World View: Germany's Economic Experts Consider Wealth Tax to Fund Bailouts

This morning's key headlines from GenerationalDynamics.com

  • Greece to lay off old people, hire 'young, capable' replacements
  • How margin accounts work today versus 1929
  • China's local government debt is 'out of control'
  • Germany's economic experts consider a wealth tax to fund bailouts

Greece to lay off old people, hire 'young, capable' replacements

Antonis Samaras - Greek Prime Minister
Antonis Samaras - Greek Prime Minister

Greece's prime minister Antonis Samaras has confirmed that the latest deal with the "troika" of organizations bailing out Greece -- the European Commission (EC), the European Central Bank (ECB) and the International Monetary Fund (IMF) -- calls for 15,000 layoffs of civil service employees. There will be 4,000 layoffs in 2013, and 11,000 more layoffs in 2014, violating the provision in Greece's 1911 constitution that civil servants have lifelong job security.

Ordinarily this news story wouldn't be that big a deal -- just describing one more Greek commitment that probably won't be met. But here are the two paragraphs in the news story that made my eyes bulge:

"The premier also confirmed that a total of 15,000 civil servants would be dismissed before the end of 2014, with 4,000 to go this year, but he stressed that each departure would be replaced by a new recruit. 'The same number of new people will be recruited in their place,' he said.

Poul Thomsen, the head of the International Monetary Fund’s mission to Greece, struck a similar note at a conference in Athens organized by The Economist, saying that public sector staff 'will not be eliminated but replaced by young, capable people.' He did not confirm explicitly that the one-hiring-to-one-firing ratio would apply."

Huh? Are we really being that explicit about tossing out the older generation to make way for the "younger, more capable" generations? I guess we are. Kathimerini

How margin accounts work today versus 1929

In yesterday's column, "16-Apr-13 World View -- Forced selling hits gold, commodities and stocks", I described how the 1929 crash was not caused by an emotional panic, but was caused by forced selling -- a cycle of margin calls, forcing investors to sell, pushing down prices, causing more margin calls.

There's a commercial from Interactive Brokers that seems to run a zillion times a day. The announcer says the following:

"Central banks are flooding the world with cheap money.

Interactive Brokers will lend USD 1 million at 1.3% for every USD 200,000 in a portfolio margin account.

See our high dividend scanner for the many hundreds of stocks that yield over 5%.

Trading on margin is only for sophisticated investors with high risk tolerance. Dividend yields can change and stocks may lose value. You may lose more than your initial investment."

YouTube - Interactive Brokers commercial

And so, if you're in the 99%, then you can't borrow any money at all, certainly not for anything so mundane as paying salaries or buying equipment to build a business. That's why all these trillions of dollars pouring out of the Fed and other central banks don't cause hyperinflation.

But if you're in the 1%, then you can borrow millions of dollars from Interactive Brokers at 1.3% and use the money to buy stocks (and, presumably, gold) at only 20% margin. The stocks are supposed to yield over 5%. Sounds like a good deal.

From 1926 to 1929, the amount of margin credit grew from $2.5 billion to almost $10 billion. After the 1929 crash, the amount of margin debt fell, along with the stock market. Even as late as 1959, margin debt was only $3.4 billion.

Margin debt in 1990 was about $30 billion. It started taking off rapidly in the 1990s, at the same time as the tech bubble. Today, margin debt is $366 billion. It was $289 billion just one year ago. The reason that it grew so rapidly in the last year is because the Fed is "printing" $86 billion per month in new money liquidity, and a lot of that money is being loaned to investors by companies like Interactive Brokers, creating huge margin debt accounts.

John Kenneth Galbraith, in his 1954 book The Great Crash - 1929, defines margin as follows:

"Margins -- the cash which the speculator must supply in addition to the securities to protect the loan and which he must augment if the value of the collateral securities should fall and so lower the protection they provide -- are effortlessly calculated and watched. The interest rate moves quickly and easily to keep the supply of funds adjusted to the demand. Wall Street, however has never been able to express its pride in these arrangements. They are admirable and even wonderful only in relation to the purpose they serve. The purpose is to accommodate the speculator and facilitate speculation. But the purposes cannot be admitted. If Wall Street confessed this purpose, many thousands of moral men and women would have no choice but to condemn it for nurturing an evil thing and call for reform. Margin trading must be defended not on the grounds that it efficiently and ingeniously assists the speculator, but that it encourages the extra trading which changes a thin and anemic market into a thick and healthy one. At best this is a dull by-product and a dubious one. Wall Street, in these matters, is like a lovely and accomplished woman who must wear black cotton stockings, heavy woolen underwear, and parade her knowledge as a cook because, unhappily, her supreme accomplishment is as a harlot."

This shows the problem that the Fed faces. The Fed has created a true Ponzi scheme, where more and more money has to pour into the system to keep stock prices up. If the Fed lets up on the $86 billion per month, then customers of Interactive Brokers and similar firms who are counting on new stock market highs are going to be stuck. Once stocks start falling, and the margin calls start, then there's nothing to prevent a major panic and financial crisis. And that's exactly what Generational Dynamics predicts is going to happen.

New York Stock Exchange Market Data Factbook

China's local government debt is 'out of control'

Zhang Ke, a senior Chinese auditor, and head of leading Chinese accounting firm ShineWing, is refusing to sign off on further bond sales by local governments in China because local government debt is "out of control," and could spark a bigger financial crisis than the US housing market crash, according to Zhang

"We audited some local government bond issues and found them very dangerous, so we pulled out. Most don't have strong debt servicing abilities. Things could become very serious."

It is rare for a figure as established in the Chinese financial industry to make such stark comments. FT Blog

Germany's economic experts consider a wealth tax to fund bailouts

Germany's council of economic experts, known as the "Five Wise Men," is considering a plan to raise bailout money by large increases in real estate taxes on property. The Europeans have been looking for ways to fund bailout programs, and in Cyprus it was done by confiscating 60% of bank accounts above 100,000 euros. But many consider that unsatisfactory, because rich people can easily transfer their money out of a country when it appears that the country is headed for a bailout. However, rich people cannot transfer real estate out of a country, and so taxing real estate seems the best way to make the rich pay.

The idea of a wealth tax has gained support after publication last week of the European Central Bank (ECB) report that found that Germany had the lowest median net household wealth in the eurozone, while countries like Cyprus and Spain had much higher values. ( "11-Apr-13 World View -- Is Germany the poorest country in Europe?") The non-intuitive result is attributed to the fact that Germany has much lower home ownership than other countries, and home ownership is the biggest contributor to household wealth. Telegraph (London)


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