My view on what's going on in the financial markets and the global economy, and a few other things that might interest me from time to time.

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  • tim@emorningcoffee.com

Three books worth reading

One of the many things that I have enjoyed doing since I left the grind of working at large financial institutions is reading things other than financial periodicals. Since I stopped working fulltime, I have spent more time reading actual books, especially many of the classics by world-renowned authors. Every now and then, a more contemporary title catches my eye, often books about global financial markets and / or macroeconomics. As much as I have enjoyed catching up on reading many of the classics, I have also found a few of these more contemporary books equally enriching, especially ones that might explain the unusual economic circumstances in which we find ourselves at the moment due to the pandemic.


I have recently read three very interesting books that are in fact very pertinent for the economic environment in which we currently find ourselves. I found each book provocative in its own way. The first book – Lords of Finance: The Banks that Broke the World – is historical but relevant for what is happening today as far as the behaviour of central banks. Interestingly, it was published in 2009 just as the world was emerging from the GFC. The second book – The New Map: Energy, Climate and the Clash of Nations – is part history and part outlook, somewhat futuristic as it discusses the world’s focus on climate change and migration away from fossil fuels and towards cleaner sources of energy. The third book ­–The Great Demographic Reversal – is about how the global economy will evolve in coming years (and decades) based on current demographic and population trends. It is by far the most technical of the three, so avoid this one if you aren’t prepared to digest some rather intense macroeconomic tables, charts and general data.


All of these books are available on Kindle, which is how I read them. However, I think that “The New Map” and “The Great Demographic Reversal” would be best read in hard copy, because you will be able to see the tables and graphs much better (than on a Kindle). I have briefly profiled each book below, although there are plenty of reviews available for all three books. I have also included a link just below each title that provides more colour on the book and / or author.


Lords of Finance: The Bankers that Broke the World, by Liaquat Ahamed (2009)

Summary: The Pulitzer Prizes website here

This is an excellent book that is mainly about the four major central banks at the end of World War I (aka The Great War) – the Bank of England, the Banque de France, the German Reichsbank, and the New York Federal Reserve – and the leaders at the helm of each. It covers the period from the end of the war in 1918 until the early 1930s, a time by which the world was mired in the Great Depression. The book discusses the policy actions and mistakes made by these central bankers during this difficult post-war period, and many of the lessons are worth studying today even though this period was 100 years ago.


The first half of the 1920s, following the end of World War I, evolved largely around reparations that Germany owed to the Allies pursuant to the Treaty of Versailles, signed by the warring parties in 1919. These loans were structured so aggressively that Germany simply could not repay them as scheduled, ultimately resulting in the German central bank printing more and more money to monetise its external debt. Flooding the foreign exchange market with German Papiermark to buy hard currency so the country could service its debt caused domestic inflation to spiral completely out of control as the currency devalued, ultimately leading to one of the most famous periods of hyperinflation in recent memory (1922-23). Lords of Finance covers the actions of the four central banks and the governments of each country during this period, relevant since the first half of that decade set the stage for a series of monetary policy (mis)steps that ultimately led the world into the Great Depression of the early 1930s. The book also discusses the ramifications of countries leaving the gold standard prior to / during World War I, and then re-joining it (ex- Germany). Linking a country’s domestic currency to a fixed amount of gold obviously increases confidence in that currency, but it is also becomes a straitjacket for monetary policy that limits the manoeuvrability of central banks, restricting their ability to undertake countercyclical monetary policy. Recall also that fiscal policy was not yet recognised as a mainstream complementary macroeconomic tool, although John Maynard Keynes was coming into his own during this period. Perhaps not unexpectedly, he was very critical of many central banks’ actions during this period. Lords of Financediscusses Mr Keynes theories and ideas about fiscal policy in some detail in a book which is otherwise focused on central banks and monetary policy, and he covers these evolving Keynesian ideas very well. Overall, the author provides a compelling case as to why poor judgment and policy mistakes by the central banks during the 1920s led the world into the Great Depression. Mr Ahamed also discusses in depth the personalities of the central bankers involved during this period, because it is important context. I will stop here but suffice it to say that there are many excellent insights and lessons in this book relevant to today, so many in fact that it is difficult to choose which ones to even mention.


To give you a flavour of the book and to draw the parallels between then and now, I extracted a few sentences that I thought might pique your interest in reading Lords of Finance.


“Every country in Europe to emerge from the war had faced the same set of issues. Britain had chosen one extreme: to impose most of the burden on its taxpayers and to protect its savers. Germany had chosen the opposite extreme: the way of pathological inflation, which had wiped away its internal debts at the price of annihilating the savings of its middle classes.”


“The men in charge of central banks seem to face a similar unfortunate fate—although not for eternity—of watching their successes dissolve in failure. Their goal is a strong economy and stable prices. This is, however, the very environment that breeds the sort of overoptimism and speculation that eventually ends up destabilizing the economy.”


“But while the bubble lasted, it was the people who were the least informed who were the ones making the most money. As the New York Times described it, “The old-timers, who usually play the market by note, are behind the times and wrong,” while the “new crop of speculators who play entirely by ear are right.”


“The market displayed every classic symptom of a mania: the progressive narrowing in the number of stocks going up, the nationwide fascination with the activities of Wall Street, the faddish invocations of a new era, the suspension of every conventional standard of financial rationality, and the rabble enlistment of an army of amateur and ill-informed speculators betting on the basis of rumors and tip sheets.”


Some of those sentences could be as much about today as the period leading up to the 1929 stock market crash which occurred right at the doorstep of the Great Depression.


The New Map: Energy, Climate and the Clash of Nations, by Daniel Yergin (2020)

Summary: Daniel Yergin’s website here

Let me begin by saying that some critics have labelled this book too “oil friendly”, even self-serving, given that the author Daniel Yergin is an energy consultant. I am mentioning this first in case it makes a difference as to whether or not you read this book, although I personally found it excellent. As someone not particularly knowledgeable about the history of oil and who has not thought deeply about its geopolitical ramifications, The New Map vastly improved my understanding of the relevancy of oil in terms of the world map as it exists today. After Mr Yergin provides the historical context in the first half of the book, he then sets forth what I believe is not an unreasonable outlook for the future of oil and other fossil fuels, no longer fashionable as the world urgently begins shifting towards cleaner sources of energy.


In the first half of the book, Mr Yergin provides a thorough history by country / region of how oil came into prominence and – perhaps more importantly – the influence it has had on geopolitics since the world began its addiction to petroleum. He covers in detail the US and the rise of shale, Russia and natural gas, China as a consumer of oil and major producer of coal, and the Middle East as a major exploration & production region for oil. Many of the alliances and tensions we see today are related to the energy “haves” and “have nots”, and certainly several wars and near-wars have occurred to ensure the rich developed nations of the world retain uninterrupted access to petroleum. Prior to the Coronavirus pandemic, the US had – through the science of shale extraction – become energy self-sufficient after 40 years of depending on imports to meet the country’s energy needs. The pandemic, which caused oil prices to collapse, then made shale oil extraction uneconomical and again changed the balance of power, a trend that is upon us, currently shaping geopolitical tensions particularly amongst the US, Russia and China. As I write this, Russia is flexing its muscles in Ukraine and on the eastern border of the EU, because it knows that – as winter approaches – Europe needs its natural gas.


Once the history is explained and the oil-influenced map fault lines are drawn, Mr Yergin delves into transportation, a significant user of oil today. Specifically, he discusses the evolution and growth of EVs, self-driving cars, and auto-hailing companies, amongst other trends affecting the transportation industry at this very moment. From there, the book moves more broadly into a discussion of climate change and how the current focus on addressing global warming will affect the evolution of cleaner energy sources. Mr Yergin’s conclusions as far as timing might not be what environmentalists and ESG advocates will want to hear. He provides a logical case for why the transition to clean energy will both take time and be enormously expensive, the very issues causing the most tension amongst countries at the recent COP26 in Glasgow. In the context of making the world a better place for future generations, the transition has to occur of course. However, economic realities have to also be considered since many of the countries that rely on oil for their economies to work today have neither the means nor the money to fund an overnight transition to clean energy. Personally, I find his arguments and presentation completely fair.


As with the first book here are a few extracts to give you a flavour of “The New Map”.


“This book is about the new global map that is being shaped by dramatic shifts in geopolitics and energy. It is also about where this map is taking us. Geopolitics focuses on the shifting balance and rising tensions among nations. Energy reflects far-reaching alterations in global supply and flows, driven in major part by the remarkable change in the energy position of the United States, and by the growing global role of renewables and the new politics of climate.”


“For more than a century, energy—its availability, access, and flows—has been intertwined with security and geopolitics. As a Brookings Institution study put it, “In the modern era, no other commodity has played such a pivotal role in driving political and economic turmoil, and there is every reason to expect this to continue.”


“For the entire EU, natural gas comprises about 25 percent of energy consumption. That means that Russian gas, at about 35 percent of total gas consumption, provides 9 percent of Europe’s overall energy. After Russia, the next largest source of gas is “indigenous” or “domestic supplies,” largely from the Groningen field in the Netherlands and the British sector of the North Sea. Norway, though not a member of the EU, is highly integrated with it economically, and supplies 24 percent of the EU’s gas; about 9 percent comes from North Africa, mainly Algeria.”


“Consumer demand still has to be met. There is no obvious way that people around the world can any time soon dispose of their 1.4 billion cars that run on oil, and people will still need to heat and air-condition their homes.”


“SO WHEN WILL OIL DEMAND REACH ITS PEAK? IHS MARKIT’S Rivalry scenario, which is the planning case, points to the mid-2030s. In the alternative Autonomy scenario, the peak comes much earlier, as a result of strong government policies, a more rapid switch to electric cars, and the economic wounds of the 2020 coronavirus crisis.”


The Great Demographic Reversal, by Charles Goodhart and Manoj Pradhan (2020)

Summary: IMF review of book is here

Of the three books, The Great Demographic Reversal is the most complex to read. The book dives deep into how global macroeconomic trends in the future will be shaped by demographic changes and population growth, which vary rather significantly country-by-country. In this book, Messrs Goodhart and Pradhan discuss: the Phillips Curve; aging populations and changes in the dependency ratio (historically and going forward); growing inequality; growing populist politics; differing incentives a far as inflation between governments and central banks; why Japan’s fight against deflation since the 1990s is not representative of future inflationary pressures; the much-discussed debt trap; the role/influence of China in global economics; and so on. Below are a few extracts from the book to see if it might interest you.


“With corporate sector finances having become increasingly fragile, and (populist) political calls for keeping interest rates low, the Central Bank will become under intensifying pressure to keep any increases in interest rates gradual and limited. But if such interest rate increases remain gradual and small, then the present incentives to extend and expand debt finance remain in place. That is the debt trap in which so many of our countries have now become ensnared.”


“Public expenditures will rise as ageing leads to more pensions and greater medical/caring costs, at a time when real income growth, and taxable capacity, is slowing.”


“The authorities, like most of the rest of us, were caught short by the sudden advent of the pandemic, and rightly rushed to limit unnecessary deaths. But in so doing, they imposed a massive supply shock.”


“The coronavirus pandemic, and the supply shock that it has induced, will mark the dividing line between the deflationary forces of the last 30/40 years, and the resurgent inflation of the next two decades.”


The last extract above should make it clear that the authors of The Great Demographic Reversal are probably not buying the current “inflation is transitory” argument, even though this was not being debated at the time the book was published.

 

These three books offer excellent insights into the world in which we live today. Reading one or more of these books will help you better shape your own investment thesis during these uncertain times, a period that has been heavily influenced by the pandemic, as well as a multitude of fiscal and monetary distortions.



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