Streetwise Professor

Here’s a nice article by Robert Henderson in the science magazine Nautilus which poses the question: “Can topology prevent the next financial crisis?” My short answer: No.  A longer answer–which I sketch out below–is that a belief that it can is positively dangerous.

The idea behind applying topology to the financial system is that financial firms are interconnected in a network, and these connections can be represented in a network graph that can be studied. At least theoretically, if you model the network formally, you can learn its properties–e.g., how stable is it? will it survive certain shocks?–and perhaps figure out how to make the network better.

Practically, however, this is an illustration of the maxim that a little bit of knowledge is a dangerous thing.

Most network modeling has focused on counterparty credit connections between financial market participants. This research has attempted to quantify these connections and graph the network, and ascertain how the network responds to certain shocks (e.g., the bankruptcy of a particular node), and how a reconfigured network would respond to these shocks.

There are many problems with this. One major problem–which I’ve been on about for years, and which I am quoted about in the Nautilus piece–is that counterparty credit exposure is only one type of many connections in the financial network: liquidity is another source of interconnection. Furthermore, these network models typically ignore the nature of the connections between nodes. In the real world, nodes can be tightly coupled or loosely coupled. The stability features of tightly and loosely connected networks can be very different even if their topologies are identical.

As a practical example, not only does mandatory clearing change the topology of a network, it also changes the tightness of the coupling through the imposition of rigid variation margining. Tighter coupling can change the probability of the failure of connections, and the circumstances under which these failures occur.

Another problem is that models frequently leave out some participants. As another practical example, network models of derivatives markets include the major derivatives counterparties, and find that netting reduces the likelihood of a cascade of defaults within that network. But netting achieves this by redistributing the losses to other parties who are not explicitly modeled. As a result, the model is incomplete, and gives an incomplete understanding of the full effects of netting.

Thus, any network model is inherently a very partial one, and is therefore likely to be a very poor guide to understanding the network in all its complexity.

The limitations of network models of financial markets remind me of the satirical novel Flatland, where the inhabitants of Pointland, Lineland, and Flatland are flummoxed by higher-dimensional objects. A square finds it impossible to conceptualize a sphere, because he only observes the circular section as it passes through his plane. But in financial markets the problem is much greater because the dimensionality is immense, the objects are not regular and unchanging (like spheres) but irregular and constantly changing on many dimensions and time scales (e.g., nodes enter and exit or combine, nodes can expand or contract, and the connections between them change minute to minute).

This means that although network graphs may help us better understand certain aspects of financial markets, they are laughably limited as a guide to policy aimed at reengineering the network.

But frighteningly, the Nautilus article starts out with a story of Janet Yellen comparing a network graph of the uncleared CDS market (analogized to a tangle of yarn) with a much simpler graph of a hypothetical cleared market. Yellen thought it was self-evident that the simple cleared market was superior:

Yellen took issue with her ball of yarn’s tangles. If the CDS network were reconfigured to a hub-and-spoke shape, Yellen said, it would be safer—and this has been, in fact, one thrust of post-crisis financial regulation. The efficiency and simplicity of Kevin Bacon and Lowe’s Hardware is being imposed on global derivative trading.

God help us.

Rather than rushing to judgment, a la Janet, I would ask: “why did the network form in this way?” I understand perfectly that there is unlikely to be an invisible hand theorem for networks, whereby the independent and self-interested actions of actors results in a Pareto optimal configuration. There are feedbacks and spillovers and non-linearities. As a result, the concavity that drives the welfare theorems is notably absent. An Olympian economist is sure to identify “market failure,” and be mightily displeased.

But still, there is optimizing behavior going on, and connections are formed and nodes enter and exit and grow and shrink in response to profit signals that are likely to reflect costs and benefits, albeit imperfectly. Before rushing in to change the network, I’d like to understand much better why it came to be the way it is.

We have only rudimentary understanding of how network configurations develop. Yes, models that specify simple rules of interaction between nodes can be simulated to produce networks that differ substantially from random networks. These models can generate features like the small world property. But it is a giant leap to go from that, to understanding something as huge, complex, and dynamic as a financial system. This is especially true given that there are adjustment costs that give rise to hysteresis and path-dependence, as well as shocks that give rise to changes.

Further, let’s say that the Olympian economist Yanet Jellen establishes that the existing network is inefficient according to some criterion (not that I would even be able to specify that criterion, but work with me here). What policy could she adopt that would improve the performance of the network, let alone make it optimal?

The very features–feedbacks, spillovers, non-linearities–that can create suboptimality  also make it virtually impossible to know how any intervention will affect that network, for better or worse, under the myriad possible states in which that network must operate.  Networks are complex and emergent and non-linear. Changes to one part of the network (or changes to the the way that agents who interact to create the network must behave and interact) can have impossible to predict effects throughout the entire network. Small interventions can lead to big changes, but which ones? Who knows? No one can say “if I change X, the network configuration will change to Y.” I would submit that it is impossible even to determine the probability distribution of configurations that arise in response to policy X.

In the language of the Nautilus article, it is delusional to think that simplicity can be “imposed on” a complex system like the financial market. The network has its own emergent logic, which passeth all understanding. The network will respond in a complex way to the command to simplify, and the outcome is unlikely to be the simple one desired by the policymaker.

In natural systems, there are examples where eliminating or adding a single species may have little effect on the network of interactions in the food web. Eliminating one species may just open a niche that is quickly filled by another species that does pretty much the same thing as the species that has disappeared. But eliminating a single species can also lead to a radical change in the food web, and perhaps its complete collapse, due to the very complex interactions between species.

There are similar effects in a financial system. Let’s say that Yanet decides that in the existing network there is too much credit extended between nodes by uncollateralized derivatives contracts: the credit connections could result in cascading failures if one big node goes bankrupt. So she bans such credit. But the credit was performing some function that was individually beneficial for the nodes in the network. Eliminating this one kind of credit creates a niche that other kinds of credit could fill, and profit-motivated agents have the incentive to try to create it, so a substitute fills the vacated niche. The end result: the network doesn’t change much, the amount of credit and its basic features don’t change much, and the performance of the network doesn’t change much.

But it could be that the substitute forms of credit, or the means used to eliminate the disfavored form of credit (e.g., requiring clearing of derivatives), fundamentally change the network in ways that affect its performance, or at least can do so in some states of the world. For example, it make the network more tightly coupled, and therefore more vulnerable to precipitous failure.

The simple fact is that anybody who thinks they know what is going to happen is dangerous, because they are messing with something that is very powerful that they don’t even remotely understand, or understand how it will change in response to meddling.

Hayek famously said “the curious task of economics is to demonstrate to men how little they really know about what they imagine they can design.” Tragically, too many (and arguably a large majority of) economists are the very antithesis of what Hayek says that they should be. They imagine themselves to be designers, and believe they know much more than they really do.

Janet Yellen is just one example, a particularly frightening one given that she has considerable power to implement the designs she imagines. Rather than being the Hayekian economist putting the brake on ham-fisted interventions into poorly understood symptoms, she is far closer to Adam Smith’s “Man of System”:

The man of system, on the contrary, is apt to be very wise in his own conceit; and is often so enamoured with the supposed beauty of his own ideal plan of government, that he cannot suffer the smallest deviation from any part of it. He goes on to establish it completely and in all its parts, without any regard either to the great interests, or to the strong prejudices which may oppose it. He seems to imagine that he can arrange the different members of a great society with as much ease as the hand arranges the different pieces upon a chess-board. He does not consider that the pieces upon the chess-board have no other principle of motion besides that which the hand impresses upon them; but that, in the great chess-board of human society, every single piece has a principle of motion of its own, altogether different from that which the legislature might chuse to impress upon it. If those two principles coincide and act in the same direction, the game of human society will go on easily and harmoniously, and is very likely to be happy and successful. If they are opposite or different, the game will go on miserably, and the society must be at all times in the highest degree of disorder.

When there are Men (or Women!) of System about, and the political system gives them free rein, analytical tools like topology can be positively dangerous. They make some (unjustifiably) wise in their own conceit, and give rise to dreams of Systems that they attempt to implement, when in fact their knowledge is shockingly superficial, and implementing their Systems is likely to create the highest degree of disorder.

French President Francois Hollande is demanding that clearing of Euro derivatives take place in the Eurozone. Last year the European Central Bank had attempted to require this, claiming that it could not be expected to provide liquidity to a non-Eurozone CCP like London-based LCH.

The ECB lost that case in a European court, but now sees an opportunity to prevail post-Brexit, when London will be not just non-Eurozone, but non-EU. Hollande is cheerleading that effort.

It is rather remarkable to see the ECB, which was only able to rescue European banks desperate for dollar funding during the crisis because of the provision of $300 billion in swap lines from the Fed, claiming that it can’t supply € liquidity to a non-Eurozone entity. How about swap lines with the BoE, which could then provide support to LCH if necessary. Or is the ECB all take, and no give?

Hollande (and other Europeans) are likely acting partly out of protectionist motives, to steal business for continental entities from London (and perhaps the US). But Hollande was also quite upfront about the punitive, retaliatory, and exemplary nature of this move:

“The City, which thanks to the EU, was able to handle clearing operations for the eurozone, will not be able to do them,” he said. “It can serve as an example for those who seek the end of Europe . . . It can serve as a lesson.” [Emphasis added.]

That will teach perfidious Albion for daring to leave the EU! Anyone else harboring such thoughts, take note!

The FT article does not indicate the location of M. Hollande’s nose, for he obviously just cut it off to spite his face.

In a more serious vein, this is no doubt part of the posturing that we will see ad nauseum in the next two plus years while the terms of the UK’s departure are negotiated. Stock up with supplies, because this is going to take a while, since (1) everything is negotiable, (2) almost all negotiations go to the brink of the deadline, or beyond, and (3) these negotiations will be particularly complicated because the Eurogarchs will be conducting them with an eye on how the outcome affects the calculations of other EU members contemplating following Britain out the door–and because immigration issues will loom over the negotiations.

When evaluating a negotiation, it’s best to start with the optimal, surplus maximizing “Coasean bargain” (a term which Coase actually didn’t like, but it is widely used). This, as Elon Musk would say, is a no brainer: allow € clearing in London, through LCH. That is, a maintenance of the status quo.

What are the alternatives? One would be that € clearing for those subject to EU regulation and some non-EU firms would take place in the Eurozone (say Paris or Frankfurt), some € clearing might take place in London or the US, and most dollar and other non-€ clearing would take place in London and the US.  This would require the EU to permit its banks to clear economically in the UK or US, by granting equivalence to non-EU CCPs for non-€ trades, or something similar.

There are several inefficiencies here. First, it would fragment netting sets and increase the probability that one CCP goes bust. For instance, if a bank that is a member of an EU and a non-EU CCP (as would almost certainly be the case of the large European banks that do business in all major currencies) defaulted, it is possible that it could have a loss on its € deals and a gain on its non-€ deals (or vice versa). If those were cleared in a single CCP, the gain and loss could be offset, thereby reducing the CCP’s loss, and perhaps resulting in no loss to the CCP at all: this is what happened with Lehman at the CME, where losses on some of its positions were greater than collateral, but losses on others were smaller, and the total loss was less than total collateral. However, if the business was split, one of the CCPs could suffer a loss that could potentially put it in jeopardy, or force members to stump up additional contributions to the default fund during a time when they are financially stressed.

Second, default management would be more difficult, risky and costly if split across two or more CCPs. It would be easier to put in place dirty hedges for a broader portfolio than two narrower ones, and to allocate or auction off a combined portfolio than fragmented ones. Moreover, it would be necessary to coordinate default management across CCPs in a situation where their interests are not completely aligned, and indeed, where interests may be strongly in conflict. Furthermore, there would be duplication of personnel, as CCP members would be required to dispatch people to two different CCPs to manage the default.

Third, even during “peacetime,” fragmented clearing would sacrifice collateral and capital efficiencies and increase operational costs and complexity.

But it could be worse! Maybe the Europeans will cut off their noses and ears (and maybe some other parts lower down), and deny a UK CCP equivalence for any transaction undertaken by an EU bank. The outcome would be EU banks clearing in Europe, and most everybody else clearing outside of Europe. This would result in multiple inefficiently small CCPs clearing in all currencies that would exacerbate all of the negative consequences just outlined: netting set inefficiencies would be even worse, default risk management even more difficult, and peacetime collateral, capital, and operational efficiencies would be even worse.

Oh, and this alternative would require the ECB to obtain dollar and sterling (and other currency) liquidity lines to allow it to provide non-€ liquidity to its precious little CCP. How hypocritical is that? (Not that hypocrisy would cost Hollande et al any sleep. It hasn’t yet.)

The fact is that CCPs exhibit strong economies of scale and scope, and although mega-CCPs concentrate risk, fragmentation creates its own special problems.

So the wealth-maximizing outcome would be for the EU to come to an accommodation on central clearing that would effectively perpetuate the pre-Brexit status quo. Wealth maximization exercises a strong pull, meaning that this is the most likely outcome, although there will likely be a lot of posturing, bluffing, threatening, etc., before this outcome is achieved (and at the last minute).

I would expect that EU banks would support the Coasean bargain, further increasing its political viability. Yes, Deutsche Borse would be pushing for a EU-centric outcome, and some Europols would take pride at having their own (sub-scale and/or sub-scope) CCP, but the greater cost and risk imposed on banks would almost certainly induce them to put heavy pressure behind a status quo-preserving deal.

This raises the issue of negotiation of banking and capital market issues more generally. There has been a lot of attention paid to the fact that British banks would probably lose passporting rights into the EU post-exit, and this would be costly for them. But European banks actually rely even more on passporting to get access to London. Since London is still almost certain to remain the dominant financial center (especially since the UK government will have a tremendous incentive to facilitate that), European banks would suffer as much or more than UK ones if the passporting system was eliminated (and a close substitute was not created).

Thus, if the negotiations were only about clearing, banking, and capital markets, mutual self-interest (and political economy, given the huge influence of the finance sector on policymakers) would strongly favor a deal that would largely maintain the status quo. But of course the negotiations are not about these issues alone. As I’ve already noted, the EU may try to punish the British even if it also takes a hit because of the effect this might have on the calculations of others who might bolt from the Union.

Furthermore, the most contentious issue–immigration–is very much in play. Merkel, Hollande, and others have said that to obtain a Norway-style relationship with the EU, the UK would have to agree to unlimited movement of people. But that issue is the one that drove the Leave vote, and agreeing to this would be viewed as a gutting of the referendum, and a betrayal. It will be hard for the UK to agree to that.

Perhaps even this could be finessed if the EU secured its borders, but Merkel’s insanity on this issue (and the insanity of other Eurogarchs) makes this unlikely, short of a populist political explosion within the EU. But if that happens, negotiations between the EU and the UK will likely be moot, because there won’t be much of the EU left to negotiate with, or worth negotiating with.

In sum, if it were only about banking and clearing, economic self-interest would lead all parties to avoid mutually destructive protectionism in these areas. But highly emotional issues, political power, and personal pride are also present, and in spades. Thus, I am reluctant to bet much on the consummation of the economically efficient deal on financial issues. The financial sector is just one bargaining chip in a very big game.

In my first Brexit post I wrote:

European leaders–Merkel most notably–are fond of saying “More Europe,” meaning more centralization and more suppression of local control. If they want Europe to survive as a political entity, they need to reverse their mantra to “Less Europe.” They need to reverse the creation of a hyper-state. They need to be more respectful of local, national sentiments and differences. Brexit shows that if they fail to do so, they are running the serious risk of having no “Europe” at all.

Are they heeding the lesson? Early signs suggest no. So be it. They are reaping what they sowed, and if they decide to sow more, so shall they reap.

The first day of the first post-Brexit week brought reports that the Euros are indeed doubling down, and moving to MOAR! Europe. From the (rabidly pro-Remain) FT:

The German, French and Italian also called for a “new impulse” to revitalise the EU. They are considering common EU-wide initiatives in security, external border control, antiterrorism measures, and in boosting economic growth and employment. Recognising the disenchantment of many young Europeans with politics, they pledged to focus on youth-oriented proposals, such as educational exchanges. “We must not simply wait for what happens. We know that must not waste a single minute,” Mr Renzi said.

Two less posh (and anti-EU) publications filled in some details. I don’t vouch for the reliability, but they do jibe with the “new impulse” theme:

The foreign ministers of France and Germany are due to reveal a blueprint to effectively do away with individual member states in what is being described as an “ultimatum”.

Under the radical proposals EU countries will lose the right to have their own army, criminal law, taxation system or central bank, with all those powers being transferred to Brussels.

The public broadcaster reports that the bombshell proposal will be presented to a meeting of the Visegrad group of countries – made up of Poland, the Czech Republic, Hungary and Slovakia – by German Foreign Minister Frank-Walter Steinmeier later today.

Excerpts of the nine-page report were published today as the leaders of Germany, France and Italy met in Berlin for Brexit crisis talks.

In the preamble to the text the two ministers write: “Our countries share a common destiny and a common set of values that give rise to an even closer union between our citizens. We will therefore strive for a political union in Europe and invite the next [other?] Europeans to participate in this venture.”

“Invite the next Europeans to participate in this venture.” Not too Orwellian, eh? Sounds like Don Corleone making an offer they can’t refuse. No RVSP necessary.

This would throw down the gauntlet to tens (and likely hundreds) of millions of Europeans who might prefer to decline the invite, thank you very much.

It brings to mind Eisenhower’s dictum: If a problem cannot be solved, expand it. By spurning the lessons of Brexit, the Eurogarchs are either going to succeed in jamming their vision down the throats of 500 million people (435 million, excluding the UK) or bring down the entire edifice trying.

And have no doubt, these “leaders” (“drivers” would be more apt) will not let anything as trivial as widespread popular opposition deter them. Consider the president of the European Parliament, Martin (“Don’t Call Me Sergeant“) Schulz:

Clearly a gaffe by Herr Schulz: he spoke the truth. The EU philosophy is profoundly anti-democratic.

Good luck with your Fourth Reich, Marty. The first three worked out so swell.

European Union president Jean-Claude Juncker, widely blamed by eastern Europeans in particular for Brexit, has taken a similarly hard line:

Jean-Claude Juncker said on Friday: “The repercussions of the British referendum could quickly put a stop to such crass rabble-rousing, as it should soon become clear that the UK was better off inside the EU.” Britain simply has to go, on bad terms, pour encourager les autres.

“Take that, you crass rabble rousers! And to show how mad I am, I won’t speak English.”

Juncker is also supposedly about to announce a plan to force the eight EU states that are not on the Euro (e.g., Denmark, Bulgaria, and Sweden) into the Eurozone. More doubling down.

(As an aside, Juncker is a notorious drunk–it is common knowledge that it is hopeless to do business with him after 3PM, because he’ll be sloshed–and Schulz is also an alcoholic. You’re in the best of hands, Europe!)

And what will they get if they succeed in achieving their goal of a Leviathan that swallows 27 states? A perpetuation of economic stagnation due to excessive, pervasive, and absurd regulation often adopted in the name of grandiose goals. Here’s an illustration of how absurd:

The EU is poised to ban high-powered appliances such as kettles, toasters, hair-dryers within months of Britain’s referendum vote, despite senior officials admitting the plan has brought them “ridicule”.

The European Commission plans to unveil long-delayed ‘ecodesign’ restrictions on small household appliances [like kettles and vacuum cleaners] in the autumn. They are expected to ban the most energy-inefficient devices from sale in order to cut carbon emissions.

Not a sparrow falls . . .

And pray tell just how many thousandths of a degree would this shave off global temperatures? Who cares? This is virtue signaling in jackboots. Here’s the best part:

At the meeting, Jyrki Katainen, the Commission’s vice president for growth, said they should push ahead with the plans for standardised energy usage limits as they could contribute significantly to emissions targets.

The “vice president for growth.” How Orwellian is that? This is a pitch perfect example of the anti-growth effects of EU policy.

This strategy of expanding the problem will increase and perpetuate the geopolitical risk that has shaken the markets. It will intensify a confrontation between elitist and populist forces in Europe, with unpredictable results. I don’t know how it will end, exactly, except that it is unlikely to end well.

About 20 years ago Timur Kuran wrote Private Truth, Public Lies. The book introduces the concept of preference falsification, whereby social pressure induces people to make public statements that are contrary to their private beliefs or preferences.

Preference falsification helps explain why revolutions, especially in totalitarian countries, or in oligarchic societies with substantial hierarchical social control, seem to come from like a bolt from the blue. Because of preference falsification, widespread dissatisfaction is concealed. In response to some shock–which can be very minor–people reveal their dissatisfaction or anger simultaneously, resulting in a revolt or civil unrest.

There is a coordination game aspect to the transition between passivity and revolt. People will reveal their preference by going into the street only when they are convinced that enough other people share their views. Widespread falsification makes it difficult to know how widespread the dissatisfaction is, and tends to cause people to remain quiet and at home. But if something triggers enough people to reveal it, a cascade is triggered and the equilibrium flips from no one revealing to everyone revealing.

In the UK, it is clear that numerous individuals were concealing their true preferences about Leave vs. Remain. The elite in the UK, and the EU as a whole, mounted a campaign of insult and intimidation. They had no positive message, but engaged in fear-mongering and ad hominem. Any brave soul who put his or her head above the parapet was immediately subjected to a barrage of invective. So many people stayed hunkered down, and concealed their preferences.

Social control worked, in one sense: it kept people’s mouths shut. But unlike the revolutionary situation, there was no coordination problem, and no need for a spontaneous and simultaneous recognition that the socially ostracized beliefs were in fact widely shared in order to spark action. The Referendum allowed people to express their preferences privately, and to keep them private if they chose. People felt compelled to stifle expression of their preferences in public, but could do so in a way that did not expose them personally to obloquy if they chose not to reveal their vote. They didn’t have to coordinate, which is the main impediment to translating dissatisfaction into action. The Referendum made it easy.

Although the mechanism was somewhat different, the result was the same: an outcome that completely shocked the elite at the top of the social and power hierarchy.

Indeed, I would say that the attempt to exert social control actually affected preferences. The bullying and scorn and insult from the Remain crowd revealed a lot about who they are and what they think of those who are not them. I think it is highly likely that many who might have actually been favorably disposed to the Remain side looked at that and said: “Are these the kind of people I want running my life? Hell No!”

The unfalsification of preferences that the vote allowed is why its effect was so cataclysmic. The smug priors of the better-than set were hit by an avalanche of information about preferences. Their confidence in their popularity, and in the shared belief in their superiority, has been shattered. They now have to update their beliefs about their popularity and standing in the rest of the EU.

In a sense, the British have done the Eurogarchs a favor, by giving them a big dose of reality that should shake them from their reveries. They have time to absorb this information and adjust course.

I predict that they will not. The initial reaction–doubling down on the scorn–is a pretty good indication of that. Furthermore, they seem to be finding all sorts of ways to rationalize the outcome, and suggest that it was a one-off that reflected English (and Welsh) eccentricity.

Good luck with that.

Now the Eurogarchs are confronted with a rather daunting choice. Do they risk referenda (or other means of expressing popular preferences about the EU and its current course) in other countries? That would reduce the cost of revealing true preferences, and risk a Brexit-like outcome. But if they refuse to countenance democratic means of preference expression, the preference revelation could come in a much more destructive and violent way, through civil unrest or outright rebellion.

Societies that rely heavily on social control to induce uniformity in the expression of opinion are inherently brittle. They tend to be tidier and more orderly than societies that don’t, but more expression-tolerant societies provide means for people to blow off steam, and more importantly, to give those in government information that can induce them to change course before alienation becomes too extreme. This makes the tidy, orderly, tightly controlled societies more vulnerable to sudden and severe breakdown.

The great cultural, linguistic, and economic heterogeneity of the EU means that greater pressure is required to create homogeneity in expressions of opinion about political issues. Even greater pressure is needed when there is a big shock that raises questions about the competence of the leadership, and its consideration for the opinions of those they rule. Europe has experienced two big shocks–economic malaise, and perhaps more importantly, the refugee crisis.

This means that the EU is particularly vulnerable to preference falsification at present. It is also acutely vulnerable to a shattering of its brittle structure when those preferences are revealed. For this reason, I would say that the expectation should be that the EU will muddle through, but there is a substantial tail risk that it will shatter into 28 pieces. And when it does, it will not go with a whimper, but a bang.

Confounding all elite prognostication (more on this aspect below), British voters repudiated their self-anointed better-thans and voted to leave the EU.

Market reaction was swift and brutal. The pound sold off dramatically, as did UK stocks. Interestingly, though, Continental stock markets fell substantially more. Bank stocks took the brunt. Volatility indices spiked. Oil was down modestly.

These reactions were not due, in my view, to the direct effect of a British exit from the EU, via conventional channels (e.g., increased costs of trade resulting in inefficiencies and a decline in productivity due to failure to exploit comparative advantage, resulting in a decline in incomes). Instead, they reflect a substantial increase in risk, and in particular geopolitical risk. The unexpected result increases substantially the odds of a falling apart of the EU–or at the very least, of it losing quite a few of its parts. That’s why German, French, and Dutch markets sold off more than the UK.

I was in Denmark last month, speaking to shipowners. Several said that if the UK were to leave the EU, Denmark is likely to go as well: since Denmark is not on the Euro, it is easier for it to leave than Eurozone nations, and the Danes have had their fill of European immigration policy, among other things.

But there is now talk of core countries–including France–leaving. What’s more, the Brexit vote demonstrates the depth and intensity of populist, nationalist sentiment, something the elites had convinced themselves was a marginal force that could be contained by insulting it as racist and isolationist. That was tried in the UK, and failed spectacularly. Now everyone should be on notice that the smug, supercilious, and superior are sitting on a caldera.

It is this fear that the British departure creates a bad precedent that is leading some European leaders to advocate a punitive approach to negotiations with Britain. As a one-off, this makes no sense: a battle of trade barriers and regulations and red tape would harm continentals too. But if the Euros view this as a repeated game, punishment of the British to deter others from getting any notions in their heads about following their lead has some appeal.

But this is a finite game: there are only so many countries in Europe. The Euro threats make sense as a rational strategy only if there is some appreciably probability that the leadership is viewed as crazy, and will punish even when that is self-harming. Come to think of it . . .

As for the immediate effects, Brexit has the biggest potential to cause disruptions and inefficiencies in the financial sector, because of London’s dominance. Clearing is one example. How will LCH fit into the fragmented regulatory landscape? Recall the tortuous negotiations between the US and EU over recognizing each other’s CCPs. Will that have to be repeated between the UK and the EU, and under the clouds of recrimination and punishment strategies? As another example, MiFID II is scheduled to go into effect before Britain leaves. Will it be implemented, then changed? Post-exit British firms will no longer be subject to the regulatory and judicial bodies in charge of enforcing these regulations: how will they fill that breach?

Regardless of the specifics, there will inevitably be greater regulatory and legal fragmentation, and this will increase complexity and cost. But it also creates opportunities. The UK can now engage in regulatory competition with the EU (and the US), which is a different thing altogether from trying to influence regulatory policy from inside the tent (which Cameron attempted with a notable lack of success). This is constrained to some degree by supranational regulation (e.g., Basel), but London prospered quite well as a financial center post-War, pre-EU by offering regulatory advantages over the US and European countries. (Remember Eurodollars!) (One specific thought: would the UK proceed with something as inane and costly as the MiFID commodity position limits? Or applying CRD IV capital requirements on commodity traders? Since these initiatives were driven by the continentals, I seriously doubt it.)

This is all very complicated, and will be played out in the context of a larger game between Britain and the EU (and between the EU and individual EU countries). Hence the outcome is wholly unpredictable. But having Britain as an independent player will change dramatically the regulatory game. The greater competition is likely to result in less regulation, and crucially less stupid regulation. Further, even to the extent that one jurisdiction insists on stupid regulations (with the EU being the odds-on favorite here), the existence of competing jurisdictions means that many will be able to escape the stupidity.

As for the broader political lesson here, it is a decisive repudiation of a self-satisfied soi disant elite by the great unwashed. The EU has been neuralgic about democracy since its inception, and Brexit shows you exactly why their fears of it are justified. The people have spoken. The bastards. And the Euros will try mightily to make sure that never ever happens again.

There’s been a lot of commentary along these lines. Gerard Baker’s piece in the WSJ is probably the best I’ve read. This piece also from the WSJ is pretty good too.

This is a global phenomenon: the Trump insurgency in the US is another example. What is most disturbing–and most revealing–about the reaction of the elites to these outbursts of popular opposition to their direction and instruction is their lack of self-examination and humility, and their immediate resort to scorn and insult directed at those who had the temerity to defy them. Immediately after the results were clear, those voting leave were tarred as old/white/stupid/poor/uneducated/racist.

Totally lacking was the question: “If argument and evidence are so clearly on our side, why did we fail so miserably in convincing people of the obvious?” To these self-perceived elites, their superiority is self-evident and any opposition can only be attributed to mental defect or bad faith.

Not only is this superficial and immature–nay, juvenile and narcissistic–it is amazingly self-destructive. You were rejected because it was widely believed–with good reason–that you were aloof, condescending, and lacking in understanding of and empathy for the concerns of millions of people not of your social set. What better way to cement that reputation than by proceeding to piss all over those people? You think that will help them get their minds right, and vote for you next time? Think that, and you truly are delusional.

And mark well: this elite condescension is not heard just in the Midlands, but it comes through loud and clear in France, Germany, the Netherlands, and other countries in Europe. Consequently, this reaction actually increases the odds of an EU crisis. Those who refuse to respond constructively and thoughtfully to adverse feedback are likely to see things get worse, rather than better.

This condescension also helps explain the surprise at the Brexit outcome. So convinced of their virtue and intelligence, the Remain side could not comprehend that large numbers of people could take the opposite side. Secure in their bubble, talking only to one another, they had no idea of what was going on outside it. The Pauline Kael effect, with a British accent.

Further, the concerted effort in the establishment media to malign the Leavers succeeded in silencing many of them–but not in changing their minds. (Most disturbingly, the Remain side took strange comfort in the murder of Jo Cox.) They were bludgeoned into stubborn silence, which lulled the establishment into believing that the opposition was marginal and marginalized: this helps explain the pre-vote 90 percent betting odds on Remain, with the betting being dominated by those inside the bubble. But the silent bided their time and exacted their revenge.

Payback, as they say, is a bitch. But are the elites learning from this lesson? The first indications are negative.

The EU epitomizes what Thomas Sowell referred to as the Vision of the Anointed. This review summarizes the book of that title well, and although Sowell focuses on the US, what he said applies in spades to the EU, and Europhiles:

In The Vision of the Anointed, the distinguished economist and social theorist Thomas Sowell makes an important contribution to classical-liberal and conservative thought by scrutinizing the ways in which a self-consciously elite, or “anointed,” group uses ideas to maintain its power in American political life. Sowell regards American political discourse as dominated by people who are sure that they know what is good for society and who think that the good must be attained by expanded government action. This modern-liberal elite exerts its influence through institutions that live by words: the universities and public schools, the media, the liberal clergy, the bar and bench. Its dominance results from its command of the information that words convey and the attitudes that words inspire.

People who live by words should live also by arguments, butas Sowell richly documentsthe modern-liberal elite is not so good at arguing as it is at finding substitutes for argument. Sowell analyzes the major substitutes. Suppose that you doubt the necessity or usefulness of some great new government program. You may first be presented with a quantity of decontextualized “facts” and abused statistics, all indicating the existence of a “crisis” that only government can resolve. If you are not converted by this show of evidence, an attempt will probably be made to shift the viewpoint: outsiders may doubt that there is a crisis of, say, homelessness, but “spokesmen for the homeless” purportedly have no doubts.

. . . .

If even these methods fail to win you over, attention will be redirected from the political issue to your own failure of imagination or morality. It will be insinuated that people like you are simplistic or perversely opposed to change, lacking in compassion and allied with the “forces of greed.” (As Sowell observes, it is always the payers rather than the spenders of taxes who are considered vulnerable to the charge of greed.) [Emphasis added.]

The Anointed are a self-identified elite. They think that elite is a synonym for “meritorious,” “intelligent,” “wise,” or “morally superior.” But “elite” refers first and foremost to a place in a hierarchy, and the merit, intelligence, wisdom, and morality of those at the top of a hierarchy depends on the system. Hayek noted over 70 years ago that in a statist, crypto-socialist system the worst get to the top, i.e., the elite is a collection of the worst. The Eurogarchy shows just how right Hayek was.

For all the paeans sung to it, the EU has become far more than a means of reducing barriers to the flow of goods, capital, and people: that could have been accomplished with something as simple as the commerce clause to the US Constitution. Instead, the Anointed have constructed a vast hyper-state that controls and regulates every aspect of commercial activity, and much beyond. Cost raising and incentive sapping explicit restrictions on trade and investment across historical borders have been replaced by border-spanning onerous and minute regulations that raise costs and dull incentives: innovation has been especially hard hit. Moribund growth in the post-crisis EU should raise questions, but the Eurogarchs plunge ahead with their vast regulatory schemes.

I would approve of a supra-national organization that reduced the impediments to individuals consummating mutually beneficial bargains and exchanges. But that is not what the EU is. It is a dirigiste organization predicated on the belief that a technocratic elite knows better, and can direct and guide far more effectively than the invisible hand. Although its demise could lead to something worse, there are definitely better alternatives. Hence, the discomfort of the EU worshippers is music to my ears.

European leaders–Merkel most notably–are fond of saying “More Europe,” meaning more centralization and more suppression of local control. If they want Europe to survive as a political entity, they need to reverse their mantra to “Less Europe.” They need to reverse the creation of a hyper-state. They need to be more respectful of local, national sentiments and differences. Brexit shows that if they fail to do so, they are running the serious risk of having no “Europe” at all.

Are they heeding the lesson? Early signs suggest no. So be it. They are reaping what they sowed, and if they decide to sow more, so shall they reap.

The UEFA Euro 2016 has seen the usual hooliganism. What would soccer–football, excuse me–be without it? (Isn’t it interesting how the “beautiful game” routinely sparks violence while a game denigrated for violence–American football–seldom does?)

Nothing new about that. What makes Euro 2016 somewhat unique is the focus on Russian hooligans, and the attribution of malign political motives to them, and most importantly, direction from the very top.

The English mixed it up with the Russians in Marseille, and got the worst of it. The English press was whinging about the unfairness of it all. Apparently, as opposed to being fat, drunken louts like proper English hooligans, the Russians were hard, sober toughs. That’s not cricket!

Englishman Tim Newman–whom I’m honored comments periodically here–was having none of it:

You’ve got to love the British press:

England fan fighting for his life and dozens more injured as English fans and Russian thugs clash at Euro 2016 in Marseille

The English were fans.  The Russians were thugs.  Presumably no Englishman in Marseille last night displayed thuggish behaviour, and no Russian showed the slightest interest in football.

. . . .

But what I never heard, in all my time in Phuket or indeed ever in my life, was a story told to me by non-Brit complaining of getting into a fight with another non-Brit.  For whatever reason, Frenchmen don’t seem to end up fighting Spaniards in beach resorts and Germans somehow manage to rub along all right with Italians on holiday without kicking the shit out of one another.  The common element in all the fighting in beach resorts across the world, particularly the Mediterranean, is the presence of young Brits.  Little surprise then that the only trouble seen thus far at the Euro 2016 tournament features the same demographic.

There were battles involving other nationalities pretty much everywhere matches were played. It’s what those oh-so-civilized Euros do.

It may well be true that the Russians were fitter, better trained, and more organized, and kicked ass as a result. It may well also be true that members of the Russian security forces and veterans of the Donbas were among the Ultras. But to claim that this is part of “Putin’s special war” is beyond idiotic.

One of the main pieces of “evidence” that have been trotted out to suggest official complicity are the Tweets of Duma deputy speaker Igor Lebedev: “I don’t see anything bad in the fans fighting. On the contrary, well done guys. Keep it up!” and “I don’t understand those politicians and bureaucrats who are now denouncing our fans. We need to defend them, and they’ll come home and we’ll sort it out.”

Deputy Speaker of the Duma. Sounds pretty official and important, right? Except that (a) the Duma is merely a Potemkin legislature, and (b) people like Lebedev (who is a member of Zhirinovsky’s party) are in the Duma precisely to provide an outlet for the nationalist loons: better to have them inside the Duma where they can be watched and controlled and do no harm, than out on the streets making trouble.

It’s actually embarrassing to cite someone like Lebedev as a barometer of official Kremlin (i.e., Putin) policy. It’s a case of those who are talking don’t know, and those who know aren’t talking.

And really, you have to pick a narrative. Those pushing the story that  Russian soccer hooligans are conducting special warfare in Europe also  portray Putin as a mastermind playing chess, and dominating ineffectual and overmatched European and American leadership. But these claims are almost impossible to reconcile.

At the very time that Europe is vacillating about maintaining sanctions against Russia, and there are deep divisions within Europe about whether to confront Russia more forcefully (moves that German FM Steinmeier called “saber rattling”), the soccer hooligans are an irritant in the Russian-European relationship. No, Putin is not about be all warm and fuzzy, but he has no reason to engage in provocations that alienate the German and French governments, but which produce no tactical or strategic benefit.

In the realm of sport in particular, this couldn’t come at a worse time. Russia’s reputation is already at rock bottom due to the doping scandal which has resulted in the banning of Russian track and field athletes from the Olympics, and could conceivably result in the barring of Russian participation from Rio altogether. Hardly an opportune time to cast Russian sportsmanship in an even worse light.

It would be incredibly short sighted and unproductive for Putin stoke soccer violence. What could he gain? Nothing that I can see. However, it is easy to see what it costs him: it increases the likelihood that sanctions will endure, and provides an argument for those advocating a more muscular approach to Russia.

Yes. Maybe Putin is that short-sighted and capable of cutting his nose to spite his face. But if that’s the case, he’s the antithesis of a strategic genius. He would be nothing more than a mouth-breathing numb-nuts like Lebedev.

Conversely, if  you choose the “Putin is a chess master” narrative, the Russian soccer thuggery suggests that the vaunted power vertical is not all encompassing, and that Putin does not exercise the complete control that is often attributed to him–perhaps not even over the security services. (His reorganization of those services supports this interpretation: why reorganize something that is completely at his beck and call?)

My take on all of this is that there are indeed a lot of obnoxious, violent Russians–just like there are a lot of obnoxious, violent Euros from any nation you care to name. Soccer hooliganism has become a Euro tradition, and the Russians are joining in: chalk it up to their integration into Europe! But as for broader political implications, if Russian soccer hooligans have official sanction, Putin isn’t very clever: indeed, he would have all the strategic acumen of the criminals in Fargo. And if they don’t have official sanction, Putin isn’t as omnipotent within Russia as he is widely portrayed.

Sometimes hooligans are just hooligans. Putin no doubt finds that hooligans have their political uses, but stirring trouble in Europe at such a fraught time isn’t one of them.

I’ve long been an Elon Musk/Tesla skeptic, to put it mildly. I’ve called him out as a crony capitalist who milks subsidies, and as a con man.

Most recently, I said that one Musk company’s (SpaceX) purchase of the debt of another Musk company–Solar City–should raise alarms. Well, today four alarms rang: Tesla bid to take over Solar City, and to pay for the acquisition in Tesla stock. Solar City (SCTY) stock soared on the news: Tesla plunged. The effect of the announcement was market cap negative: Tesla’s value declined more than SCTY’s rose.

Both Solar City and Tesla rely on government subsidies, and crucially, on very dodgy financing models and questionable accounting. Like many other solar firms, Solar City was teetering on the verge of bankruptcy. Such an event would have a direct financial consequence for Musk, and given Elon’s large (and leveraged) ownership stake in Tesla, this would impact Tesla adversely.

Moreover, there’s a serious possibility that a SCTY bankruptcy would reveal a byzantine web of financial connections among Musk’s various ventures. Given the boundary-pushing accounting and tenuous financial condition of all of his companies, there is no doubt a lot hidden that Elon desperately wants to keep hidden.

But perhaps most importantly, a SCTY bankruptcy would undermine Musk’s image as a visionary genius and business colossus. This image is vital to keeping Musk, Inc. going. It is vital because this image is a key element of every con, and if Musk isn’t a con man, he sure does a great impression of one.

One key tell of that is that whenever people start expressing doubts about Tesla, Musk has some grandiose announcement about the next new big thing, even though he hasn’t delivered on the last new big thing, or even the new big thing before that. That’s a classic con man trick.

This is also a vital part of the Tesla funding model. In addition to subsidies, Tesla relies heavily on customer deposits for funding. In order to get those deposits, Tesla has to make promises on production that it has not been able to keep. But enough people are dazzled by Elon’s pitch that they fork over the cash that he needs to keep the endeavor aloft.

I read an investment report that referred to such types as “loss tolerant investors.” That’s a polite way of saying “suckers.”

A major Elon fail would put the con model at risk. So despite the fact that the initial reaction to the deal has been incredulity and outrage, and despite the fact that that reaction was utterly predictable, Musk has plunged ahead. That should give you some idea of his desperation.

In the announcement of the bid, Tesla served up a load of argle-bargle that should make any PR person blanch:

Tesla’s mission has always been tied to sustainability. We seek to accelerate the world’s transition to sustainable transportation by offering increasingly affordable electric vehicles. And in March 2015, we launched Tesla Energy, which through the Powerwall and Powerpack allow homeowners, business owners and utilities to benefit from renewable energy storage.

It’s now time to complete the picture. Tesla customers can drive clean cars and they can use our battery packs to help consume energy more efficiently, but they still need access to the most sustainable energy source that’s available: the sun.

The SolarCity team has built its company into the clear solar industry leader in the residential, commercial and industrial markets, with significant scale and growing customer penetration. They have made it easy for customers to switch to clean energy while still providing the best customer experience. We’ve seen this all firsthand through our partnership with SolarCity on a variety of use cases, including those where SolarCity uses Tesla battery packs as part of its solar projects.

So, we’re excited to announce that Tesla today has made an offer to acquire SolarCity. A copy of Tesla’s offer is provided below.

If completed, we believe that a combination of Tesla and SolarCity would provide significant benefits to our shareholders, customers and employees:

• We would be the world’s only vertically integrated energy company offering end-to-end clean energy products to our customers. This would start with the car that you drive and the energy that you use to charge it, and would extend to how everything else in your home or business is powered. With your Model S, Model X, or Model 3, your solar panel system, and your Powerwall all in place, you would be able to deploy and consume energy in the most efficient and sustainable way possible, lowering your costs and minimizing your dependence on fossil fuels and the grid.
• We would be able to expand our addressable market further than either company could do separately. Because of the shared ideals of the companies and our customers, those who are interested in buying Tesla vehicles or Powerwalls are naturally interested in going solar, and the reverse is true as well. When brought together by the high foot traffic that is drawn to Tesla’s stores, everyone should benefit.
• We would be able to maximize and build on the core competencies of each company. Tesla’s experience in design, engineering, and manufacturing should help continue to advance solar panel technology, including by making solar panels add to the look of your home. Similarly, SolarCity’s wide network of sales and distribution channels and expertise in offering customer-friendly financing products would significantly benefit Tesla and its customers.
• We would be able to provide the best possible installation service for all of our clean energy products. SolarCity is the best at installing solar panel systems, and that expertise translates seamlessly to the installation of Powerwalls and charging systems for Tesla vehicles.
• Culturally, this is a great fit. Both companies are driven by a mission of sustainability, innovation, and overcoming any challenges that stand in the way of progress.

Note the appeal to enviro-vanity. “Shared ideals.” “Culture.” Vague synergies: “including by making solar panels add to the look of your home.” Are they serious? Is that the best he can come up with? “Customer-friendly financing products.” Another joke: the unviability of the Solar City financing model is exactly what put the company into its current straits. So extending this unviable financing model to autos is somehow going to do wonders for Tesla? The release mentions charging systems. A few years ago Elon promised thousands. There are currently 616 worldwide, and Elon has faded his original promise to provide free charging: Model S customers will have to pay.

Further, there’s no explanation of how marrying one cash bleeder to another cash bleeder is going to address either company’s fundamental problem . . . which is that they are cash bleeders. Buying Solar City exacerbates the Tesla cash bleeding problem, rather than ameliorating it: the mating of hemophiliacs is unlikely to turn out well.

Indeed, Tesla bleeds cash like a Game of Thrones battle scene. Hence the need to rush out the Model S (and collect deposits) while huge questions about production remain. Hence the repeated returns to the equity markets to issue new stock.

Which will now be harder, because paying for Solar City in stock–and hence diluting existing shareholders substantially–mere weeks after a big equity offering will make investors to whom Musk will have to sell stock in the future to meet his voracious needs for money think twice: will he take their money then dilute them again a few weeks or months later?

This move looks very short sighted, and it almost certainly is. But Musk is doing it because he needs to address very pressing immediate concerns, and he’ll worry about the future ramifications when the future comes.

Musk has made a living off of suckers. Suckers in government (including most notably the federal government, and the states of Nevada and California) who have lavished huge subsidies based the dubious environmental benefits of electric vehicles. Suckers enamored with the technology and performance of Tesla vehicles–despite the questions surrounding Tesla’s ability to produce those vehicles.

To keep the suckers coming, Musk has to perpetuate his image as the Great and Powerful Oz. A major fail–like the bankruptcy of Solar City–threatens to pull back the curtain and demolish that image. Musk needs to prevent that from happening. He needs to buy time, and to buy time, he is having Tesla buy Solar City.

Desperate times call for desperate measures. The proposed purchase of Solar City reeks of desperation, because it facially makes no business sense, and is explicable only as a way to keep a con alive.

The CFTC is currently considering Regulation AT (for Automated Trading). It is the Commission’s attempt to get a handle on HFT and algorithmic trading.

By far the most controversial aspect of the proposed regulation is the CFTC’s demand that algo traders provide the Commission with their source code. Given the sensitivity of this information, algo/HFT firms are understandably freaking out over this demand.

Those concerns are certainly legitimate. But what I want to ask is: what’s the point? What can the Commission actually accomplish?

The Commission argues that by reviewing source code, it can identify possible coding errors that could lead to “disruptive events” like the 2013 Knight Capital fiasco. Color me skeptical, for at least two reasons.

First, I seriously doubt that the CFTC can attract people with the coding skill necessary to track down errors in trading algorithms, or can devote the time necessary. Reviewing the code of others is a difficult task, usually harder than writing the code in the first place; the code involved here is very complex and changes frequently; and the CFTC is unlikely to be able devote the resources necessary for a truly effective review. Further, who has the stronger incentive? A firm that can be destroyed by a coding error, or some GS-something? (The prospect of numerous individuals perusing code creates the potential for a misappropriation of intellectual property which is what really has the industry exercised.) Not to mention that if you really have the chops to code trading algos, you’ll work for a prop shop or Citadel or Goldman or whomever and make much more than a government salary.

Second, and more substantively, reviewing individual trading algorithms in isolation is of limited value in determining their potentially disruptive effects. These individual algorithms are part of a complex system, in the technical/scientific meaning of the term. These individual pieces interact with one another, and create feedback mechanisms. Algo A takes inputs from market data that is produced in part by Algos B, C, D, E, etc. Based on these inputs, Algo A takes actions (e.g., enters or cancels orders), and Algos B, C, D, E, etc., react. Algo A reacts to those reactions, and on and on.

These feedbacks can be non-linear. Furthermore, the dimensionality of this problem is immense. Basically, an algo says if the state of the market is X, do Y. Evaluating algos in toto, the state of the market can include the current and past order books of every product, as well as the past order books (both explicitly as a condition in some algorithms, or implicitly through the empirical analysis that the developers use to find profitable trading rules based on historical market information), as well as market news. This state changes continuously.

Given this dimensionality and feedback-driven complexity, evaluating trading algorithms in isolation is a fools errand. Stability depends on how the algorithms interact. You cannot determine the stability of an emergent order, or its vulnerability to disruption, by looking at the individual components.

And since humans are still part of the trading ecosystem, how software interacts with meatware matters too. Fat finger problems are one example, but just normal human reactions to market developments can be destabilizing. This is true when all of the actors are human: it’s also true when some are human and some are algorithmic.

Look at the Flash Crash. Even in retrospect it has proven impossible to establish definitively the chain of events that precipitated it and caused it to unfold the way that it did. How is it possible to evaluate prospectively the stability of a system under a vastly larger set of possible states than those that existed on the day of the Flash Crash?

These considerations mean that  the CFTC–or any regulator–has little ability to improve system stability even if given access to the complete details of important parts of that system. But it’s potentially worse than that. Ill-advised changes to pieces of the system can make it less stable.

This is because in complex systems, attempts to improve the safety of individual components of the system can actually increase the probability of system failure.

In sum, markets are complex systems/emergent orders. The effects of changes to parts of these systems are highly unpredictable. Furthermore, it is difficult, and arguably impossible, to predict how changes to individual pieces of the system will affect the behavior of the system as a whole under all possible contingencies, especially given the vastness of the set of contingencies.

Based on this reality, we should be very chary about letting any regulator attempt to micromanage pieces of this complex system. Indeed, any regulator should be reluctant to undertake this task. But regulators frequently overestimate their competence, and financial regulators have proven time and again that they really don’t understand that they are dealing with a complex system/emergent order that does not respond to their interventions in the way that they intend. But fools rush in where angels fear to tread, and if the Commission persists in its efforts to become the Commissar of Code, it will be playing the fool–and it will not just be algo traders that pay the price.

I have often described Obama as an American Bourbon (as in Louis XVIII, not Old Granddad): he has learned nothing, and forgotten nothing. No single thing exemplifies this more than his stubborn refusal to blame radical Islam for the latest outrage, this one in Orlando.

Obama claims that his rationale is that he does not want to allow ISIS to claim that the US is at war with Islam. Well, that’s the whole point of adding “radical” as a modifier. It is to demonstrate that we do not have an indiscriminate hatred or fear or even dislike of all Muslims. Obama’s refusal to make this distinction suggests that he thinks that Muslims are too stupid to recognize that. Or perhaps he thinks so little of Americans that he doesn’t believe that we are truly capable of making discriminating judgments, and that he really believes were are all closeted–or not so closeted–Islamophobes. He’s insulting either Muslims, or Americans, or more likely both.

Regardless, would that there were a latter-day Talleyrand who would lean over to Obama and say: “But sire, they are most decidedly at war with us.”

Keynes once said  “When the facts change, I change my mind. What do you do, sir?” If Obama was his interlocutor, the reply would be: “Nothing. I am never wrong, and no new facts can contradict my original conclusion.” That’s exactly what leads to the Bourbon forget nothing-learn nothing syndrome.

Here’s why Obama’s mulishness is intensely unsettling to most Americans. They believe that his refusal to acknowledge a plain-as-the-nose-on-your-face fact has led to a conscious policy of ignoring threats for fear of offending Muslims. Orlando just provides more grist for that mill.

The shooter, Omar Mateen, flew more red flags than a Soviet May Day parade. The FBI investigated Mateen twice, and interviewed him three times. He had interacted with an American who went to Syria to become a martyr for ISIS. He was involved with Marcus Robertson*, a well-known jihadist and radical cleric who had been a bodyguard for the “Blind Sheikh.” He had attended an extremist mosque. He was well-known at his work for making extremist remarks.

But the FBI said “move along, nothing to see here!”, and the investigations were dropped. In the aftermath of Fort Hood (“workplace violence”), the dismissal of the investigation of the Tsarnaevs, and other episodes of denial and avoidance, people have a clear sense that Obama has made it plain to everyone below him in the chain of command that even the perception of Islamophobia is a far graver sin than letting a potential mass-murderer walk free–and it’s a career killer to boot.

It’s not just the refusal to utter the words “radical Islam” that conveys this message. “We can absorb attacks.” “ISIS is not an existential threat.” “You are more at risk of dying from a fall in your bathtub.” All of these send a message: Obama believes that Americans have an inordinate fear of terrorism.

Easy for a guy who drives around in an armored limousine called “the Beast” to say, isn’t it? Guy in an Orlando night club–not so much.

Yes, the probability of dying from terrorism is small. But people are rationally averse to low probability, extremely adverse events. And the question is whether these events can be prevented or deterred at reasonable cost, and whether it is the government’s responsibility to do so. Most Americans think yes. Obama evidently thinks no, or that the cost of perceived Islamophobia outweighs the benefit of preventing a mass murder or two.

It’s hard to believe, but the refusal to say “radical Islam” was among the least offensive things that Obama said today. He had the temerity to claim that attacks like Orlando are proof that ISIS is losing on the battlefield. As if there what happened in Orlando (or San Bernardino) involved the redeployment of any ISIS resource in Syria or Iraq, or that ISIS has no independent reason to attack the US. (I remind you that in his “ISIS is the jayvee” period, Obama asserted that ISIS had no intention of attacking the West as a reason for his insouciance. Wrong again, Carnac.) Further, he touted the 13,000 air strikes. Bean counting bullshit. How many strikes have been aborted? How many times has LBJ II vetoed a target? What is the operational impact of these airstrikes? Why was the air campaign so desultory for so long? Why has ISIS been given years of breathing room?

Obama has theories about Islam and terrorism. He has long held those theories, and he adamantly refuses even to modify them even in the face of a torrent of evidence. And pace Jefferson Davis, Americans have strong grounds to believe that many of their fellow citizens have died of that theory, including 50 people in a night club in Orlando.

* Robertson was interviewed this evening by Greta van Sustern. Considering it was an interview with a sick bastard who wants us infidels dead, it did have its amusing moments. Among other things, Mr. Robertson gave his weighty opinions on the presidential race. Among his pearls of wisdom was that Hillary would be dangerous as a president because as a woman she might get angry during her menses, and push the button.

Perhaps Mr. Robertson is a little bit shaky on the realities of the female reproductive system (which seems to be the case with most fundamentalist Muslim clerics), but I am pretty sure that Hillary is well past the age when menses, or even menopause, can have the slightest effect on her behavior.

Who wants to break the news to him? It could change his vote!

Andy Home has an interesting piece in Reuters. He provides information that strongly suggests that the LME copper contract has been squeezed. All of the tell-tale signs are there:

What the exchange terms a dominant long position emerged on the copper market last week.

This player controlled 50-80 percent of all LME open stocks, excluding metal earmarked for physical load-out, and had bulked this up with cash positions to the point that its overall position represented in excess of 90 percent of all available stocks.

That position was being rolled forward daily, forcing shorts to pay the backwardation price as they too rolled their positions.

The cash premium over three-month metal, the backwardation, had flexed out as wide as $27.75 per ton the previous week as the long tightened its grip on the London market’s nearby date structure.

Someone, it seems, was not prepared to pay the roll price and decided to deliver physical metal against their position. [LME stocks rose almost 40 percent in a few days.]

And they did so in a way to generate the maximum bang for their buck.

It seems to have worked.

That cash premium has evaporated. As of Thursday’s close, the cash-to-three-months spread was valued at $15 per ton contango.

The ripple effects have spread down the curve, LME broker Marex Spectron noting that the July-December spread eased $10 to $35 per ton contango over the course of Thursday.

The latest positioning reports, denoting the state of play as of Wednesday’s close, show the dominant long still holding 50-80 percent of stocks <0#LME-WHL> but with no equivalent cash position <0#LME-WHC>.

All the signs are there: a large long position, here both in physical metal and prompt LME contracts; a spike in the backwardation; a movement of metal into deliverable position; followed by a collapse in the backwardation. Also, the large long apparently liquidated the bulk of his position in LME contracts, as is necessary to profit. Right out of the book.

These episodes are chronic in the commodity markets, and on the LME in particular. They impose real deadweight losses (the costly movement of copper into LME warehouses being an example), and undermine the effectiveness of derivatives contracts as a hedging mechanism. Would that regulators pursued this conduct more vigorously, rather than obsessing over spoofing games, or chasing the “excessive speculation” will-o-the-wisp.