Tag Archives: global economy

Myths and Mistakes of the Iraq crisis

This article was published in El Confidencial on 22/6/2014

“There is no military solution for Iraq” Barack Obama

“Rarely has a U.S. president been so wrong about so much at the expense of so many” Dick Cheney

Getting it wrong is dangerous. Worsening things is lethal. In the case of Iraq , the United States, after spending a billion dollars to remove the regime of Saddam Hussein, has left a global security problem which may be greater than imagined when Obama decided to withdraw the troops . It’s not just about oil. Anyone who lived the Baghdad of Saddam Hussein understood that the regime was a global danger. Similarly, it is essential to understand that the threat was not only Saddam, but the many factions that existed well before the Baath dictatorship, which remained in conflict during the regime and still do so today. Leaving Iraq can become a decision that Obama will regret for a long time.

Why did the U.S. leave Iraq? 

For love and peace? No. Because in 2016 the US will be energy independent -including Canada. The need to defend its interests in the area is today infinitely smaller.

America is already independent in gas and produces 11.3 million barrels a day of oil thanks to the fracking revolution, becoming the largest producer over Saudi Arabia and surpassing the country’s own 1970’s peak.

However, removing the troops leaving behind a timebomb of sunni and shiite factions could end up turning against the United States and the OECD, as it generates an enormous risk of multiple terrorist threats. Energy is not the problem. It is a cultural problem. It is naive to say the least to think that everything will go smoothly leaving Iraq on its own when the country is decimated by clashes of tribes with invasive ambitions. it is the same mistake we have seen in Libya or Egypt after removing a dictatorship regime. The Pandora box of multiple threats opens. I recommend you read ” The Clash of Civilizations “ by Samuel Huntington and “The Lesser Evil”  by Michael Ignatieff. In the West we do not want to understand the culture and customs of these countries, which are very far away from our idea of democracy. Accepting the lesser evil of maintaining a military presence is much more logical than closing our eyes in the hope that the world will move according to our wishes.

Does the Iraq crisis affect its oil exports?

The OECD placed too much trust on the unstable government of al-Maliki. US troops were disappearing and the industry seemed to be recovering. It looked as if everything was on track, but the risk had not gone away, in fact it had increased with the wrong strategic decision to pull U.S. troops from the country without a security contingent.

This week the Iraqi risk rose dramatically after terrorist attacks in the northern part from ISIS (Islamic State Of Iraq and Syria), a jihadist group that even has an annual report of its sinister achievements. See it here (http://azelin.files.wordpress.com/2014/04/al-binc481-magazine-1.pdf ) courtesy of the Financial Times .

When I traveled to Iraq people used to say: “Baghdad is a city covered in gold, but in the south is where the real gold is” (oil).

This map, courtesy of IHS Energy ( press@ihs.com ), shows the location of the main fields and refineries.

Terrorists have taken Mosul, the second largest city in Iraq, Tikrit, Tal Afar, and Dhiluiya Yathrib. However, they have not taken any of the large fields north of the country, especially the giant Kirkuk oil field in the Kurdistan region. the people I knew in the area called this field “the passport of Kurdish independence”. Today it produces 260,000 barrels a day. ISIS terrorists have no ability or desire to attack the Kurdish region.

Most of Iraq’s production, 80%, is exported and more than 77% comes from fields in the South, where terrorist ISIS militants cannot be measured with local forces and private security contingents. There has been no impact as of today in exports, which are made mostly through tankers from the South.

Is it a crisis to regain control of oil from the hands of the multinationals?

Contrary to what has been said in some press, oil in Iraq does not belong to international companies, much less American . All is state-owned fields where international, American, Russian, Italian, Chinese or British companies work with contracts for service , and they are paid to maintain or increase production. That is, the State benefits from international companies’ experience in improving productivity, and therefore has no interest in seeing these companies leaving. This type of productivity contract is what has led to Iraq recovering its pre-war peak production so quickly.

Is it all the fault of Obama or Bush?

The fights and attacks between Sunnis and Shiites are not new. It’s a conflict that has been ongoing for hundreds of years. In the era of Saddam Hussein it was already a challenge to organize security to travel from Baghdad to the border with Kurdistan. In fact, access was banned even for many potential contractors due to constant attacks.

George W. Bush made a mistake thinking that the US would be received as heroes after the invasion, as Wolfowitz expected. The moment that the regime’s repression ceased, the various factions began fighting bitterly. A weak government only reduced the perceived risk. The same mistake has been committed by the OECD in Libya and Egypt.

The Obama administration made a huge mistake by reducing up to three times the number of contingency troops that would support the weak government of al-Maliki. By reducing the promised figure of 50,000 soldiers to 25,000 and then to 3,000, aid became irrelevant, and therefore rejected by the local government.

The lack of involvement of NATO countries in the Middle East problem is part of the disaster. Not only Libya and Egypt have spiralled out of control, but Al-Assad in Syria is now more powerful than ever due to the inaction of the OECD, and Syria has become the launchpad of a strengthened ISIS in North Iraq. Thus, the risk that the area controlled by ISIS becomes a huge camp of international terrorists is not small.

Proposals to divide Iraq into three (Kurdistan, a Sunni North and a Shiite South) would increase the risk of allowing to build a huge training center for global jihadists.

Is the crisis due to peak oil?

Sunnis and Shiites have been fighting for hundreds of years. The problem is not oil … Because in the oil market there is no great risk.

On 11 June, OPEC met in Vienna. Independent analysis (BP Statistical Review) confirmed that there is plenty of oil for decades. Global proven oil reserves have increased to 1,687.9 billion barrels in 2013, sufficient to meet 53.3 years of global production.

Messages from the major oil exporters focused on some aspects that I think are extremely important when assessing the geopolitical risk and not overdo it:

  • The market is adequately supplied and OECD inventories in terms of demand cover are at “comfortable” levels (2,548 million barrels, 55 days, similar to the 55-60 day average level of the past ten years).
  • Spare capacity, ie what OPEC can produce above the established quota of 30 million barrels per day, is today 3.5 million barrels a day.
  • Iraq has reached a production of 3.3 million barrels a day, reaching record highs.

Will Iraq take oil to $ 200 a barrel?

Not likely. The OPEC spare capacity is equal to 100% of total production in Iraq.With the US producing at record levels and non-OPEC production growing by 1.2 million barrels a day in 2014, the market would be adequately supplied even if Iraq fails to export.

Libya, for example, has dropped to almost zero exports from one million barrels per day after the fall of Gaddafi and the oil price has not moved aggressively. The analysis is not “oil has risen to $ 115 per barrel,” but “even after the crisis in Libya, Ukraine and Iraq, oil has only risen to $115 per barrel …” And oil remains in backwardation (the future price is much lower than the spot).

Will the price of oil it create an economic crisis?

Oil does not create crisis. Excess credit and money supply that shoots commodity prices well above the fundamental levels are the ones that create crisis. The price of oil is a consequence, not a cause. In any case, the oil burden of the OECD has not reached 5.5% of GDP, far from levels that are supposed “to trigger a crisis”. The oversupply also helps to mitigate it.

The world has been operating with such crises in producing countries for decades. And the market is always adapting. But linking the Arab problem only with oil is a grave error on the part of all governments.

In the end, as Ignatieff said there is never an ideal solution. To think that the OECD will solve conflicts between Sunnis and Shiites that have been going on for centuries only with military domain is optimistic. Believing that NATO and the United States will be able to opt out of supporting Middle East security without dire consequences for the Western world is suicidal.

Important Disclaimer: All of Daniel Lacalle’s views expressed in his books and this blog are strictly personal and should not be taken as buy or sell recommendations.

World Trade Slows Down

comercio mundial


Worth noting today the evident slowdown in global trade, massively revised down (30%) from January estimates. Japan posted a 2.7% decline in exports in May, UK was also down 5% in April and Eurozone exports stalled… but at the same time the Baltic Dry Index is down 2.58%v this month (-52.3% this year) driven by ongoing weakness in Chinese overall imports. Overcapacity paints part of the picture, but the other most relevant part is weak trade data, well below the +16% increase expected in January (see graphs below). Merrill Lynch is betting on a BDI rebound helped by seasonality, re-stocking and a rise in seaborne iron ore volumes of +16% in 2014 and +10% in 2015. I fail to be that positive, as the indications from industrial production globally are negative regarding marginal additional growth expectations, as revisions are down 12% from January estimates globally and the backwardation on coal and iron ore has steepened.

If GDP forecasts are correct, the World Trade Organization expects a broad-based but modest upturn in the volume of world trade in 2014 (+4.7%), and further consolidation of this growth in 2015 (+5.3%).

The average ratio of trade growth compared to GDP since the mid-1980s is around 2 to 1 – with trade growing at twice the pace of GDP, according to the WTO. However, in the last two years the ratio was closer to 1 to 1.

To deliver on the expected +4.7% trade growth in 2014, this ratio would have to move to 2.5 to 1 from June to December assuming that global GDP growth expectations are correct (+3.3%)


Freight rates for panamax dry bulk vessels are now below opex, and long-term forward rates have fallen below break-even. The main reason for this weakness is in the coal market.

Chinese coal import is the most important trade for panamaxes and chinese imports of thermal coal are expected to be lower in 2014 than in 2013.

Capesize rates have come down 43% YTD and forward rates for Q4 fell 4% this Friday.

Adding to this a 100 milion tonnes of Australian capacity growth, the outlook for both coal prices and the Baltic Dry is not positive. Freight companies are growing the fleet by 4% this year so oversupply is even higher.

Brent at $113.58/bbl, and WTI at $106.87/bbl. The Norwegian Petroleum Directorate has issued its production numbers for May (this aggregates all Norwegian production each month). Oil is down 13% yoy and gas is down 9% yoy.

Worries about disruption to Iraq supply continue to support prices. The IEA in its medium term oil market report published yesterday cut its Iraqi supply forecast by close to 0.5m b/d & now expects it to reach only 4.5m bpd in 2019, commenting that the growth is “increasingly at risk” (this compares to the government’s target of 8.5-9m bpd by 2020).

Coal continues to weaken to $79.45/mt helped by lower Chinese imports and higher Australian exports. Chinese iron ore import prices are down 33.5% YTD.

CO2  at €5.80/mt still driven by backloading. Impact on power prices is inexistent. CO2 is up 13.4% this month and power prices are flat all over Europe.

UK gas is down 1.34% at 40.45p/th with all the gains of the Ukraine crisis erased from the price yet again. Both Europe and Ukraine have ample inventories and alternative supplies to offset disruptions. UK gas is down 40.7% YTD. UK power prices are down 12% YTD due to the weak gas price and poor demand.


Important Disclaimer: All of Daniel Lacalle’s views expressed in his books and this blog are strictly personal and should not be taken as buy or sell recommendations

Daniel Lacalle

Argentina close to default… again

Argentina will have to pay investment funds around USD1.3bn after the US Supreme Court’s ruling yesterday, which has rejected the country’s appeal against the funds. After this ruling Argentina’s country risk spiked 135bp to 866bp and the stock market fell 10%.

The Supreme Court rejected without comment the appeal in the Pari Passu case, leaving intact the lower court ruling that  Argentina must pay holdouts if they pay exchange bonds.

This is a victory for the holdouts that have been litigating against Argentina since the 2001 default.

In a national address Monday night, Cristina Fernandez repeatedly vowed not to submit to “extortion,” and said she had working on ways to keep Argentina’s commitments to other creditors despite the threat of losing use of the U.S. financial system.

The next step is for Argentina and the holdouts to go back to lower court to negotiate the payment plan. The risk is that if Argentina forced to pay all up front, all claims by holdouts could be near $15 billion, which is half of Argentine reserves. That means the risk of another default cannot be ruled out.

Argentina has more problems than just paying its debts, although that will be the most urgent problem for the country which has very low reserves (c. $28.0bn, 26% less than a year ago).

The problems of Argentina are well known: Excess public spending, depleting reserves, and massive deficits. Official surplus is accompanied by a fiscal deficit of almost $1 billion annually.

  • Recession, with real GDP expected at -2.5% in the second quarter of 2014.
  • Massive inflation from current 33% to 37.7% expected for the second quarter of 2014.
  • Depletion of reserves.
  • Primary deficit at -3% of GDP and negative trade account in 2013 and expected in 2014 and 2015.

Official figures hide an unemployment level that is estimated to be several times higher than the published data, and a heavily subsidized employment as well. According to a study by the Institute for Social Development of Argentina (Idesa), public employment in Argentina grew five times faster than the population in the last fifteen years. The average growth rate of public employment was 5% annually, while population grew at a rate of 1%. Public sector employees have more than doubled in the past ten years. Does that ring a bell? Greece, Spain, Portugal, etc…

The Campora (Kirchner and Kiciloff’s support group) is today the largest employment agency in Argentina.

Who pays for these public employees? Printing money (M2 +20% pa since 2006)… which creates massive inflation (average of 25% pa). A heavily subsidized economy. 5% of GDP are subsidies, a public spend that only goes to pay a hypertrophied political class and to mask the true cost of goods and services at unreasonably low prices without investing in infrastructure. These subsidies try to plug the hole made on citizen pockets by a currency in constant devaluation and by runaway inflation. Official inflation figures are estimated at 9.7% but international analysts, PriceStats, for example, estimate it at 30%.

I still remember a decade ago when I was stranded at the Hotel Alvear in Buenos Aires between mass protests, banking crises and monthly changes of government, a writer commented on the local television that “Argentina had the opportunity to choose between being and pretending, and decided to pretend”. And like all subsidized systems, currency devaluation and hiperinflation generates greater imbalances and ultimately bankrupcy.

The country is suffering from a recession combined with inflation and public spending that was growing at 44% at the beginning of the year, despite cutting social subsidies, which will not allow it to meet its most pressing debt obligations.

After 11 years of the populist Kirchner model, 50% of the labour force earn less than $400/month (according to INDEC)… in the middle of hiperinflation and close to default! 

In 2014 the Argentine public debt maturities total c. USD9.5bn, to which we must add the payment that the Supreme Court of the US has ruled, and an extra amount for the investors who accepted the debt exchange must be paid given that it would trigger a clause by which said holders will see their offers improved if it improves for the other investors, as is the case (according to Ahorro Corporacion).

Furthermore, the Supreme Court ruling stipulates that Argentina will not be able to continue paying most of the creditors if it does not settle up with the investment funds first. Argentina may file an appeal against this decision (it has 25 days to do so).

The Argentina authorities must embark on a sizable fiscal adjustment that takes the peso primary deficit to $10bn in 2014 (from $12bn in 2013) and to $6.4bn in 2015.

Peso debt payments of close to $12bn are assumed to be easily rolled over (held by local banks and public sector) and that the federal government issues peso domestic debt to local banks and Anses for about $2.6bn. In addition, the aggregate provincial financing needs are assumed to be $3bn. Assuming central bank profit transfers of $6.5bn (same as in 2013) and adelantos transitorios of about $4bn, this would mean that money printing to finance the treasury would amount to 2.8% of GDP and another massive 23% increase in base money in 2014 if it is not sterilized by the central bank, according to Barclays.

Argentina has three options:

– Agree on a support package by the IMF, which would unquestionnably stop the lunacy of the populist economic model implemented by Kirchner.

– Pay the bondholders and get support from the markets.

– Try to find US dollar financing outside of the US financial system. Impossible in my view.

The Economy Minister (Axel Kiciloff) speech in congress came as a negative surprise, announcing plans to swap exchange bonds into Argentine law to avoid paying holdouts and avoid the ruling of the US court.

According to Morgan Stanley:

A swap from international into Argentine law likely means  Argentina heading for default, since some may not swap.

The macro implications may be severe: a confidence crisis, fx crash, rising inflation and run on reserves.

Axel Kiciloff, the country’s economy minister wrote a book called “Bringing back Keynes”. He has done so with a vengeance, and destroyed competitiveness and public finances at the same time.

Krugman said in 2008 that Argentina was an “undeniable success”. It has become an undeniable nightmare.


Important Disclaimer: All of Daniel Lacalle’s views expressed in his books and this blog are strictly personal and should not be taken as buy or sell recommendations

European Elections show less change than feared


Despite the headline concerns about the rise of radical parties like France´s National Front, Syriza, New Dawn and the Danish Popular Party, in the elections 172 million people voted and less than 7.5% are votes for parties who are remotely in favour of breaking-up the Euro. If we take out the UKIP impact in the UK, as the country is not in the Euro, the “anti-single-currency” vote was insignificant, especially when we look at the political manifestos of parties such as France´s National Front, with a loose message of exiting the Euro “gradually”. 

Credit Suisse wrote this morning a nice report called “Europe beats Eurosceptics 6-4”.

As such, the EUR/USD opened this morning slightly up, and equity indices throughout Europe followed in unison, while peripheral Europe bond yields opened flat or marginally higher.  

The bipartisan nature of the European parliament has not been changed dramatically either. Juncker and the European Popular Party won (212 seats) but Schulz and the Socialists (187 seats) can try to set up coalitions. The possibility of a grand coalition is not small at all.

Eurosceptic parties won in three countries: France, Denmark and the UK (as expected, and with no impact on currency or policy), but lost massively in Italy (where Renzi won a landslide 40%), Holland and Germany. In Greece, Syriza won by a narrow margin, not enough to de-stabilize the current coalition.

Only two countries saw the current government win the elections: Germany and Spain, despite major losses in support in the case of Spain (PP lost 8 seats). The debacle of major parties did not change the landscape massively.

UKIP´s extraordinary victory (27.5%) is likely to make Tories take a more aggressive stance towards the EU and move forward with the referendum on the EU.

Bond yields likely to see limited pressure from the process of electing President and the press headlines regarding radical votes.

France seen as the biggest worry followed by Greece. Radical stop of reforms or, even worse, increasing government spending could trigger new concerns about deficits, debt and widening the imbalances of the economies.

The latest batch of rating agency upgrades in Spain and Greece, added to the exit of the bailout programs for Portugal, Ireland and Greece maintain the gradual recovery on track. Meanwhile, current account surplus in the Eurozone remains a key driver of improvement, added to the reduction of deficits and modest growth. All very fragile, but pointing in the right direction.

Once the elections have passed, this clears the path for a possible EU Quantitative Easing programme aimed at SMEs and corporate, even if there are strong challenges as we mentioned in this website (“The Difficulties of Implementing QE in Europe“).


EU parliament


Important Disclaimer: All of Daniel Lacalle’s views expressed in his books and this blog are strictly personal and should not be taken as buy or sell recommendations