reject dollars. I even managed money for Muammar Gaddafi TWICE. He had no problem pouring millions of dollars into accounts to trade. I also knew Milton Friedman who advised that a floating exchange rate would provide a check and balance on the system where fixed exchange rates . The trade deficit is offset by the capital account reflecting investment. In fact, if a foreign entity BUYS American debt, that inflow goes into the capital account – not trade account. However, the interest payments go out in the Current Account commonly called the Trade Account. There do not even understand the accounting.

The more foreign investors come into America and the repatriate their profits, the “trade deficit” will appear to get worse and it has NOTHING to do with trade.

QUESTION: Do you you really think Trump would let the Central Banks Default? He said we would write off PoteRicos debt maybe he plans to write everything off can he do that? If this really did happen wouldn’t the dollar be worthless?

S

ANSWER: It seems as though far too many people ASSUME that all central banks were created EQUAL. Sorry – that is just not the case. These people who do not really know what they are talking about assume that just because the Fed has the power to create elastic money, that therefore the ECB can do the same thing. SORRY – WRONG!!!!

There is a substantial difference between the Federal Reserve and the European Central Bank (ECB).
The accounting at the Fed allows for it to CREATE money as needed. Now the fiat crowd will argue that the Fed can just create money in a very ELASTIC money supply. This is true and it was intended from the very outset that when economic declines appeared, the leverage within the system would implode and thus to ease that contraction in the supply of money. Hence, the shortage of money resulted in defaults and assets decline in value relative to the contraction in money supply. Therefore, the Fed was created with the power to create ELASTIC money based upon the system of Clearing House Certificates that had pre-existed during the 19th century. The Clearing House  would issue its own money and then after the crisis, that money was retired – hence the term ELASTIC.

So how does this contrast with the ECB? Here in lies the problem. The ECB is NOT authorized to create
an ELASTIC MONEY SUPPLY. Germany would never allow that. Consequently, the ECB cannot continue to just buy-in sovereign debt of member states as the market forces come down upon them. The ECB, unlike the Fed, will run out of money and then there will be a very public crisis whereby the ECB will have to be recapitalized. I wrote about this before in Federal Reserve v ECB.

I warned back then that “Something will have to give in Europe.” The ECB was granted a ceiling to buy in government bonds. It cannot just print money with no end in sight. It must get approval, which the Fed does not require from Congress. The two are completely different animals.

On top of this, each member state retained its own central bank. Each member bank issues euros in their domestic economies. You can collect euro coins from each central bank – the ECB does not issue them.

Then the reserves of the European banking system had to be politically correct and the reserves were composed of all member bonds. Why? Germany opposed a single European debt issue.

Now, the Fed bought in $4 trillion against $20 trillion and the debt was only federal. The ECB bought the worst debt and now owns 40% of the total debt of the Eurozone members. Why is the ECB in danger of a default?

If there is a disagreement in Brussels, then the ECB runs out of cash. As interest rates rise, the value of its balance sheet will collapse. The ECB cannot sell the debt back to the market for there is no bid. To try to support the debt market, Brussels made it illegal to short government debt. Hence, there is no free market in European sovereign debt. If the ECB bought 40% of all debt, who is going to buy it when they stop?

This is a completely different perspective v the Federal Reserve which will just let its US federal debt holdings mature and expire. They too cannot sell the debt or interest rates would explode.

Welcome to the reality of the crisis. NOT all central banks were created equal. Those who paint them all with the same brush know nothing about what they are talking about. The ECB claims it cannot go bankrupt because it will just issue more money. The fact that they have even stated that demonstrates there is a huge problem. That depends upon one thing – approval from the politicians to issue more money.

I meet with central banks directly! This is comments about a field I only read about in the newspapers. I am not even sure the newspapers ever reported the actual differences between the central banks.

Governments are NOT a single entity. Central Banks are far too often on the opposite side of the table with the Political side of government. It is far more complicated than most people would ever guess

Saudi Arabia may actually be exiting OPEC. There are serious discussions about floating the state owned oil producer Aramco. Saudi Arabia attempted to get other oil producers around the world to agree to reduce production. Saudi Arabia is looking to float Aramco if the other producers fail to agree to cut production. The problem is that OPEC cannot reverse the trend in motion.

Why is the bill so high from the EU to Britain to exit the EU?  It’s the Pensions. The EU pensions for government employees is rising dramatically. This is why the exit bill is climbing so high. They expect Britain to pay up for pensions of other EU politicians. Hm. It’s always about them! Curious!

Central banks do not play games with the markets but it sure feels like we are being played by someone! Earlier this year the Bank of Japan, Federal Reserve and the European Central Bank all had similar balance sheets at around $4.5 trillion.  As we know, over the past ten years all three have risen from lower levels but have seen faster expansion by the BOJ and the FED gaining pace to now catch the ECB. Foreign exchange rates are always subjected to inherent volatility that is thrown into the mix. However, given the recent extremes on all fronts, there has been uncanny similarity around end of Q1’ 2017.

Typically, a central bank balance sheet would off-set Assets against Liabilities and capital.

On the assets side would sit: –

(i) Net domestic assets, and
(ii) Foreign assets.

Liabilities would list: –

(ii) Non-monetary liabilities (Central bank securities and other), and finally

(iii) Equity Capital

(iv) Reserve money (currency in circulation and those of commercial banks)

In times of crisis it is common the central bank assumes the role of lender of last resort. Assuming the crisis was 2007/8, then it should be normal to expect the balance sheet to now shrink back to the levels of the pre-crisis era. However, we have heard many comments recently from the FED about re-normalizing their balance sheet but the BOJ and ECB are set to carrying-on for the foreseeable future.

Focusing now on the first two, BOJ and FED, the process is so much simpler because much of the debt is consolidated and displays a meaningful explanation of their economies. The heavyweight here is the BOJ with assets held close to 100% of GDP but the risk here could be off-set by the currency. Japanese debt is held domestically because of the currency controls. Hence, the yen could collapse to devalue the debt fairly easily once the markets wake up and smell the roses. The FED never came close to absorbing the full national debt or a percentage of GDP as has taken place in Japan or Europe.

Turning to Europe, the equation becomes far more complex when you consider the case for the European Central Bank. Since they initiated the APP (Asset Purchasing Programme) we have seen a need to follow cash within the components of the ECB itself. Within the European structure each central bank buys their own debt in relation to the size of their economy. The guidelines covering this activity are entitled Target2 and are easily found on the ECB website. What should be monitored closely is the trading between sovereigns, the rates at which all are traded, who the counterparties are (where they are located both domestic and international), and FX forwards’ trades that match the transaction dates. In many cases the NIM (Net Interest Margin) for many banks looks terrible but that is because the profit will appear in the FX books (which is the other side of the trade). Many reasons for the discrepancies’ from following the cash to liabilities, but Target2 and the concerns surrounding this are only recently starting to make some take a closer look.

Much has been published about Target2; so, let us concentrate on the fact that both Spain and Italy owe Germany around $400bn each. Neither the BOJ nor the Federal Reserve have this problem (internal macro issues) so from this angle alone there should counterparty risk that must be factored in. However, as we know the 10yr Bund (0.45%) trades around 185bp through treasuries (2.30%) and even Spain and Italy are negative 70bp (1.6%) and negative 20bp (2.10%) respectively. In short, we are seeing Spanish and Italian domestic investors moving away from government bonds thereby aiding capital outflow. This is fine for individuals and Spain/Italy but is just moving the risk up the food chain.

As we know the ECB owns around 40% of the European government bond market as we currently stand. Obviously, at these spreads the market is hardly reflecting appropriate risk and questions the likelihood of any easing without having a huge implication on both spreads and risk. The question should also move to counterparty risk for not just Germany but ultimately the ECB!  Maybe they should read their own recently published report (ECB guide on materiality assessment – 25^th September 2017) as they increase the awareness of counterparty risk and the Credit Valuations Adjustment, they are not applying that to themselves.

QE has broken the capital markets, distorted risk and has sheltered geographies from the true effects of capitalism. If the central banks were playing poker you could say the ECB has just gone “All In” – its just a question now whether the markets call their bluff or fold.

What we are looking at is the risk of actually central bank defaults. This has not taken place since the defaults of government central banks in Amsterdam and Sweden.

QUESTION: Hi Martin, I recently asked an Economist for a major Financial Institute the following question. Will the Fed continue to pay interest on “excess reserves” after they start to reduce their balance sheet? Their answer was yes, as it is a way to control short-term rates for private sector borrowers. I am not able to reconcile that answer with my understanding (maybe limited) of “excess reserves”. As always thanks for your continued input into my real life education.
Looking forward to another informative November Conference.

GH

ANSWER: I really do not understand that reasoning. It reflects a complete and utter failure to comprehend the system. Any pretend control over short-term rates seems to be absurd and would be opposite of the stated objectives of the Fed to return the bond market to the private sector. The Fed created excess reserves because they were buying the long-term debt and banks had no place to park money if the Fed bought the debt. So if the Fed allows its holding to expire and is no longer buying debt, then who would buy the debt if the banks still park the money at the Fed?

All our major banking clients in Europe are sending cash to their US branch and they in turn park it at the Fed so they are avoiding the negative rates if they park the cash at the ECB. This response illustrates that the establishment has still not figured out we are in a global economy.

It is IMPOSSIBLE for the Fed to “manage” the domestic economy because of the deflation spiral outside the USA. The Fed has become the world central bank as the IMF and everyone else lobbies the Fed not to raise rates because it will adversely impact other nations.

How can we even cope with the events to come when those in the establishment have no trading experience and only read books subscribing to old theories designed under a fixed exchange rate system? There is just not much hope that government will ever do the right thing. They have become the source of our nightmare.

The Fed will not end the Excessive Reserves instantly because they do not even fully comprehend what they have become. We will see a natural decline as rates rise in the marketplace. This could become the alternative to bonds during a crash and the Fed would have to recognize that they are now competing against the Treasury by keeping this facility open. Eventually, they will be forced to close it down once they understand how it is being used internationally.