When I was a boy, there was a very popular game played by all the kids on our road. It was called “clackers”. It involved two plastic balls on two strings tied together at the top. The balls hit off each other with force making a “clack” noise. Once one ball hit the other, the other would whip back and hit the other and so on, back and forth. This could go on indefinitely if you didn’t touch them.
It was only years later that a science teacher explained to me what was driving the clackers. It was apparently something called Newton’s Cradle. It explains how momentum and energy can be transmitted.
Newton’s Cradle is a construction of five steel balls. You might see it on executives’ desks from time to time. The balls are suspended from a beam and they just touch each other – barely “kissing” each other, as snooker players would say.
If you draw back the outer ball and hit the other four, the last ball will move on its own and then swing back and hit the four stationary balls with almost the same force. The energy will pass through the balls and the last one will swing out, taking the energy from the others and the outside ball swing back and forth and so, on and on.
This Newtonian Cradle is a nice way of looking at the financial markets right now. The global financial markets are being hit by two opposing forces, and it is leading to strange, unstable outcomes that might explain why JP Morgan lost €2 billion on bad trades over the past six weeks.
This is a phenomenal amount of money to lose, and the very erratic nature of the losses and the way the markets are moving right now might help us to figure out what is going to happen next in European politics – and why there is little point trying to make the irrational rational by voting on anything in the next few weeks.
The two forces hitting the financial markets – and thus the European economy – are totally opposed.
The first is the long-term force of deleveraging and deflation. These are the results of the unwinding of the huge borrowing we saw in the past ten years. As people save and pay back their debt and as companies do the same, the natural tendency for financial markets is to consolidate, because the outlook for growth is poor. But these forces are now bumping into recurring, dramatic and quite erratic rounds of bailouts, liquidity injections and special lending funds like the ESM and the EFSF.
All the interventions drive the markets in the opposite direction to the direction that deleveraging and deflation tends to drive them.
Now, how do these two countervailing pressures affect financial markets and risk?
They make things very unpredictable. That is because the clash of the forces injects far too much risk, and things don’t return to normal.
All of us like things to return to normal after a shock. We can deal with a world where the risk of things being out of our control is modest.
Let’s take a real world example of human nature and explain how people – even people with different attitudes to risk – like things to return to normal.
Imagine two people make a doctors appointment for three o’clock. Mr “Risk Averse” might be the type of person who turns up at quarter to three; just to be sure, he is there on time.
Now, consider Mr “Risk Taker”. He might be the sort of person who has had to wait in a doctor’s surgery for a little while because the last patient is taking more time than expected. So he might just arrive at three on the dot. Therefore, of the two types of people, one arrives at 2.45 pm, the other at 3pm.
That is the risk they are taking. One person takes no risk by assuming that, if the doctor is early, he’ll be there. The other takes the risk that, if the doctor is there a bit early, the doctor will see the next person in the queue and he will lose his place, but he will be next in the queue so he will have to wait only a little while. One takes no risk, the other takes some.
But the key thing is that both are fairly sure that they will see the doctor in or around three. They are fairly sure that this is normality, and they adjust their behaviour accordingly.
Now consider what would happen if the doctor said that the appointment would not be at three, but would be sometime between 8am and 8pm, but they’d just have to show up and see. Now everyone is confused and freaked out because normality has been messed with.
Something similar is happening with European financial markets because these two forces – deflation versus intervention – are keeping everything from settling down into a predictable path.
So the risks are much bigger. Take the example of Spanish bonds; the natural tendency is for Spain to default because it has too much debt and not enough growth, so the market goes one way. Then the ECB comes in and injects huge amounts of liquidity into Spain and the bonds rally. The market gets caught and allegedly very clever people get caught on the wrong side of the market and get squashed, like the people at JP Morgan.
Now, I have no problem with that because they are in the game, and if they can’t figure out where the risk is, that’s their problem. But the policy implications are very clear. The first is that these jokers should be severed from the very core of banking. The JP Morgan statement explaining what happened last week referred to “excess deposits” being used by the traders who lost €2 billion. This should never be allowed to happen.
Depositors’ money should never be gambled in such a way, particularly because of the volatility described above.
The other point is that, with these two massive forces at play (deleveraging on the one hand and massive intervention on the other), the signals coming from the markets are not really telling us anything about the underlying strength or weakness of an economy.
Therefore, when Germany responds to a bond crisis on the periphery by trying to force through a ‘fiscal compact’ that has nothing to do with what is going on in Italy, Spain or Ireland and everything to do with the basic of physics of the Newtonian Cradle, it is being disingenuous.
In fact, when the global markets are exhibiting such volatility, you would be mad to hold a referendum on fiscal policy, the results of which will ultimately be judged by the same erratic markets.
Not only would you be mad, you’d be clackers.
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This is very interesting and if you stand back from this and think about what we are being asked to vote on at the end of this month,it seams bonkers what’s the rush wheres the fire will someone die if we put this off till later in the year. I just can’t get my head around why this is being rush ,do something in a rush and repent at your leisure . Making jobs in the export sector is of no use to the domestic economy all this government wants to do is protect there own pay and the state… Read more »
I´m assuming your a NO voter so :-). Question. While watching vincent Brown the other night the no defenders were repeating that the approval of the treaty would mean 6 billion a year out of the Irish economy. The Yes men said thats rubbish but didnt give their own figures because I suspect its worse than 6 billion a year. If the state debt has to go from 160 % of GDP in 2014 to 60% of GDP in 20 years I calculate GDP = 150 billion. 60% = 90 billion, 160% = 240 billion. Getting from 240 billion to… Read more »
There’s something that’s probably worth adding to this question. We’re staring a game of the “Prisoner’s Dilema”, but on a global scale, with the wellbeing of about a billion people in the balance. If we all start acting purely out of self interest, then the carefully orchestrated currency/interest rate balancing act that the world’s central banks have been playing will collapse, which will lead to a depression that would make the 1930s look like a slightly tiresome recession, but we, as a result of acting first, we will be relatively better off than if we didn’t . If we don’t… Read more »
Didn’t we have a 30% deficit in 2009 to bail out Anglo, an all time record for any country I’m aware of, ever? If that was so “important”, what if we need to do it again? Shouldn’t the government be lobbying for a no vote? And what about NAMA and similar SPV off balance sheet spending? Does this count as deficit for the purposes of the treaty (the capital given to NAMA was counted as an investment, although obviously its going to be nearly all lost). I’m genuinely mystified by the weird perversions of logic and accounting this government foists… Read more »
Cannot help feeling the N.Cradle analogy is not the most appropriate. It feels like a resonant frequency has been found to rock the entire EU to its foundations. The energy to keep this swaying flying more and more back and forth is the generation of funny money aided and abetted by commission seeking financiers who need to increase the amplitutde of the swing so money can be made on the rebounds. It is that simple. The system is about to fail soon for 2 reasons 1) The financial swingers and in-country ruling elite are keeping eachother in a job so… Read more »
There is no point going back to having our own currency if we continue with the same model of credit creation as debt-bearing-interest-issued-by-private-banks-on-fractional-reserve-basis-for-profit. We’re simply raising the Titanic for a repeat sinking. Not that we’ll hear any proposals for superior alternative economic models on mainstream media from the feathered gombeen axis of powers that run/ruin this country. I’m hopeful that the fabric of fear that binds our society together will be replaced by an intelligent momentum to a new economic model driven by the regrettable but inevitable poverty of the majority of our citizens out of sheer frustation with the… Read more »
We need to vote yes in this banana republic how else is this past and current government going to keep the gravey train running.i wish I was on the gravey train with these liers ,then I could get me redundo early my fat pension my hand shake and then get my old job back or if I was a government minister I could go and tour the other banana republics and get big wad for telling them how to keep there gravey trains running. I thought this was a nightmare I was having untill I woke up and stuck a… Read more »
Mighty stuff DMcW – I’ll quote your above paragraph : “…Now, I have no problem with that because they are in the game, and if they can’t figure out where the risk is, that’s their problem. But the policy implications are very clear. The first is that these jokers should be severed from the very core of banking. The JP Morgan statement explaining what happened last week referred to “excess deposits” being used by the traders who lost €2 billion. This should never be allowed to happen. Depositors’ money should never be gambled in such a way, particularly because of… Read more »
The alcoholic government will do anything to get a drink all sence of reason goes out the window and it’s like watching a puppet show and we fools for letting ourselves be walk on .
God help us we will need it because we have have to endure another couple of years of this government .
David do you think the voters will have seen the light befor its to late .
http://www.rte.ie/news/2012/0514/fiscal-treaty-referendum.html
This a video worth watching Enda Kenny addressed by a member of the public.
Things are begining to reach tipping point.
I just do not believe JP Morgan on this 2 billion loss.
It stinks.
They are involved in the cover up of a quadrillion CDS pyramid scam in shadow banking system and they are all hands up on 2 billion.
Nah.
Don’t buy it.
Liars.
Criminal gangster bankers who’ve rigged the system are controlling policy making and are addicted to money.
What if things are about to deteriorate to the point that the markets don’t care about the referendum outcome ? It would come as a massive blow to both sides, with all their nonsense. Really, if you were not preparing for this from 1999 onwards, you are in trouble now. In massive trouble. It takes that long to get it correct. And even then, you need to spend your time working on being ahead of the game now. And how do you prepare ? By ignoring the mainstream opinion that is fed into the populace, by ignoring “the manufacturing of… Read more »
There is more : REICH, OTHERS FORECAST JPMORGAN CRISIS SPREADING, CALL FOR GLASS-STEAGALL May 13 (LPAC)–JPMorgan Chase Chairman and CEO Jamie Dimon appeared on NBC’s “Meet the Press” Sunday morning and tried to chill out the crisis triggered by his bank’s suddenly announced major derivatives-market losses: “It’s not life-threatening,” Dimon lied, and forecast his bank would still show a profit this quarter. Humorously, Dimon insisted on the one hand that he knows with absolute certainty that the huge London CDS trades were just hedging risk, not casino bets for the bank; on the other hand, he said he didn’t know… Read more »
By the way, Paddy Power is the largest “Financial” stock on the ISEQ now. A bookmaker from Kildare. The hilarity of it is just enormous. The only gambling operation that is still in business. BoI are listed in the top 10, but lets be honest here – really the PAYE taxpayer deserves that spot for putting them there. FBD Insurance are somewhere down the list – proving that Irish people can manage their financial affairs. But hold on. FBD “missed” out on the property boom. How come the management did not get sacked for not getting on baord in the… Read more »
This is a very heavy blow.
Normally Moodys see trouble when it is in yesterdays newspaper, blowing around on the pavement, getting forgotten about.
http://www.marketwatch.com/story/moodys-downgrades-26-italian-banks-2012-05-14-1712440
And now Moodys are talking about Italian banks.
That French Triple A rating might be in trouble.
I think it’s important to note that we’re not as dependent on the value of assets as we might think. The most important parameter of the economy is the money supply. Currently we owe more to banks than exists and we have to pay debts to banks in euros, not assets. The value of our assets can fluctuate without affecting the money supply.If anyone’s bank balance lowers from the sale of shares, someone else’s goes up by the same amount and overall the money supply remains unchanged. It’s a point I brought up with Karl Whelan at our meeting on… Read more »
Thanks David,
I like the idea of Newton’s Cradle but even that is not in a vacuum, it eventually stops!
Found this great explanation of the Debt Crisis and how the slowing down (I MEAN ABRUPT STOP) of the Financial Markets!
http://www.youtube.com/watch?v=LKsZ1hqHBHU
Very good writing
We are all at the mercy of forces known and unknown
Can anyone explain why the government which has shown no appetite for change, decision making or leadership is so gung ho for this referendum? Would have thought even to protect their own selfish skins they would have held off.
Great article David. It’s the closest I’ve seen to describing what’s going on. This makes sense of what’s happening, plus Stephen’s idea of the currencies being marshalled to stay in line with each other.
Reminds me of the Simpsons where Moe is stressed out tring to run a family friendly diner. “Look at the veins on that man’s head”, says Krusty. “He’s gonna blow!”
Clackers. Autumn 1970? or was it autumn 71? Nah, pretty sure it was the first.
Ireland has been reduced to beggar-like status by the shameless corruption and criminality of the political and financial elites.
Meanwhile, Enda Kenny and his incompetent cronies are on the ‘news’ telling bare-faced lies EVERY NIGHT OF THE WEEK and barely anyone bats an eyelid.
Forgive me for being simplistic here, but what I see from DMcW’s article is the quantity theory of money being applied in an effort to stabilise prices. This widely-accepted theory (even taught to CA’s like myself) espouses that prices move according to the supply of money, ie., more money higher prices and vice versa. Essentially, money supply should maintain prices in equilibrium over the medium term (anything over 12 months). Therefore, as DMcW’s article sets out, deleveraging reduces the supply of money (using the M2 parameter) thus causing deflation while intervention (releveraging) increases the money supply thus causing inflation. Assuming… Read more »
Test
What happens if Greece is kicked out of the Euro and goes through a messy default and much pain and then starts to recover much faster than the rest of the PIGS ?
Would the Euro crisis just rumble on for years as countries toy with the idea of leaving looking at Greece as an example and the markets unsure of who is staying and who is going ?
Test 1
, May 15th, without comment anywhere except on sites such as this, Anglo paid an unsecured bond of £60,000,000 – that’s sixty millon pounds sterling, around €73m. On May 28th, AIB (another debt-ridden bank we now own) will pay a bond of €2.25bn.
http://bondwatchireland.blogspot.com/2012/05/dirty-dozen-we-may-20th-2012.html
For any traitor voting YES to the EU (Evil Union)
http://www.youtube.com/watch?v=EPcWHBPYOSU&feature=g-vrec&context=G26e1162RVAAAAAAAAAg
http://www.european-council.europa.eu/media/582311/05-tesm2.en12.pdf
Enda Kenny has a lot to answer for IMO
Food crisis in West Africa now. I don’t even need to know the tragic details but I know this: I bet it could all be traced back to some immoral people’s activities on futures and derivative markets that should be closed down tomorrow if not yesterday. The world is shagged.
William K Black on the JPM 2 billion bluff
http://www.youtube.com/watch?v=DyGblA8Fc3s&feature=player_embedded
Funny how I have not seen anything in Mainstream about Merkel,s election defeat on Sunday in Westphalia,Germany’s most populous region ,13 million people.She got her big ass handed to her on a bigger plate……
Have been asked to attend a seminar on 8 June by social welfare to work and learn from the group as to how to find a job.!……Thank God as I thought I would never work again………
I think redriversix is on a downward spiral to Lala land………..
Spain, is slowly creeping towards a very difficult predicament.
http://globaleconomicanalysis.blogspot.com/2012/05/spain-potpourri-official-denials-from_15.html
This is rather unfortunate, but it is a consequence of absurdly low interest rates from the ECB. It caused a property bubble in Spain. This is exactly the same scenario as we seen in this country. Perhaps Spanish property developers were not in “masters of the universe” like their equivalents in Dublin – who were going around outbidding the Arabs and the Russians in auctions on prestige properties like the Savoy Hotel in London, and the top golf club in England.
But nevertheless, the omens are really really bad.
Clackers Redefined :
Cradling Risks
‘In fact, “net exposure” more closely resembles the image of two drunks leaning against one another. The net balance between the two drunks is the only pertinent risk factor, the apologists argue. As long as the two drunks are leaning towards one another, the two of them can toss back as many tequila shots as they wish. On a “net basis,” they behave as if they are completely sober’.
So…is the whole idea of the financiers wanting a massive recession a massive shorting exercise so they want to buy it up cheap and draw rent from all of it thereafter? Is that what we are facing?
In the end it is about what everyone else wanted all along…easy money from rent.
http://www.irishexaminer.com/ireland/politics/nama-is-too-big-and-complex-says-its-creator-194009.html
…and also the article in Sindo 120513 on NAMA….
http://www.independent.ie/day-in-page/2012/05/13/
No reporting on NAMA can ever be as good as the pieces on the invaluable NAMA wine lake blog but these two articles are worth a read.
Just wondering what attributes do you need to be a Cristian Democrat. Maybe you have to be a followers of Christian values. Jesus threw the traders out of the temple, the Christian Democrats would give them the keys. So not that. Maybe you need to believe in democracy and the rights of electorates to have a say in how their countries are run. No not that either with imposed authority from Brussels.
Maybe you just have to be a well connected, arrogant, hubristic and self serving.
The last four years has felt like suspended reality. Nothing has changed politically but more people are finding alternative media. Mainstream media is like watching cartoons and you feel sorry for any poor bugger who relies on the papers and Pravda RTE. That, like the notion of democracy is for children! Vincent Browne’s program is bearable for for for five minutes and you f f feel sorry for a format that looks and smacks of old Ireland. Vinnie is 1950s and I always imagine him with an Eddie Cochran haircut with a purple rinse. They should farm him out and… Read more »
“If they can’t figure out where the risk is, that’s their problem” Big talk. Balls of lead. Punk economics rulez and we need to get back to punk. Old punks need to get their minds right after being numbed by the decades of inane and stultifying crap that is in danger of turning our brains to mush We can start by switching off the tv unless it is RT on sky channel 512. The Keiser Report et al. More Irish people are tuning into the channel that Hilary Clinton hates. Get yourself some decent shampoo Hilary then we might not… Read more »
Seems like The Deadly Mix has exploded and scuppered us. Abandon ship. It’s like Das Boot. Bastards. Down periscope and dive to 100 meters. Now!
Crisis spreads to Ireland and Spain:
http://www.independent.ie/business/irish/crisis-spreads-to-ireland-and-spain-3110772.html
Gomb — yeens If Inda was a catoon drawn with calligrahpic dashes then the stwawberry haird and square jawed hero of th th west would resemble a ban owl and the bouldy oul king from the plaice beyone the Shannon south would resemble an ageing chicken chewing on a wasp. Or maybe a nettle It doens’t matter which because you already see that both these heirs to the legend of Cuchulain are made of the same stuff and better stuff if we are being honest. Birds of a feather. Now that bad king Birtie has receded back oer the Hill… Read more »
Top civil servant on €60,000 annual pension re-hired for €6,000 a month
http://www.independent.ie/national-news/top-civil-servant-on-60000-annual-pension-rehired-for-6000-a-month-3110796.html
Phil Collins – Another Day In Paradise
Moon WOBBLE begins on SUNDAY
Bringing back the Punt — Monaghan town cashes in on old currency !!
http://laroucheirishbrigade.wordpress.com/2012/05/16/bringing-back-the-punt-monaghan-town-cashes-in-on-old-currency/