Streetwise Professor

April 20, 2024

Why Do Governments Repeatedly Engage in Energy and Environmental Boondoggles?

Filed under: Climate Change,CoronaCrisis,Economics,Energy,Politics,Regulation — cpirrong @ 1:34 pm

In the Wealth of Nations, Adam Smith famously wrote:

By means of glasses, hotbeds, and hotwalls, very good grapes can be raised in Scotland, and very good wine too can be made of them at about thirty times the expense for which at least equally good can be brought from foreign countries. Would it be a reasonable law to prohibit the importation of all foreign wines, merely to encourage the making of claret and burgundy in Scotland? (WN IV.ii.15)

This came to mind when reading this Bloomberg article about an “efuels” venture:

At its plant, electrolyzers break down water into hydrogen and oxygen, using electricity generated from nearby wind and solar farms. The hydrogen is then transported to a reactor, where it meets CO2 captured from local refineries, setting off a series of complex chemical reactions aided by patented catalysts. The result is a synthetic fuel with the same chemical properties as its fossil fuel-based cousins.

Yes, this process can create “equally good” fuel as traditional hydrocarbons. But at what cost? Well, they could tell you, but then they’d have to kill you:

How Infinium fits into that future remains to be seen. Schuetzle is tight-lipped about the company’s exact plans. While acknowledging that Infinium’s e-fuel is “more expensive” than conventional fuel, he didn’t disclose the cost difference. 

Probably not the 30x of Adam Smith’s Scottish wine, but evidently a large enough multiple to frighten the horses if disclosed.

Because of this cost differential, this industry will come into existence only as the result of heavy-handed government policy, in the form of subsidies, kneecapping competitors (namely traditional fuels), or more likely both. And echoing Smith, the question becomes “is it a reasonable law or policy to rig they system to favor this technology, merely to encourage the making of efuels?”

Smith did not answer his question because it answered itself. And the same is true of mine.

To repurpose an old joke, the government wants to address climate change in the worst way, and it is. Picking technologies that are feasible but exorbitantly costly in order to achieve a putatively desirable objective is a tried and false modus operandi of government. And this has been especially true of environmental and energy policies in the United States going back to the dawn of the EPA in the early 1970s, and the energy crisis of the mid-to-late 1970s.

I recall the “synfuels” boondoggles of the late-70s, e.g., making oil from shale. No, not the shale revolution you might be thinking of that actually resulted in the economical production of vast amounts of crude oil and natural gas, but taking shale rock in Wyoming with embedded hydrocarbons, subjecting it to energy intensive transformations (redolent of those described above for the efuels project) to produce oil at vastly higher cost than even the then-elevated price of conventionally produced oil. The government spent billions back when a billion actually meant something on this effort (and other synfuel efforts). And every dollar was wasted.

And reading the Bloomberg article demonstrates that the government, in its wisdom, is doing Adam Smith one better: it wants to mandate technologies that don’t really exist (unlike Smith’s “glasses, hotbeds, and hotwalls”):

Some regulators seem to agree with that thinking. The EU will phase out government subsidies for e-fuel made with fossil fuel-sourced CO2 by 2041. 

In its place, governments will mandate that efuels be made from CO2 obtained from air capture, a technology that the Bloomberg article describes as “nascent” but is more accurately described as “pie in the sky” (literally, in this case).

This generation of efuels will come into existence only as the result of government diktat, just as the first generation–ethanol and biodiesel–did. And the efuel technological greenhouse forcing is just one small part of an array of mandating of technology choices, all in the name of fighting global warming. The electrification of everything is if anything a more extreme example: the EPA’s mileage mandates (intended to make ICE vehicles uncompetitive with EVs), its emission standards for fossil fuel generation, and the lavish subsidization of inefficient (because diffuse and intermittent) renewables are if anything more egregious than growing the efuels industry like orchids.

But bureaucrats are geniuses, and will only do what’s best, right? Right? To disabuse yourself of such notions, refer back to the synfuels case discussed above. Or consider two more recent examples.

One was the European policy to force the replacement of gasoline engines with diesel ones in passenger vehicles, with the unintended–but totes foreseeable–result of increased particulate emissions (and widespread fraud by automakers to conceal that). Europe had to jettison that policy, so it has substituted another: eliminating ICE vehicles altogether. I’m sure that will work out swell.

Another that I find particularly rich is the sulfur standards for marine fuels introduced in 2020. In another unintended (but again foreseeable) consequence, the resulting reduction in particulate emissions is allegedly contributing to global warming. The irony behind this (compounded by the fact that efuels funder Bill Gates is also a fan of this technology) is demonstrated by serious proposals–recently experimented with–to inject particulates into the atmosphere to, yes, mitigate global warming.

So why do governments repeatedly adopt excessively costly policies to address putative problems? One part of the answer is hubris combined with the knowledge problem: they think they know a lot more than they do. But that’s not the entire answer.

At root, I think the more fundamental driver is public choice-related. Specifically, specific technologies have specific constituencies who would benefit from their subsidization (or other forms of policy support). They exert influence on legislators and bureaucrats to implement policies that favor them. (It is not a coincidence, comrades, that Bill Gates and the like have connections with many of these schemes.)

In contrast the effects of policies such as a carbon tax or cap and trade are much more diffuse and far less predictable because the ultimate outcome would be determined by market processes in a complex system. Adjustments would occur on myriad margins, not just by large firms but billions of individuals. The winners and losers in such a process are unknown, unknowable, and highly diffuse–these are not the concentrated interests that exert disproportionate influence on public policy.

(NB: I am not endorsing a carbon tax or cap and trade. I merely assert that they would be better ways of reducing carbon emissions than subsidizing or mandating technologies to do so. An exercise in the Theory of the Second Worst, if you will.)

In sum, political systems produce bad “solutions” to problems because of the very nature of politics, a nature that Mancur Olson and others pointed out years ago. A nature in which “public choice” means that the public gets screwed.

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November 3, 2023

Treasury Clearing Mandates: Rearranging the Market Structure Furniture on the Deck of SS Treasury Titanic Is Pointless

Filed under: Clearing,CoronaCrisis,Economics,Exchanges,Politics,Regulation — cpirrong @ 3:29 pm

The market for United States Treasury securities (notes and bonds) has been a source of concern for some years, dating back to the Treasury “flash” event of 15 October 2014, but especially in the aftermath of the “dash for cash” during the March 2020 Covid scare. The relentless selloff of Treasuries in the past year plus has contributed to the angst.

This has led the SEC to propose various changes to the structure of the Treasury market. The most important of these is mandated central clearing of most Treasury cash trades and repos. Well, since Gigi is back in the clearing saddle, I guess I have to mount up too.

The main justifications of the mandate come from Darrell Duffie and various collaborators at the New York Fed (notably Michael Fleming). The IMF has also produced an analysis outlining justifications of the mandating of clearing.

Just as with the Frankendodd clearing mandates, the case for Treasury clearing is very weak.

The basic argument is that Treasury market liquidity has eroded, and that clearing will enhance market liquidity. The supposed main cause of the decline in liquidity is that primary dealers face balance sheet constraints that limit their ability to intermediate the Treasury market.

In the Duffie paper and the Duffie, Fleming et al paper he cites, the main evidence of the deleterious effects of balance sheet constraints comes from the “dash for cash” in March 2020. Summarizing a variety of measures of market liquidity using principal components analysis, they show that liquidity usually varies inversely with market volatility, but liquidity declined far more than predicted by volatility alone in 2020. This was due, it is claimed, to the fact that dealers were not able to increase their holdings of Treasuries due to balance sheet constraints. Their ability to make markets was therefore constrained.

There is a big problem with this analysis. Dealers ended up holding far more Treasuries because Covidmania caused a sharp drop in the demand to hold Treasuries by hedge funds and others–they wanted to substitute cash for Treasuries. Part of the demand drop was accommodated by a price decline, but evidently dealers’ demands did not drop as much as the demands of non-dealers: thus, there was a major portfolio adjustment, with hedge funds etc. reducing their holdings and dealers absorbing as much of these sales as their balance sheets allowed.

Thus, this was a structural change in demand that led to major portfolio adjustments. Yes, the portfolio adjustments were accompanied by a decline in conventional measures of liquidity (bid-ask spreads, depth, etc.) but this decline in liquidity was a consequence of the underlying shock, and clearing of cash Treasuries or repos would have had little, if any, impact on this decline. Even if clearing increased dealers’ balance sheet capacity (something I discuss further below), given the underlying Covid-driven (and Covid policy-driven) demand shock it is highly likely that this incremental capacity would have been fully utilized as well and liquidity would have been about as bad.

This extraordinary shock that led to strained dealer intermediation capacity is different than the types of shocks that dealers typically intermediate. The role of Treasury liquidity suppliers–be they dealers or prop trading firms–is the same as the role of liquidity suppliers in any other market, be it stocks or currencies or commodities: to utilize inventory adjustments (balance sheet) to absorb temporary, temporally uncorrelated, and largely cross-sectionally uncorrelated investor (buy side) demand shocks. The dash for cash was a long-lasting shock highly correlated across major investors in Treasuries. It was a systematic shock that led to a long lasting adjustment in dealer portfolios, whereas market makers absorb idiosyncratic shocks that do not require long lasting adjustments to dealer portfolios.

That is, the kind of portfolio adjustments that occurred in response to Covid were fundamentally different in nature from the kind of portfolio adjustments that firms undertake to make markets. A long term transfer of risk rather than a short term transfer.

Therefore, using the dash for cash as the basis for policies intended to improve Treasury market liquidity is fundamentally misguided.

Be that as it may, it provides the underlying logic advanced for clearing mandates: improving liquidity requires increasing dealer balance sheet capacity, and clearing can supposedly do that.

How can clearing improve balance sheet capacity? The mandate defenders offer that hardy perennial as a justification: netting. For both cash Treasuries and repos, the argument goes, netting out offsetting exposures reduces the amount of capital and cash that dealers require to intermediate. For cash transactions, Duffie, Fleming et al estimate that netting would reduce daily settlement volumes substantially (70 percent in March 2020 according to their figures). This, and other factors, allegedly result in freeing up of dealer balance sheet capacity.

This analysis begs an important question: since dealers would internalize the benefits of more economical use of balance sheets that would result from clearing, why is it necessary to mandate it? Why don’t dealers and other market participants voluntarily utilize clearing more extensively in order to economize on the use of a scarce resource–balance sheet? After all, historically voluntary adoption of clearing in the stock market (e.g., NYSE clearing and CBOT clearing in the 19th century) was specifically intended to reduce settlement volumes by netting. In the case of the CBOT, the clearinghouse netted payment obligations but did not mutualize credit risk on derivatives transactions or impose margins (which were negotiated bilaterally).

The alleged failure of profit-motivated entities to reduce cost (from inefficient use of balance sheets) suggest that this does not come for free: at the margin there must be some cost for clearing that is greater than the putative benefit. That is, profit maximizers will balance marginal private benefits and marginal private costs. The benefits of netting from clearing are private, and thus the current degree of penetration in clearing likely reflects an efficient balancing of these marginal benefits and costs. The advocates of a mandate surely have not shown otherwise.

I further note that, as I wrote repeatedly during the Frankendodd era, netting redistributes default risk rather than reduces it. It is by no means clear that the distribution of default risk under central clearing/netting is more efficient than that under bilateral clearing.

Put differently, the advocates of clearing (both cash and repo) have not identified a “market failure”, e.g., a benefit from clearing that market participants do not internalize. Such a failure is a necessary (but not sufficient) condition for regulatory intervention such as a clearing mandate.

With respect to repo clearing, another supposed benefit is the disparity of margins (“haircuts”) in the repo market. Haircuts for some counterparties are low, but for others they are higher. Central clearing would impose uniform, value-at-risk (“VaR”)-based margins.

The operative theory behind central clearing is that the “loser pays”, namely the resources (margin, default fund contribution) posted by a counterparty is sufficient to cover any losses in the event of that counterparty’s default. Ideally, counterparty credit risk in central clearing is zero, though in reality some always remains.

Well, this begs another question: is the optimal amount of counterparty credit risk/default risk zero (or close to zero) in all transactions? Relatedly, is it optimal not to permit the pricing of counterparty credit risk, where the price varies by the creditworthiness of counterparties, with high credit quality entities paying smaller haircuts than lower quality credits? Central clearing makes pricing independent of creditworthiness, whereas bilateral arrangements that advocates of clearing dislike allow pricing of credit risk that reflects assessments of creditworthiness of counterparties.

Since credit risk mitigants (including margins/haircuts) are costly, and since market participants trade-off the costs and benefits of credit risk and its mitigants, allowing choice and competition on this dimension has strong justifications. Certainly the advocates of mandatory Treasury clearing have not identified a “failure” in this market that justifies regulatory intervention in the form of clearing mandates.

Put differently, clearing mandates force market participants to a corner solution–clear everything, and impose margins that make counterparty credit risk de minimis. The existing state of the market, where market participants can choose to clear with a CCP or not, reveals that they strongly do not prefer the corner solution. Furthermore, the advocates of clearing have failed to identify any market failure that implies that the interior solution/equilibrium is inefficient and can be improved by mandating the corner solution.

And the advocates have yet again failed to recognize the trade-off inherent in clearing: that is, the trade-off between counterparty credit risk and liquidity risk. This despite the fact that the reality of this trade-off has been made abundantly clear (no pun intended) repeatedly in the past–and including in particular the Treasury market basis trade turmoil during the dash for cash.

The real issue in Treasury markets right now, and the real threat to their stability, is the massive deficits in the United States, and the resultant increase in Treasury security issuance and Treasury securities outstanding. It is deficits and issuance that are driving the massive increase in the size of Treasury markets, and the consequent strains on the ability of dealers and others to intermediate the swollen market.

This is a challenge that no rearranging the market structure furniture on the deck of SS Treasury Titanic will fix. Furthermore, the economic case for mandating clearing of Treasury cash and repo transactions is laughably weak even if one overlooks that fact that clearing does not get at the real problem. But it appears that Gigi (cheered on by the Fed) will mandate a corner solution that makes the market less efficient, not more.

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March 4, 2023

Christopher Wray: Getting to High Ground Ahead of the Truth Tsunami

Filed under: CoronaCrisis,Politics — cpirrong @ 11:49 am

This week, FBI Director Christopher Wray matter of factly stated: “the FBI has for quite some time now assessed that the origins of the pandemic are most likely a potential lab incident in Wuhan.”

Now he tells us!

Wray’s remark did not unleash a frenzy of invective, in contrast to the Department of Energy’s earlier expression of the same conclusion. For example, the truly nasty piece of work Colbert screeched that the DoE needed to “stay in its lane.” (Colbert’s is apparently the I-get-to-tell-the-government-to-stay-in-its-lane lane). Colbert has not provided Wray similar instruction. Other media outlets that criticized the DoE have also been notably silent about Wray’s revelation.

Although the admission that this was the FBI’s view is what has been most commented on, what stands out to me is that it has been “for quite some time now.” How long, exactly? And why has the FBI hidden its lamp under a basket for so long?

And crucially: why is it lifting the basket now?

Is this part of a telling-the-truth-slowly strategy on the part of the administration? Is Wray trying to get out ahead of future revelations and keep the FBI’s skirts clean?

Suffice it to say that knowing him, his motivation for saying this now is political, and for purposes of self-preservation, not some commitment to the truth. After all, Wray is a past master at dummying up or evading questions (“sorry, Senator, I can’t answer because I have a plane to catch”).

Wray’s statement, and the DoE’s, is of course vindication to those who argued the possibility, and indeed the likelihood, of a Wuhan lab leak. Though some claimed this was a deliberate leak–part of a Chinese biowar strategy–I and most others who favored the lab leak hypothesis believed it was accidental, while not ruling out that the research itself was military in nature.

Of all of the media- and government-enforced narratives, the one that excoriated and anathematized anyone who advanced this hypothesis was always the most puzzling to me. Why did it matter SO much to the establishment where COVID originated?

Short of a needed (but unlikely to occur) lustration, the best we can do is reason from the clues that we have, starting with (a) who was clearly behind the campaign to discredit this hypothesis?, and (b) cui bono?

The answers to both questions are the same: the CDC, and in particular, Anthony Fauci. The release of Fauci’s emails last year revealed that he, others at CDC, and CDC adjacent scientists and NGOs almost immediately orchestrated a campaign to denigrate this hypothesis and those arguing for it, and advance the natural origins alternative. The Twitter files have subsequently revealed government efforts (including, I might add, the efforts of Wray’s FBI) to censor those even discussing lab leak origins as well as other transgressions of the COVID party line.

The media, of course, quickly snapped to attention, saluted, and relentlessly promoted Fauci’s/the CDC’s narrative.

And how did this benefit Fauci and the CDC? Well, the only razor I’ve shaved with in the last 44 years is Occam’s, and his razor says: because Fauci and the CDC were deeply implicated in the activities of the Wuhan Institute of Virology.

In other words, Fauci et al doth protest too much, which implicates them as surely as Lady Macbeth. (Although the Lady at least had the decency to go mad out of remorse, which Fauci has not, suggesting that he is a sociopath, if not a psychopath.)

(I note that the Democratic Party is also a beneficiary, as it used the discrediting of the lab leak hypothesis as a way of discrediting Trump, who had asserted it.)

Every day that a natural host is not discovered is another strike against the natural origins hypothesis, and gives further weight in support of the leak alternative. Three years with no host identified despite an intense search–and the keen interest of the CCP in finding one–makes the natural origins hypothesis highly incredible.

Unlike Fauci, I am not invested in either hypothesis: I am invested in the truth. I am also heavily invested in antipathy to censorship, especially censorship at the behest of interested actors in government. The suppression of any discussion over the lab leak hypothesis, and the anathematizing of anyone who dared speak it, represents a very dark episode in American history.

And the hits keep on coming. Recent evidence (the Cochrane Report) demonstrating the inefficacy of masks. The accumulating evidence on the lack of efficacy of the mRNA “vaccines”–and the health risks they create. And perhaps most importantly, the accumulation of overwhelming evidence that the costs of lockdowns massively outweighed any benefits.

With regards to the latter, the release of WhatsApp messages from the execrable Matt Hancock, formerly the UK’s Secretary of State for Health and Social Care, and more recently reality show contestant, demonstrates that despite all of the arrogant assertions that those in power were acting in the name of Science, they were actually acting in the name of power. Lockdowns were not a well-intentioned policy error, they were a malign policy forced on the public by loathsome figures like Matt Hancock (and Tony Fauci and Deborah Birx and dozens of others in virtually every country of the world, save Sweden).

I called bullshit on the failures of governments even to evaluate trade-offs with respect to lockdowns from the very time they were first mooted. And “whoops, my bad!” won’t make it all better–as if these disgusting creatures even have the decency to say that: they admit nothing.

What makes it all the more egregious and infuriating is that these same people who were the industrial scale producers of disinformation and misinformation also dared (and continue to dare) to scold us (and punish us) for promoting disinformation.

When in fact, there is a tsunami of evidence showing that those who questioned them from the first were right, and they were wrong.

In light of all this, I think that what Wray is doing is trying to get to high ground ahead of the tsunami hitting land in DC, London, etc. It’s cold comfort, in light of the havoc of the last three years. But revenge is a dish best served cold, and God willing the dish has cooled enough in these past years to make the time of reckoning nigh.

Though I seriously doubt there are enough lampposts.

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July 18, 2022

The Imperative of an American Lustration

Filed under: CoronaCrisis,Military,Politics — cpirrong @ 5:56 pm

In the aftermath of the downfall of the Soviet empire, many of its former captive nations (like the Baltics, Poland, and the Czech Republic) implemented a policy of “lustration,” a process of identifying, exposing, and removing officials who were complicit in the oppressions and crimes of the Communist governments that they served. Reading the reviews of Deborah Birx’s book by Michael Senger and Jeffrey Tucker of the Brownstone Institute makes it clear that the post-Communist example is worthy of imitation in post-COVID (speaking optimistically) world.

In her appalling book, this appalling woman chronicles her myriad appalling deeds. In a nutshell, she lied and manipulated and manipulated and lied in order to impose her desired COVID strategy–severe lockdown, of indefinite duration. Moreover, her book makes clear that her beliefs and desires were not grounded in science or fact or a sober appraisal of trade-offs (something that did not enter her “thinking” in the least), but were instead purely the product of her monomania, righteous ignorance, and not a little CCP-philia.

And because largely of this, and her, 330 million Americans had their lives and livelihoods turned upside down.

Of course as egregious as she was, Birx did not work alone. Some of her co-conspirators (and yes, that is the right word) are known: Anthony Fauci, Francis Collins, Robert Redfield, Matthew Pottinger. But there were necessarily many other accessories with much lower public profiles, or indeed no public profilecs at all.

Given the massive harm inflicted on the country, and the lives and liberties of its citizens, the actors and their acts must be known. And not merely through the self-interested memoirs of confessed (indeed boastful) liars. This is necessary not just to punish the guilty (though any punishment will not come anywhere near the harm), but to shed a light on how government “works” in the hope it may not “work” this way in the future.

That’s the purpose of lustration.

The public health establishment should of course be a focus of this effort, to investigate its role in shaping the response to COVID and also its potential role in causing it. But not the only one. The actions of the FDA in approving vaccines and responding (or not, more accurately) to widespread reports of adverse side effects also demand examination. (Look at how the FDA responded to a report about contamination at the Abbot baby formula factory, and compare to how it is responding–or not–to report after report regarding “vaccine” side-effects.)

The military as well. Who is responsible for the vaccine mandates that have devastated morale, led to the separation, resignation, or failure to re-enlist of thousands of dedicated soldiers, sailors, airmen, and Marines, and which are a major cause in the military’s current shocking recruiting shortfalls? Why did they make this decision? Why are they sticking to it so mulishly despite the obvious consequences?

And the need for cleansing extends beyond COVID. For example, did the execrable General Mark Milley usurp the Constitutional powers of the commander and chief?

I could go on.

You will note that my (very incomplete) list of potential subjects is limited to soi disant “civil servants,” i.e., bureaucrats, and is devoid of politicians. That is no accident. The most shocking fact about COVID policy is that it was almost entirely the creation of an American nomenklatura, with the supposed agents of self-government (including Donald Trump) playing at best a tertiary and certainly cowardly part.

Look at Birx. She arrogated to herself the powers to make momentous decisions, because. Because why? Well, because she could and no Constitutionally sanctioned individual stopped her. Indeed, they enabled her.

Restoration of true self-government requires Americans to know what a sham self-government has become.

If you think that lustration is unprecedented, well that’s not true. We have an example before our very eyes–the January Sixth Committee. Its purpose is clearly the lustration of Trump and Trump officials who allegedly attempted to undermine “our democracy.” So if the left shrieks in horror at the thought of Deborah Birx and Tony Fauci et al in the dock, well, sauce for the goose . . .

That said, the greatest service that the January Sixth Committee is performing is to show how NOT to proceed. It is transparently partisan. Worse, it lacks the procedural safeguards–specifically the ability to present evidence and witnesses, and cross-examine–that are necessary to ferret out the truth, uncover the lies, and protect the accused.

But we cannot allow those responsible for inflicting so much harm to escape unexamined and unscathed. If they are as righteous as they claim, they will emerge not merely unbowed, but elevated. If they are not, they deserve public obloquy. Or worse.

But it’s about more than exposing the culpable. It’s about showing how the system operates. How the unelected and unaccountable wield powers–awesome powers–not granted by the Constitution or laws. Until we know how the system operates, we cannot know what needs to be changed.

Bureaucratic usurpation is a fact of American life. COVID policy represents what is hopefully an extreme example of such usurpations, and hence can provide insights to the system that people will care about, and pay attention to. So it is not for the past–because sunk costs are sunk–but for the future the American people need to know what happened, who did it, and why.

So lustration. Sooner rather than later.

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May 28, 2022

A Timely Object Lesson on the Dangers of Tight Coupling in Financial Markets, and Hence the Lunacy of Fetishizing Algorithms

FTAlphaville had a fascinating piece this week in which it described a discussion at a CFTC roundtable debating the FTX proposal that is generating so much tumult in DerivativesWorld. In a nutshell, Chris Edmonds of ICE revealed that due to a “technical issue” during the market chaos of March 2020 (which I wrote about in a Journal of Applied Corporate Finance piece) a large market participant was arguably in default to the ICE clearinghouse, but ICE (after consulting with the CEO, i.e., Jeff Sprecher) did not pull the trigger and call a default. Instead, it gave some time for the incipient defaulter to resolve the issue.

This raises an issue that I have written about for going on 15 years–the “tight coupling” of the clearing mechanism, and the acute destabilizing potential thereof. Tightly coupled systems are subject to”normal accidents” (also known as systemic collapses–shitshows): in a tightly coupled system, everything must operate in a tight sequence, and the failure of one piece of the system can cause the collapse of the entire system.

If ICE had acted in a mechanical fashion, and declared a default, the default of a large member could have caused the failure of ICE clearing, which would have had serious consequences for the entire financial system, especially in its COVID-induced febrile state. But ICE had people in the loop, which loosened the coupling and prevented a “normal accident” (i.e., the failure of ICE clearing and perhaps the financial system).

I have a sneaking suspicion that the exact same thing happened with LME during the nickel cluster almost exactly two years after the ICE situation. It is evident that LME uncoupled the entire system–by shutting down trading altogether, apparently suspending some margin calls, and even tearing up trades.

Put differently, it’s a good thing that important elements of the financial system have ways of loosening the coupling when by-the-book (or by-the algorithm) operation would lead to its destruction.

The ICE event was apparently a “technical issue.” Well that’s exactly the point–failures of technology can lead to the collapse of tightly coupled systems. And these failures are ubiquitous: remember the failures of FedWire on 19 October, 1987, which caused huge problems. (Well, you’re probably not old enough to remember. That’s why you need me.)

This issue came up during the FTX roundtable precisely because FTX (and its fanboyz) tout its algorithmic, no-man-in-the-loop operation as its innovation, and its virtue. But that gets it exactly backwards: it is its greatest vulnerability, and its greatest threat to the financial markets more generally. We should be thankful ICE had adults, not algos, in charge.

As I pointed out in my post on FTX in March:

The mechanical means of addressing margin shortfalls on a real time frequency increases the tight coupling on the exchange, and is tailor made to create destabilizing positive feedback loops: prices move a lot leading to margin shortfalls in real time that trigger real time trades that accentuate the price movement. It is like seeding the market with huge numbers of stop orders, which are inherently destabilizing. Further, they can create incentives to manipulate. Anyone who can get some idea of where the stops are can “gun the stops” and trigger big price moves.

It’s particularly remarkable that FTX still is the subject of widespread adulation in light of Terra’s spiraling into the terra firma. As I said in my Luna post, it is lunatic to algorithmize positive feedback (i.e., doom) loops. (You might guess I don’t have a Luna tattoo. Not getting an FTX tattoo either!*)

FTX’s Sam Bankman-Fried is backtracking somewhat:

In the face of the agricultural industry complaints, Bankman-Fried gave ground. While maintaining his position that automated liquidations could prevent bad situations from growing worse, he said the FTX approach was better suited to “digitally settled” contracts — such as those for crypto — than to trades where physical collateral such as wheat or corn is used

Sorry, Sam, but digital settlement vs. physical settlement matters fuck all. (And “physical collateral”? Wut?) And you are deluded if you believe that “automated liquidations” generally prevent bad situations from growing worse. If you think that, you don’t get it, and are a positive threat to the financial markets.

*FTX bought the naming rights for a stadium in Miami. I say only slightly in jest that this is another indication of the dangers posed by FTX and its messianic founder. FFS, you’d think after the 2000 tech meltdown people would recognize that buying naming rights is often a great short selling signal, and a harbinger of future collapse. To say that those who forget the past are condemned to repeat it is too strong, but those who follow in the footsteps of failures that took place before their time betray an an arrogance (or an ignorance) that greatly raises the odds of repeating failure.

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May 13, 2022

Congresspeople, Being Idiots, As Always: Gasoline Price Edition

Filed under: Commodities,CoronaCrisis,Economics,Energy,Russia — cpirrong @ 6:28 pm

Mark Twain never grows old:

“Reader, suppose you were an idiot. And suppose you were a member of Congress. But I repeat myself.”

This came to mind when reading about the proposal of Rep. Katie Porter to impose some sort of price control on gasoline:

Since the beginning of recorded history–and that is not hyperbole–the stock government response to high prices is price controls. The Pharaohs. Hammurabi. Diocletian. And many other examples. And it continues through the ages to more recent history, e.g., rent control in NY starting in WWII, Nixon in 1973.

And the result is always the same: economic disaster. It is price controls result in real shortages: people standing in lines, empty shelves, etc.

Always. If price doesn’t clear the market, waste (e.g., time spent standing in line) will.

But politicians never learn.

Nancy Pelosi (who is old enough to remember gas lines–hell, she’s probably old enough to remember the Code of Diocletian, if not that of Hammurabi) is of course fully on board. Which is an illustration that the adage “those who don’t remember the past are condemned to repeat it” is wrong: many who can remember the past repeat its errors nonetheless.

Elizabeth Warren hasn’t weighed in on this yet, but you know she will, because she’s the main spokes-shrieker for The Gouger Theory of Prices.

The Gouger Theory is stupid on its face. Did oil companies wake up one morning and realize: “Whoa! We coulda jacked up prices and gouged the suckers! What were we thinking?” Did they have some sort of epileptic fit in 2020, when prices crashed? What were they thinking?

No. This isn’t gouging. This is-as it almost always is-fundamentals.

Oil prices are high. But in this week’s edition of “Find the Bottleneck,” that’s only one of the drivers (no pun intended) behind high gasoline and diesel prices. The bottleneck is in refining.

How do we know? Let’s look at the diesel crack:

It’s gone from around $22/bbl to as high as $70/bbl. (And the $22 is high compared to what it was a year ago). (Gasoline crack somewhat similar though not as bad–though it is likely to get so when the peak demand season kicks in.)

A high refining margin means that refinery capacity is constrained. And yes, it is constrained: it’s not as if refiners are exercising market power (i.e., gouging) by withholding output. Here is the capacity utilization in the US over time:

It’s running at pre-Pandemic levels.

And here’s another thing: post-Pandemic capacity is well below pre-Pandemic capacity:

That drop from pre-Pandemic levels is around 5 percent. That’s a lot.

So refineries are running flat out, and refinery capacity is down. What do you get?: big refining margins and high prices at the pump. Yes, it’s good to be a refiner now (though not so much two years ago). But it’s not good because you get to exercise market power. It’s because even under competition it’s highly profitable because of supply-demand fundamentals.

A variety of factors have contributed to this. The loss of a good chunk of Russian oil output is keeping the price of oil up, but the loss of Russian diesel supplies to Europe is probably a bigger factor. The US is to a large extent filling the gap, to the extent it can, by exporting.

But no matter how you break it down, it is clear that this is fundamentals driven. It is not gouging. And capping prices on the delusional belief that it is gouging will wreak economic havoc.

Which has never stopped the Democrats before, I know. (And Republicans too, e.g., Nixon).

One thing here does deserve emphasis. The decline in capacity is directly attributable to the Pandemic. Correction: it is directly attributable to the horrible policy choices that politicians and bureaucrats forced on us in the name of the Pandemic. The lockdowns in particular.

Like many, many things going on in commodity world right now, the current spike in product prices overall, and relative to crude, is yet another baleful consequence of completely mental decisions to shut down economies and crater the economics of producing and processing commodities.

In other news of economic-related political hysteria, there is also a lot of finger pointing going on about baby formula. I don’t have the information at hand to analyze in the same way as I can refined petroleum prices, but I can say what it isn’t. It isn’t “oligopoly.”

But again, those educated in politics (did I really use “educated” and “politics” in the same sentence?) and not economics immediately seize on this as an explanation.

Er, the baby formula business was an oligopoly a year ago. And a year before that. And a year before that. So . . . why all of a sudden did they supposedly decide to create a shortage? And pray tell–how do you make money if you aren’t selling stuff?

So whenever Congresspeople, or people who buzz around them like insects (yeah, I’m looking at you, journalists) come up with some economic brainstorm, remember Twain. They’re idiots. Dangerous idiots.

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May 1, 2022

The Ministry of Truth Will Outsource Censorship, Just as Happened With COVID

Filed under: CoronaCrisis,Politics — cpirrong @ 6:00 pm

The awful head of the Department of Homeland Security, Alejandro Mayorkos, set off a firestorm last week when he revealed that the DHS was setting up a “Disinformation Governance Board,” tasked with fighting disinformation. It has also been announced that a real head case, and a hyper-partisan one to boot, Nina Jankowicz will head the Board.

Left unanswered was how this new entity will combat disinformation. Here is my surmise. It will identify certain stories as disinformation, giving official imprimatur to this designation: it will not take any direct action against anyone disseminating this information. Instead, social media companies will then censor or suppress these stories, claiming that they have been identified as disinformation by the government–and who can argue with that, right? They always have our best interest at heart, right? Mommy is just protecting us from bad things!

This is the way that social media shut down COVID stories it didn’t like. If something contradicted CDC or WHO, Facebook and Twitter would label it disinformation and take efforts to suppress it.

In essence, with COVID, social media companies became the enforcers of bans on speech the government didn’t like. In an effort to circumvent First Amendment issues, the government essentially outsourced censorship to private entities. The private entities were happy to go along, because they were on board with the agenda.

The model worked so well that the government is now looking to expand this privatized censorship model to embrace all speech.

This transparent end run around the First Amendment cannot be allowed to stand. The first time Twitter or Facebook or anyone uses the Ministry of Truth’s guidance to remove or throttle or prevent the posting of content, there should be a 1A lawsuit.

Hell, there should have been such suits already over social media COVID censorship.

The real possibility that an Elon Musk-owned Twitter will not play this game is precisely why there has been such a hysterical reaction to his purchase.

This is the biggest threat to our 1A rights in our lifetime, and possibly ever. It cannot stand. It must be fought, and the battle must be won.

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April 9, 2022

When People Talk About Zero This or Net Zero That, Zero Is a Good Approximation of Their IQ

Filed under: China,Climate Change,CoronaCrisis,Economics,Politics — cpirrong @ 11:34 am

The optimal amount of any “bad” (e.g., crime, cancer) is very, very seldom zero.* This is because the marginal cost of reducing a harm increases (typically at an increasing, and often rapidly increasing, rate): eventually the cost of reducing the harm further exceeds the benefit, usually well before the harm is eliminated.

Unfortunately, a good fraction of the world is in the thrall of those with Zero obsessions who ignore this fundamental reality. COVID and climate are the two most telling examples.

Countries pursuing “zero COVID” strategies have subjected their citizens to draconian measures that have deprived them of the blessings of normal human interaction, and freedom of thought and movement. Children especially have been brutalized, losing two years of schooling, socialization, and even the ability to speak and understand and interpret the non-verbal due to absurd masking requirements.

This brutality has unsurprisingly reached its zenith (or nadir, if you prefer) in China, a nation of 1.3 billion governed by a despotic regime that has gone all in on Zero COVID. The outbreak of COVID in Shanghai after years of restrictions proves the futility of the objective. The CCP’s response to the proof of the futility shows its insanity.

In response to the outbreak, the regime has locked down a city of over 26 million people. And this ain’t your Aussie or Kiwi or American or Brit or Continental lockdown, boys and girls: this is a hardcore lockdown. Mandatory daily testing, with those testing positive sent right to hospital, symptomatic or no–despite the fact that this has overwhelmed the medical system and is depriving truly sick people of vital care. Children separated from parents. People locked in their abodes, often without adequate food. Pets slain.

It is draconian–and dystopian.

The other prominent example is “Net Zero” carbon emissions. This has become the idol which all the right thinking bow down before, especially in the West. Governments, financial institutions, and other businesses (especially in the energy industry) are judged based on a single criteria: do their actions contribute to achieving “net zero” emissions of greenhouse gases? And woe to those who do not pass this judgment.

It is absurd. And it is absurd because the monomaniacal focus on a single measure immediately banishes all considerations of trade-offs, of costs and benefits. The implicit belief is that the cost of carbon is infinite, and hence it is worth incurring any finite cost–no matter how huge–to achieve it.

And the costs are immense, have no doubt. In particular, the environmental costs–the production of battery metals involves massive environmental costs, for example–are huge. Yet they are ignored by people who preen over how green they are. Because to them, Only One Thing Matters.

This is beyond stupid. Those who will impose any cost, and force others to bear any burden, in order to achieve some Zero reveal that that number is a good approximation of their IQ.

Upon reflection, I believe that the worship of Zero is a mutation of the worship of central planning with dominated the pre-WWII era, and which was supposedly discredited by experience (e.g., the USSR) and intellectual argument (e.g., Hayek, von Mises). Central planning involved the determination by an elite of an objective to be achieved by a society, and the use of coercion–at whatever level necessary–to achieve that objective. Actually, compared to the Rule of the Zeroes, central planning was quite nuanced: it usually did involve some acknowledgement of trade-offs, whereas the Rule of the Zeros does not, with everything–literally everything–being subordinated to the One Zero.

But ultimately, central planning foundered on the reef of its internal contradictions. Attempting to impose a singular objective on a complex, emergent system consisting of myriad individuals pursuing their own idiosyncratic goals was doomed to failure. And it did. But only after inflicting tremendous costs in terms of human lives and human freedom, not to mention human prosperity.

The fundamental inconsistency between emergent and imposed orders meant that central planning required the application of massive coercion. The same is true in the Rule of Zeroes. This has been particularly evident in the case of COVID: what is going on in Shanghai proves this beyond cavil. But the same is inevitable for Net Zero. To impose a centrally dictated objective, and a unidimensional one to boot, on complex societies comprised of billions of individuals with extremely diverse preferences and capabilities is to wage war on human nature, and humanity. Sustaining it necessarily requires the application of massive, and massively increasing, coercion. Because it requires people to “choose” what they would not choose of their own volition.

The populism so scorned by the elite is a natural reaction to this fundamental inconsistency. Whether Le Pen prevails in France or no, the mere fact that it is a possibility reveals the seething discontent of large numbers of folks at the presumptions of their betters. And this is just the latest example of the disconnect between the Zeroes who presume rule, and those whom they presume to rule.

It is a disconnect born of a fundamental misunderstanding of the basic social reality that life involves trade-offs, and that different people value trade-offs differently. That supposedly Smart People have Zero understanding of this reality is a shocking commentary on our “progressive” age.

*Note that I do not say “is never zero.” That would be a paradox, no?

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February 13, 2022

The Tyranny of the Median–Especially When the Median Is Manipulated

Filed under: CoronaCrisis,Politics,Russia — cpirrong @ 4:09 pm

The past days (weeks in the case of Canada) have seen a surge of protests in Canada, Australia, New Zealand, and France. The regimes have acted aggressively in France and Canada in particular. Protestors in Paris–and truth be told, innocent diners at cafes–were tear gassed and many were arrested (and some brutalized). Canadian authorities have taken escalating steps against truckers in Ottawa and on the Ambassador Bridge between Detroit and Windsor, OT.

The Canadian action followed a particularly egregious statement by the appalling Prime Minister Justin Trudeau. Adopting the wearied, condescending, and supercilious tone of an aggravated parent lecturing a 6 year old, Petit Justin said he had heard the truckers–but was blowing them off. And they had to go to their rooms like good little boys and girls or he would have to get out the whippin’ stick.

Trudeau’s words and actions (and those of bloated Ontario Premier Doug Ford) were welcomed with squeals of delight from the ruling class and its numerous pilot fish, such as the Harvard lecturer (who falsely advertises herself as a professor) who advocated slashing truck tires and siphoning their fuel, and who intimated that even more draconian measures to deliver “hurt” were justified. Similarly, the French crackdown won accolades from the usual suspects.

It is difficult to distinguish the government responses to civil disobedience in Canada, France, and other locations (e.g., the Netherlands, Germany) where anti-mandate/anti-NPI protests have occurred from how Russia responds to such agitation. The main difference being how the western ruling and chattering classes respond–cheering the former and damning the latter.

A common cause of mass civil disobedience in democratic societies–especially when it involves ordinary working people as is the case in Canada, etc.–is the well-known fact that democratic institutions such as voting and representative government are relatively unresponsive to the intensity of preferences. They are driven, roughly speaking, by the preferences of the median citizen. When there is a sizable group in the minority whose preferences diverge substantially and intensely from the median, governments will be at least unresponsive to and often virulently opposed to that minority: the incentives inherent in the democratic political institutions drive that response. Despairing recourse through normal political means, those with these intense but divergent preferences see civil disobedience as the only option available to them.

When such people are by-and-large ordinary, law abiding working people, the protests will be orderly and even carnival-like, as has been observed in Ottawa. But that matters not to the rulers. Such challenges to their authority enrage them. Moreover, in the scenario I am considering, in which protests are driven by a large divergence between minority and median preferences the government will often have considerable political support even if it acts quite aggressively.

I think that is what we are seeing throughout the world right now. In many countries COVID-rationalized restrictions garner considerable support, and arguably the median citizen supports them. Governments are heavily invested in these measures. But large numbers of people are intensely opposed. As a result we see large protests and obdurate governments which apparently believe that compromise is not politically advantageous. Hence the outbreaks of large protests that governments feel empowered to crush.

The US is an interesting case due to the fact that some vestiges of federalism remain. The median preference varies across states, and most police powers inhering in the states, individual states have adopted different policies. Compare say Texas and Florida with California and New York. This reduces the likelihood of a large minority holding intense preferences that differ substantially from the median in the polities that exercise police powers.

There is one important question to consider when evaluating this distribution-of-preferences-based story: what drives preferences?

In the case of COVID and the policy responses thereto, it is abundantly clear that government information operations, often facilitated by private corporations, have played a decisive role in shaping those preferences. The fomenting of fear, bordering on panic. The concerted efforts to quash any dissenting views–to the point now where in the US the Department of Homeland Security proclaims that opinions–and indeed, facts–contrary to official government pronouncements are “misinformation, disinformation, and mal-information” (including regarding COVID in particular) are tantamount to terrorism. Twitter and Facebook in particular have been enthusiastic handmaidens of government efforts to control the narrative. Efforts that are first and foremost directed at shaping preferences and combatting the formation of dissenting preferences and beliefs.

The DHS announcement also claims that what it asserts to be misinformation, disinformation, and mal-information–but which is increasingly clear is truth and fact–is dangerous because it “undermine[s] public trust in government institutions.” This betrays a sacralization of the state–which, perversely ironically, is also a primary objective of Putin’s policies, including his concerted efforts to control public discourse in Russia.

During the Cold War it was sometimes observed that the USSR and the west came to resemble one another in many ways. I think it is fair to say that is much more true today, with respect not just to Russia but China as well. 

Some people are more amenable to government propaganda than others. So one impact of domestic information warfare is to exacerbate divides between the median and large minorities. Further, those who are less vulnerable to information warfare and coercion, but recognize that they happening, are often outraged by it. This intensifies their preferences and makes them more militant.

I think the above is an accurate model of the trajectory of western societies in the past two years. The median has been manipulated by relentless government information warfare that played on fear. This has made it politically possible for ostensibly representative governments to impose draconian measures. But these measures have elicited intense opposition from those who have been resistant to–or repelled by–the measures themselves, and the propaganda used to promote them. The result is protests, and crackdowns thereon.

The one thing that will change this current equilibrium is an evident divide between government-driven panic narratives and the empirical reality that people experience: this would tend to move the median. That seems to be occurring now. In the US, some states are relaxing restrictions and changing their messaging when the latest scariant turned out to be largely benign–clear indications that the median is in fact moving.

We have experienced two years of the tyranny of a manipulated median. One big issue is whether there will be a widespread recognition of this fact, and whether this will engender a backlash. One thing is likely: governments fear this, and for this reason, they will continue and indeed amplify their manipulative information operations. And ironically, although the government believes that waging war on what it characterizes as misinformation etc. is necessary to maintain trust in government institutions, in the end nothing is more corrosive of trust than those very measures. The government has met the enemy, and it is them.

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February 5, 2022

The Canadian Regime Confronts a Truck-o-lution

Filed under: CoronaCrisis,Politics — cpirrong @ 12:39 pm

The Canadian regime’s response to the truck-o-lution continues to amaze and disgust. And yesterday its fundamentally fascist–in the strict, not rhetorical sense–nature was revealed.

Yesterday Ottawa Police announced that it was going full China social credit system to investigate the truckers:

You should really read the entire thread. The “intelligence operations” involve collecting “financial, digital, vehicle registration, driver identification, insurance status, and other related evidence that will be used in criminal prosecutions.”

Thoroughgoing domestic surveillance, in other words. One example of the literal fascism.

And no doubt the “authorities” (read “authoritarians”) have infiltrated the truckers. (Maybe carrying suspect flags. Just sayin’!) But governments never infiltrate and manipulate protest movements, right? Who would even suggest such a thing!

And the media–not just Canadian, but US and world media–have reliably functioned as an echo chamber and amplifier of Canadian government propaganda that labels the protestors as fascists, Nazis, white supremacists, racists, misogynists and every other kind of baddie you could name.

Based on what evidence exactly? They oppose the government, and its COVID-related policies in particular. QED! After all, only fascists, Nazis, white supremacists, racists, misogynists and every other kind of baddie you could name would hold such retrograde anti-social(ist) opinions.

The other “evidence” is the few flags and the supposed desecration of a war memorial. About the flags: who was carrying them? Putting aside the obvious logical problem with extrapolating the views of 10s of thousands of individuals from those whom Three Finger Brown could have counted on one hand (with a finger left over), how can anyone be sure that those carrying the flags were part of the protest at all? And numbers matter: Canadian flags outnumber dodgy ones by orders of magnitude. About the memorial: First, interesting, isn’t it, that leftists are suddenly so solicitous of the sanctity of monuments, especially to white war heroes? Second, it was hardly defaced, in the way that say statues of Grant, Lincoln, or others like Hans Heg were defaced–destroyed, actually. It was festooned with a hat and a sign. Oh! The humanity!

In sum, the “evidence” is non-existent. Instead, the Canadian regime and its media lackeys are engaged in mass ad hominem attack and guilt by assertion and association (where the association isn’t even proved!)

Lockstep media repetition of regime propaganda–check another fascism box.

The third box is the fusion of state and corporate power. Yesterday, GoFundMe (GoFuckMe would be more accurate) not only terminated the truckers’ fund raising through GFM, it seized the nearly $10 million already raised, and said it would redistribute the money to other charities. The basis for this action? “Evidence” allegedly supplied by Ottawa Police showing that the protests weren’t protests dontcha know, but were an illegal occupation. So, the cops make an allegation, and GFM acts as judge and jury, and basically implements civil asset forfeiture. AKA state sanctioned theft.

So far, the iron triangle of regime, media, and corporations has not broken the will of the protestors. Indeed, the Prairies are also on fire (in freezing temperatures), and the governments of Alberta and Saskatchewan have announced termination of COVID mandates. Truckers are also gathering in Quebec and moving on Quebec City. Farmers are joining in.

This will no doubt spur the regime into taking more active–and violent–measures. It is crucial that the protestors not take the bait and thereby validate the government narrative. Civil disobedience. If the authorities want a Selma in the snow, turn the other cheek.

It is ironic that the Canadian regime is so vocal in its support for Ukraine, but is freaking out over its own Maidan. And who knows, maybe it could turn into Bucharest circa December, 1989. But that would require the little Castroite (and maybe Castro!) to make a public speech to the crowd. And L’il Justin is still in hiding so that ain’t happening.

What is going on in Canada is the most visible symptom of the conflict between the ruling class and those they presume to rule. Why it is occurring in Canada is an interesting sociological question which I hope to explore in future posts. But the divide revealed in Canada is present throughout the world, so I doubt this will be the last such confrontation. And the sooner the better.

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