Europe On The Rocks …

Unknown photographer ‘Motor Vessel ‘Euro-Bank’ taking on water*


There have been worries of the apocalypse when Greece finally exits the euro. Now that exit is a certainty the ‘system’ is having second thoughts. Everything might be fine, after all.

Here is a view from Greece by way of New York City (Bruce Krasting):


The Greek Diaspora is in full swing. People are leaving the country, old and young alike. They are going to Europe, where the prospects of jobs stink, but not as badly as in Greece. They are also fleeing to America (family members in the US have been helping out), Australia (where some are welcome) and South America.

The talk is that the Greeks are becoming the new Palestinians. They leave their homes, as there is no future there, but all the time they wish they never left.

As the shops close and the people leave, the economy shrinks. My Greek friend is convinced that government revenues are collapsing as a result. Whatever estimates the Troika were looking at six-months ago are pure fantasy today. The country is imploding.

People are feeling hopeless, and the situation is getting worse. In this fellow’s opinion, there is not a chance in hell that Greece will avoid a default. Two years ago there was a general belief that Greece could manage through a crisis, and avoid defaulting and sustain the link to the Euro. That is no longer the case.


Some folks in Greece are heading back to the farm. The rest go to where they can still drive a car, presumably.

Driving cars in Europe has been the problem all along but it would be hard to find anyone who believes that driving a car is anything other than an economic ‘solution’ along with new freeways, new suburban ‘villas’, new vacation ‘homes’, new bunker-like ‘hotels’, new concrete office towers in the place of medieval cities, new high-speed rail, new military hardware, new airports and the rest of the twentieth-century waste icons.

The Greeks will find employment a mirage in other parts of Europe, plus they will be blamed for everything. Not only are the Greeks to be the ‘New Palestinians’ they will be the ‘Niewe Jews’ at the same time.

If there were any Jews left in Europe they would be blamed for everything now. Better to blame automobile manufacturers who are really at fault. They succeed at others’ expense.

Meanwhile, policy is conflicted.

If Greece sinks with an explosion and fire no one else will dare risk exiting the euro. This is familiar ground: “we had to destroy this village to save it”. The euro must be destroyed in order to save it. People will know that the euro has been saved when it vanishes.

If Greece sinks with a ripple rather than a fireball other European nations will take note. At some future time they will pull the plugs on their own debts leaving the so-called ‘strong’ nations holding the Euro-debt bag. If Greece herself does not explode, the rest of the fleet will.

Greece sinking with an explosion will be harsh for lenders. Nothing is static, time waits for no one: depositors race for the lifeboats even as the good ship ‘Euro-banking’ pulls away from the dock. Fleeing deposits require the banks to jettison assets at any price to satisfy depositor demands for funds.

Sacre Bleu! Bank runs are the cause of the ship’s sinking: The ocean leaks out of the ship into the water!

In Europe and elsewhere, assets of rapidly diminishing worth vastly exceed capital. Should these assets be priced to the market the banks are instantly bankrupt. OUCH!

Since the euro is on death’s door, why doesn’t the EU simply forgive Greece’s debts and ‘help’ (restructure) the lenders, bailing out depositors? The answer is that all of the Eurozone debts would have to be forgiven. This would put a ‘dent’ on Eurozone wealth as ‘wealth = debt’ (with one exception) As mentioned previously, industrialization does not pay for itself. It must borrow …

If the debts are forgiven on Monday, new debts would have to be taken on Tuesday in the amount of the old debt so that the economy could function. There simply is no escaping the debts.

The one exception: Steve’s First Law of Economics: the costs of managing a surplus increase along with the surplus until at some point they exceed it. With the Eurozone’s gigantic, pyramided debts, there is far more debt ‘costs’ than there is wealth ‘surplus’. After wiping out all of Europe’s wealth, there would still be massive obligations (costs) remaining on Europe’s books. What happens to them?

This is the precious future reaching back into our present to bite us on the ass …

Always watch what managers do rather than listening to the lies. Nobody dares to restructure because it is impossible. Assets are worthless uniformly across the entire world’s balance sheets, these weigh on liabilities. Writing down non-performing assets annihilates liabilities. Restructuring means shareholders, bond holders and depositors will all be ruined.

The reason all will be ruined is because the authorities waited too long to take action. If the EU had restructured banks and taken losses in 2008 when the crisis began … Europe would now be facing something other than a debt crisis.

The debt crisis is simply the most convenient problem. The next-most convenient is the fuel shortages. Let’s see how the Europeans deal with those!

The latest effort to save the day is for the European Central Bank to rush in and bail the banks with trillions of counterfeit euros. This is bailing with borrowed funds. Instead of shrinking the overall debt load expands massively in a exponential phase change (hockey stick).

First comes a few piddling billions, then a half-trillion, then ten trillion … then a hundred trillion at which point the ECB has to get serious: a billion-gazillion-trillion euros! That’s a big loan! What is supposed to be collateral? Who gets to pay that loan back, the Greeks?

This is why the coin shop on the corner has run out of gold coins. The Europeans didn’t sign on to this future, they were supposed to have robot kitchens, not robot central bankers mindlessly lending quadrillions of euros, rendering them worthless in the effort to make the joke banks worth slightly more.

You can’t make this stuff up. No matter how absurd you think you are you are not nearly absurd enough!

Buying time costs more than it returns: meanwhile, someone has to pay for the time. Because Germans are slightly less broke than the rest of the Europeans, funds to bail out the banks are surreptitiously booked against them. ECB ‘easing’ is a ticking time bomb fastened onto the Eurozone. Everything and nothing depends on Germany’s forbearance (ignorance).

Given the choice, Germany will refuse to finance the mess (it helped create. Think of all those German SUVs in Greece).

If ‘Replacement assets’ are issued by the central bank in sufficient quantities to alter events, these new assets will be worth no more than what they are exchanged for. If you trade ten euros for a bag filled with dog feces, what is ten euros worth? What about exchanging ten trillion euros for a cruise ship cargo of dog feces?

A Greek default is the ‘No Bank Left Behind (In One Piece)’ process. Europe will have to rebuild its banking system from the ground up with new capital. HEY! There is no such thing as collective European capital! This is the putative reason for the crisis in the first place!

Here is the euro compared to the dollar:



Figure 1: Note there is no zero on this chart (from TFC Chartz, click for big).

The euro devaluation is taking place under everyone’s noses. A 50% euro devaluation would theoretically be the same as a 50% Greek devaluation in drachmas, except Greece owes the rest of the world, not Greeks. The IMF, ECB and EU are just bill collectors for Wall Street and City of London lenders/fat cats.

Devaluation won’t render Greece or the rest of Europe’s deadbeat’s club solvent.



Commodities have advanced 15 percent since Oct. 4, rebounding from a ten-month low. Copper, oil and gold may rally this year as economic growth in China and the U.S. offsets the impact of a European recession, Goldman Sachs Group Inc. said in a report last week.

“More and more market players believe that China will implement further monetary easing measures,” Eugen Weinberg, head of commodities research at Commerzbank AG in Frankfurt, wrote in a report today. “This is giving considerable buoyancy to metal prices.”


Speculators are like dogs, they hear the bell ring and start drooling. Ever since the days of Greenspan, economic troubles guarantee shots of Viagra for the speculators. Chris Wood by way of Zero Hedge:


By creating a massive incentive for European banks to buy their government’s debt issuance up to three years maturity, the new ECB leader Mario Draghi is clearly seeking to get control over the direction of Eurozone government bond yields. The dramatic decline in Eurozone bond yields up to three years suggests he is getting some traction (see Figure 1).

It is also the case that absolute-return investors may be tempted to “front run” coming bond auctions if they think the ECB policy is working. On this point, market talk is focusing on an even bigger amount to be borrowed at the next 3-year longer-term refinancing operation (LTRO) due on 29 February. GREED & fear has heard guesstimates of up to €1tn!




Bank of England injects further £75bn into economy.

6 October 2011

The governor of the Bank of England, Mervyn King, tells the BBC that quantitative easing will have an effect.

The Bank of England has said it will inject a further £75bn into the economy through quantitative easing (QE).

The Bank has already pumped £200bn into the economy by buying assets such as government bonds, in an attempt to boost lending by commercial banks.

But this is the first time it has added to its QE programme since 2009. There have been recent calls for it to step in again to aid the fragile recovery.

The Bank also held interest rates at the record low of 0.5%


International Monetary Fund working paper:


the recovery began to slow during the autumn of 2010, prompting the Bank of Japan to embark on a new “comprehensive monetary easing” (CME) policy in October 2010. The CME comprised of three elements: (i) a “virtually zero interest rate” policy, (ii) a commitment to maintain zero interest rates until the BoJ judges that price stability is in sight on the basis of its “medium- to long-term understanding of price stability and (iii) a new asset purchase program, covering corporate bonds, commercial paper, exchange-traded funds (ETFs), and real estate investment trusts (REITs), in addition to government securities, in an effort to reduce term and risk premia.

Following the earthquake, the BoJ doubled the size of the asset purchase program to ¥10 trillion. As a result, the BoJ’s balance sheet, which was already large at about 20 percent of GDP, expanded to about 30 percent of GDP.


Notice how the banks start with accepting government securities as collateral then over time accept feces as collateral: ETFs, REITs, commercial paper, etc.

If everyone else in the world is easing, the Fed doesn’t have to do anything.

The Fed is constrained by fuel prices, now at $110 per barrel without easing. Throwing more cheap loans at debt problems would push fuel prices to the recession level, triggering the event the Fed is desperate to prevent. If others ease, however, The price of fuel in their currencies increases. Here is almost-conservation by other means. More fuel will be made available for the US to waste, car sales will leap like stallions.

Dollars would also become become hot property. The Fed can be sanctimonious while allowing the other major nations’ currencies to depreciate around the dollar.

Analysts insist the Fed must weaken the dollar to support asset prices in the US. Why would the Fed do that? Better to let Wall Street scavengers buy Europe for pocket change.

Once the euro’s decent shows up in the European fuel price the Germans will cry ‘inflation’ and have the excuse they need to exit the Eurozone.

Speculators hold to the fantasy that a German exit will result in a D-mark worth more than the euro. Germany’s exit from the eurozone will also look exactly like a default.

If Greece defaults into drachmas, all the other nations will default into their own versions of drachmas, to settle debts in the new currencies which will have minuscule exchange rate differences between them. The new national currencies will basically be the new euro. There really isn’t much difference between countries, between ‘north’ and ‘south’. All are equally bankrupt, all have massive debts, all are wedded to cars-first transport and fuel waste.

The dollar swap lines allow US investors to buy hammered down EU assets at fire sale prices (in dollars). The more desperate the EU establishments become, the more dollars they take on, the more European collateral is reduced in worth, the more falls into the hands of US lenders. Right now, Europe is bag lunch for Wall Street scavengers. The large cannibalizes the not-quite so large on account of being slightly more credit-worthy. The theme of the last article, ‘Really Bad Ideas Running Amok’ is being played out in real time … for those with the wit to notice.

*Costa Concordia sinking off the coast of Italy, January, 2012

29 thoughts on “Europe On The Rocks …

  1. James

    Trillions more in debt cannot tease more resources out of the ground nor enhance technological efficiency adequately to pay interest on the loans. We are well beyond technological adaptation since changing all infrastructure to conform to a new low-energy flow regime would require the massive amounts of energy that built this great misadventure in the first place. In other words, we can adapt, but we need to re-burn all of the natural gas, oil and coal to so. We will be dropped into a diffuse energy future without the chance to adapt and that contraction/consolidation will occur on a stage whose backdrop is Picasso’s La Guernica.

    Who will glide gently into the future, (the U.S.?), and who will get dropped into the new future on their heads, Greece and others? At least the first ones out will have some residual energy to start adjusting while those that are insistent on continued BAU malinvestment will be more fully digested by mother nature’s pet dragon at a future date. In any case, I don’t think the 1% will be squandering the remainder of their capital on extending the comfortable lives of their draft animals without an appreciable improvement in their own largesse. Does the CEO of Apple want to share some of his $400 million compensation package with the suicidal Chinese workers of Foxconn? I doubt it.

    1. Josh

      @ James – Try to avoid saying “I don’t think” when trying to make a point (“I don’t think the 1% …”). Please use the affirmative “It is my belief that …” instead. You have obviously put a lot of thought into your comment so don’t sell yourself short. It is my mission in life to rid our lexicon of that particular verbal virus. Thank you.

      1. James

        Thanks for the guidance. “I don’t think……….” is common parlance and has no place in my highly refined dooming and glooming. 🙂

  2. Josh

    Steve – the unthinkable has happened. I have become bullish on the price action of the Euro currency. The bearishness has reached a crescendo (Europe On The Rocks), and the chart has revealed a bullish head and shoulders bottom pattern. The EC commercial hedgers are as long as they’ve ever been, and the large traders are as short as they’ve ever been. The commercials have a good track record of getting long at bottoms – expect a massive short covering rally to commence shortly.

    1. steve from virginia Post author

      Way to go Josh! I think you are bullish on the euro the same way I’m bullish on US stocks (short term only). The trigger on the euro would be Fed QE announcement @ next FOMC meeting.

      If euro declines past 1.18 then it is a new ball game.

      1. Sandor

        Funny, I’m ready to short the S&P on Thursday anywhere above 1310 cash (1306 March futures). Downside target of 988-1010. The equity market is at peak complacency re: Eurozone, basically assuming there will be no problem with Spain and Italy. If the Fed QEs too soon, they will send the economy right back into recession. They are in a box canyon. I think they need to let the rest of the world inflate for now and carry the ball.

      2. Sandor

        Got short at 1313 spot S&P this morning. It’s a hard and painful business picking tops and bottoms. If I’m right, the market should stall here, go sideways for a bit, before resuming the downtrend.

  3. Joe Parrette

    There was no debt created with the issuance of the LTRO. It was like shadow banking with the ECB taking on bad overpriced bonds and giving away euros. No need to create debt when they purchased it instead.


    1. Sandor

      I heard the ECB is charging 1% for the 3-year repo. That means 5B Euros of new debt. It just adds leverage to an already overleveraged system. The irony is that the ECB, BOE, and the Fed are following the BOJ permastagnation playbook. They take turns trying to distribute the costs of unserviceable debt to as many people as possible – preferably, the entire planet.

      Japan had two decades of relatively high living standards at 0%. The problem is that now we’re all too old, so that playbook doesn’t buy much time anymore. If the central banks don’t stop with this nonsense, the global economy will burn as much fuel as possible until it can’t afford to, leading to a cardiac arrest. Drugs, drugs, and more drugs – that is the prescription of the doctor- dealer who only cares about keeping his clients dependent on his medicine. There is no graceful exit from this path. We either get depression from debt withdrawal if Germany crashes the party, or we get currency crises spreading as a virus throughout the globe. Either way, the ‘developers’ will be brought to their knees.

  4. dolph

    I find myself reading and researching more into the first half of the 20th century, to find out more about that period, and why it lead to the cataclysms that it did.
    Am I learning anything? Not really, other than that humans being are, in the end, pretty darn stupid.

    It’s pretty scary, that proud civilizations would choose to commit suicide rather than reform.

    If shorting the human race were a bet, that’s a bet I would take. But to win that wager would be pyrrhic, wouldn’t it.

  5. Reverse Engineer

    The most interesting “new” development here is the growing diaspora of the Greek population that Bruce Krasting mentions. One thing to have a Run on the Greek Banks, its yet another to get an actual run out of the country on foot or bicycle or whatever other way impoverished Greeks can GTFO of Dodge.

    I wish we had more than just anecdotal evidence of this, it would be interesting data to see how many emigres are moving out and exactly where they are heading for? I don’t think we need any more Falafel Stands here in the FSofA and the Employment Market for Goobermint Union Workers with good Pensions is clearly shrinking. What else do migrant Greeks do for a living?

    It also seems like Migrant Greeks will soon be joined by Migrant Italians and Migrant Irish, so maybe they will all head over to China to build their High Speed Rail network? Oh wait, the Chinese have their own Coolies to put to work building that one!

    Just to take this to its logical extreme here though, what happens to Greek Debt if all the Greeks LEAVE the country via Trojan Horses? “Greeks” owe money, but there ARE no Greeks! Same question could be asked of California?

    Of course, the costs for running the territory after it gets evacuated are pretty low, so once evacuated the Chinese could offer to pay off the old debts at maybe a 90% Haircut and then relocate Chinese Shepherds over there to herd Sheep and send back Lamb chops to Beijing! Then they can buy an empty Hungary and empty Italy after that!

    Anyhow, we do look set up for quite a bit of Musical Chairs here as Impoverished all over the region go On the Move looking for Greener Pastures “somewhere else”. Problem is, the “Somewhere Else” with the Big Statue welcoming the Huddled Masses of Poor people yearning to be Free has been replaced by a sign saying “Jobless Men, Keep Going. We can’t take care of our own”.

    If/when the Drachma gets a new printing, the lifespan of it maintaining a 50% devaluation is likely measured in days before it goes Full Zimbabwe. Of course, there won’t be any Greeks left there using it anyhow. They’ll all be living in a Ghetto in Berlin. For a while at least, until the Krauts pull the Boxcars out of Mothballs.


    1. steve from virginia Post author

      Residual effect of pointless mobility. The idea is it ‘has’ to not suck everywhere else.

    2. Reverse Engineer

      Repost from Reverse Engineering. A few further thoughts on the Greek Emigration issue.

      As Bruce Krasting mentioned regarding recent conversations he has had with his
      contacts in Greece, there is currently some level of emigration going on out of
      Greece by people left pretty much Hopeless about the Future. Old and Young
      alike appear to be abandoning the Greek Ship before it sinks completely. We
      don’t have any real idea of Numbers here, but it makes logical sense that this
      would be occurring now so let’s accept it as true for the purposes of analysis.

      The first Big Question which comes to my mind is that of Greek Pensions
      currently being paid out. If Retired Greeks leave the country, will the Troika
      (who really run the Greek Economy now) continue to feel obligated to send this
      money to them on a monthly basis, be it denominated in soon to be worthless
      Euros or even more worthless Drachma? This has a direct analogue with Ex-Pat
      Amerikans living in overseas locations. Whyu would you send Money out to people
      who abandoned the country?

      While their might be some “moral” level of obligation here to “pay back” people
      who have paid into a Pension System over the years, the fact is these Pension
      systems are all Ponzis which are totally insolvent already. If in ADDITION to
      those already retired collecting on Pensions leaving, Young people who might pay
      into the system ALSO leave, then you cannot even maintain the facade of the
      Ponzi through a direct transfer payment from the paychecks of the Young Workers
      to the Pension checks of the retirees.

      So, if indeed older Greek Retirees choose to leave Greece, the likelihood here
      is that when the Greek economy does finally collapse, these folks won’t even be
      receiving Pension checks denominated in Drachma. If they don’t have savings in
      Euro now and are not quickly converting that to Dollars or Gold AND getting it
      out of the Greek Banks, they will be left completely Destitute.

      What does a 60 year old Greek Pensioner who leaves Greece to come to say the
      FSofA do here? Hard enough to get a job if you are still young and spry, so he
      can’t enter the Labor Market such as it is at this age. Nor is he going to be
      eleigible for any of the current social welfare systems still sputtering along
      here. He’s basically going to be totally dependent on any Greek Relatives he
      has who migrated here some years ago who will give him Shelter and Food.

      If he does not have Relatives here (or in Germany or France etc), migration out
      of Greece for the pensioners is a near impossibility unless they have some pile
      of money held outside Greece and preferably not denominated in Euros also. So
      in actuality, the anecdotal information that Bruce Krasting relates for the
      Pensioners likely is only applicable to the Class of people Bruce hangs with,
      the pretty Well-to-do.

      For the Young people of Greece, its a different story of course, they don’t have
      Pensions they will lose yet, but they still do have their strong backs and
      perhaps some Education also and might if they are VERY lucky find more
      opportunity for work in Germany or the FSofA.

      Germany certainly seems to be the more likely Destination for this group of
      Young Greeks. However, despite the fact they still show a relatively low level
      of UE in Germany, many of the jobs still extant in that economy will disappear
      quickly as their Mercantilist economy breaks down. They won’t have client
      states to sell the BMWs to. So more Germans will go out of work, and its
      unlikely brand spanking new Greek Immigrants will be able to get any jobs
      available in the Kraut Economy. Same holds true for ANYWHERE in Europe the
      Greek young folks might try to emigrate to.

      The same problem exists for the young Irish, the young Italians, the young
      Spanish, et al. anyo of these folks who choose NOW to move themselves out of
      their failing Nation States to go somewhere ELSE really have nowhere to go with
      any reasonable opportunity, and wherever they do go they will be in competition
      for Locals for what little opportunities there might be. So they won’t be well
      received, they will be perceived as Competitors, because that is really what
      they ARE.

      The only real choices such people have are to either try to stick it out in
      their Homelands where they are at least in the same Boat everyone else is or try
      to get off the boat entirely and try going the Full Primitive lifestyle in some
      of the marginal areas around where they live. Greece though does not have quite
      the good selection of places to try this as you would find in North or South
      Amerika of course.

      Thuis “Rock and a Hard place” choice is going to rapidly grow beyond the borders
      of Greece into all the other PIIGS nations, and the thing is here its no longer
      going to be politically feasible for any of the still functioning nation states
      to accept waves of these Economic Migrants.

      For a brief further period here, its still going to be possible with people with
      economic wherewithal to GTFO of Dodge, wherever Dodge is for them, but witht he
      necessity fo droping down Capital Controls, even the well-heeled will soon find
      it impossible to GTFO of Dodge. Leaving your Homeland now in either case,
      though it is still possible to do probably for most people is just jumping from
      the Frying Pan into the Fire. It might be a little better for you in the short
      term, but when the economic situation deteriorates further wherever you go, you
      will have fewer contacts upon which to depend.

      So, mostly now regardless of whether you are Rich or Poor, “Shelter in Place”
      plans are the most likely to work. You still of course want to plan for
      Mobility within your Nation State for so long as that exists, especially if you
      currently are inside on of the Big Shities.

      For the Greeks that are still throwing Molotovs around Athens, things are pretty
      hopeless now. Its pretty much too late for them to GTFO of Dodge. They waited
      a little too long, and the Ship left the dock a while back here.

      Still not too late here in the FSofA, but time runs ever shorter each day. You
      don’t need to exit the NA continent though, but you definitely gotta pick a
      better hole than the Big Shities and begin making Contacts there. The Big Show
      is Coming Soon to Our Theatre also.


      1. p01

        It is my belief that the borders will close pretty soon… and then…if anyone is curious what will follow, check your history books, or simply Wikipedia’s list of conflicts in Europe at the following link:
        As someone who left his home country to immigrate in Canada, I can surely understand the situation, especially since my home country is about to go up in flames (with my parents still living there). Romania has reached peak oil in 1976, but was fortunate enough not to have a financial bubble at the time, so the Thunderdome was postponed until 1989, when the bubble economy that implodes now was implemented.

      2. p01

        Also: watching (sporadically) the debates over what happens at the moment in Romania, there’s not a single one -not one- talking head who even as much as touches the issue of energy or the absolutely demented love of carz that was inoculated in their brains through advertising and teevee watching.

    1. Sandor

      Demand for unleaded is anemic. I think that trendline you drew in chart 2 is going to break down. We are at the point now that the economy is dependent on rehypothecated stimulus, QE, etc just to tread water. In other words, full-on methadone maintenance time. Without repeated further doses of methadone, the debt junkie economy goes into withdrawals and starts spasming (eg August – November 2011). Give it another hit (LTRO) and things are ‘OK’, but only for a few months. Because there is no ‘organic growth’.

      The next QE by the Fed, once the knee-jerk euphoria wears off, will produce outright puking in the market, as it dawns on ‘investors’ that it’s never going to get ‘better’ (aka negative real returns) until the debt is flushed out of the system and we have a depression. GE just warned us to prepare for another recession, but hot money is too busy chasing momentum right now to pay attention. Gather ye rosebuds while ye may…

      1. steve from virginia Post author

        There’s yr prob right there: nothing productive from any sectors only easy credit from various central banks.

        The whole show is held together by a string!

        I doubt there will be much in the way of ‘Viagra’ from the Fed until it’s clear who the GOP presidential nominee is. Bernanke doesn’t want to give any ammo to the Ron Paul supporters. Which reminds, I haven’t stumbled across Romney remarks about Bernanke. It would make sense for Romney to support the Fed and all the different forms of easing.

        I see crude tiptoeing down while PMs are up. This is a divergence to watch. As the Europeans swoon, the different havens will get bids; yen, stocks, Treasuries, metals while crude reprices the dollar.

        Unlike last year, a harder dollar is missing US assets while whacking them overseas. The US-China carry is unraveling which is one consequence and the Euro-agony is sending a lot of capital this way.

      2. Josh

        Sandor – there is a difference between the thing itself and the paper derivative claim to it. In our present paradigm the entire domestic auto fleet could be impounded tomorrow and unleaded prices would still continue to move higher. Know what I’m saying?

      3. Sandor

        I know what you’re saying, but I think that’s an oversimplification of the pricing structure. If Henry Hub Gasoline Futures were driven up to $4.00, there would be a subsequent destruction in demand, maybe 2-4 months out. If futures trade at a discount to the “real” cash market, then large-scale consumers would start buying futures and taking delivery. Of course this arbitrage is not perfect, and there are real-world time lags, but the Enbridge pipeline from Cushing to the Gulf Coast that collapsed the WTI-Brent spread is a perfect example.

        Pricing anomolies can and do exist between futures (paper derivatives) and cash markets, but if they become too disconnected the profit incentive will bring in arbitrage to collapse the spread. In your example, if gas futures moved higher despite immediate demand destruction, then gasoline producers (aka refineries) would start selling furiously on the futures markets which are giving them a premium over the cash market. If the delivery mechanism of the futures markets breaks down, then we have system failure. You may think we are a butterfly wing-flap away from such systemic failure. Many do. If so, then the argument becomes academic and I am out of a job.

        Until then, prices may get ahead of demand due to excess liquidity in the financial markets, but they will and must come back if underlying demand falls off, given enough time. Look at 2008 if you don’t believe me. I don’t disagree that the (credit-money) tail seems to be wagging the (physical commodity fundamentals) dog. This doesn’t mean that the dog won’t eventually bite its tail.

      4. Josh

        The 2008 demand destruction was caused by home equity going negative, 401K’s becoming 201K’s, and mass layoffs. Of the three only the value of stock portfolios has come back to life, so the rise in gas prices can only be explained by excess liquidity. Prices have gotten way ahead of demand, and until the stock market begins to fall apart again I expect that disconnected spread trend to continue.

  6. Usman A.

    Steve, you’re writing is absolutely amazing. You’re the most thoughtful commentator on global issues today. Absolutely remarkable.

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