Daily Sources 7/27

1. US-CHINA STRATEGIC AND ECONOMIC DIALOGUE KICKS OFF TODAY

Secretary of State Hillary Clinton and Treasury Secretary Timothy Geithner have an op ed in today's Wall Street Journal to outline the aims of the US-China Strategic and Economic Dialogue which kicks off today. Key excerpt:

"To keep up with these changes that affect our citizens and our planet, we need to update our official ties with Beijing. During their first meeting in April, President Barack Obama and President Hu Jintao announced a new dialogue as part of the administration’s efforts to build a positive, cooperative and comprehensive relationship with Beijing. So this week we will meet together in Washington with two of the highest-ranking officials in the Chinese government, Vice Premier Wang Qishan and State Councilor Dai Bingguo, to develop a new framework for US-China relations. Many of our cabinet colleagues will join us in this 'Strategic and Economic Dialogue,' along with an equally large number of the most senior leaders of the Chinese government. Why are we doing this with China, and what does it mean for Americans?

Simply put, few global problems can be solved by the US or China alone. And few can be solved without the US and China together. The strength of the global economy, the health of the global environment, the stability of fragile states and the solution to nonproliferation challenges turn in large measure on cooperation between the US and China. While our two-day dialogue will break new ground in combining discussions of both economic and foreign policies, we will be building on the efforts of the past seven US administrations and on the existing tapestry of government-to-government exchanges and cooperation in several dozen different areas.

At the top of the list will be assuring recovery from the most serious global economic crisis in generations and assuring balanced and sustained global growth once recovery has taken hold. When the current crisis struck, the US and China acted quickly and aggressively to support economic activity and to create and save jobs. The success of the world’s major economies in blunting the force of the global recession and setting the stage for recovery is due in substantial measure to the bold steps our two nations have taken.

As we move toward recovery, we must take additional steps to lay the foundation for balanced and sustainable growth in the years to come. That will involve Americans rebuilding our savings, strengthening our financial system and investing in energy, education and health care to make our nation more productive and prosperous. For China it involves continuing financial sector reform and development. It also involves spurring domestic demand growth and making the Chinese economy less reliant on exports. Raising personal incomes and strengthening the social safety net to address the reasons why Chinese feel compelled to save so much would provide a powerful boost to Chinese domestic demand and global growth."

2. CHINA TO LAUNCH ARABIC-LANGUAGE TV STATION IN MIDDLE EAST AND AFRICA

The AFP reported on Saturday that China Central Television launched an Arabic-language channel which will air in the Middle East and Africa.

"Beijing is carrying out a multibillion-dollar effort to raise the profile of its state media abroad by expanding CCTV, the Communist Party newspaper People's Daily and the official Xinhua News Agency.

The effort has a budget of 45 billion yuan ($6.6 billion), according to a report last month by the Hong Kong newspaper South China Morning Post.

The Arabic channel will carry news, feature stories, entertainment and education programs and will gradually expand its offerings, CCTV said. The network already broadcasts in English, French and Spanish as well as in Mandarin."

It also has plans for a Russian language channel. (h/t Sky Canaves at China Journal.)

3. FIRST PUBLIC PRESIDENT-TO-PRESIDENT EXCHANGE BETWEEN BEIJING AND TAIPEI IN 60 YEARS


Weiyi Lim at Bloomberg reports that China’s President Hu Jintao sent a message congratulating Taiwanese President Ma Ying-jeou on his election to the head of the Kuomintang Party. It was the first public exchange between the leaders of mainland China and Taiwan in 60 years.

4. PETROCHINA BUYS 70.13% OF SINGAPORE PETROLEUM COMPANY

Norazlina Juma'at at Platts reports that PetroChina International on Friday announced it had increased its holdings of Singapore Petroleum Company to approximately 70.13% of the shares outstanding.

"On June 21 PetroChina had completed a deal to buy 45.51% in SPC from Singapore's Keppel Corp. for just over $1 billion and had launched an offer for all remaining shares."

SPC operates one of the three major refining projects in Singapore, which is a major trading and shipping hub for petroleum products in the Asia Pacific. The city state's total refining capacity is about 1.3 mb/d. SPC owns 50% of Singapore Refining Company Private Limited which has a 50% stake in the 273.6 kb/d refinery joint venture with Chevron on Jurong Island.

5. INDIA LAUNCHES FIRST INDIGENOUS NUCLEAR POWER SUBMARINE FOR SEA TEST

Voice of America reports that India has launched its first indigenously built nuclear-powered submarine, the Arihant or "Destroyer of Enemies," for sea trials in the Bay of Bengal. The Arihant was built with the assistance of Russia, has a crew of about 100 men, and will be armed with ballistic missiles.

"India already has fighter aircraft and missiles capable of carrying nuclear warheads. If all goes well with the trials, the Arihant will give India an underwater ballistic missile capability after the tests are conducted.

After launching the submarine, Prime Minister Singh said 'we do not have any aggressive designs nor do we seek to threaten anyone.' But he said that the sea is increasingly becoming relevant in the context of India's security interests, making it necessary to 're-adjust our military preparedness to this changing environment.'"

Galrahn at Information Dissemination comments:

"This beings India closer to becoming the first nation in decades to develop a nuclear triad, and the first nation to do so in the Indian Ocean area. While this development does not shift any balance of power in the region, it certainly gives both Pakistan and China something to think about. There is something else though, it will also give India a case for becoming a permanent member of the UN Security Council, a discussion the current permanent five members are not looking forward to."

6. RUSSIAN ORTHODOX CHURCH PATRIARCH IN KIEV TO TRY AND MEND RIFT WITH UKRAINIAN METROPOLITAN

Maria Danilova at the Associated Press reports that the Russian Orthodox Church Patriarch Kirill led a prayer service in Kiev today in part of a 10-day visit intended to mend the rift between the Russian Orthodox Church and a breakaway Ukrainian Orthodox church.

"Currently, Ukraine's main Orthodox church answers to Kirill, but a breakaway church that has proclaimed itself independent from Moscow in the 1990's has been gaining popularity and political support in this predominantly Orthodox country of 46 million.

[Ukrainian President Viktor] Yushchenko, who has sought to break free from Russia's centuries-old political dominance and integrate with the West, has appealed to the spiritual leader of the world's 250 million Orthodox believers, Patriarch Bartholomew I of Constantinople, to recognize a local Ukrainian church that would be independent of the powerful Moscow patriarchate.

Bartholomew, who visited Kiev last summer, has not given a clear response.

Kirill is to meet with Yushchenko later in the day. He told reporters after the prayers that he had no immediate plans to meet with the representatives of the breakaway church, the Ukrainian Orthodox Church Kiev Patriarchate."

7. TURKMENISTAN SAYS IT WILL HONOR DECISION OF INTERNATIONAL ARBITRATION COURT'S RULING ON CASPIAN BORDER WITH AZERBAIJAN

John Roberts at Platts reports that Turkmen President Gurbanguly Berdimukhammedov on Friday officially asked foreign minister Rashid Meredov to file a request before an international court of arbitration asking it to settle a long-standing dispute between Ashgabat and Baku on their Caspian borders.

"'The issue of demarcation of the sea bed and the sea's mineral resources between Turkmenistan and Azerbaijan, as well as the definition of median line there, remain unresolved for a long time due to Azerbaijan's specific position,' Berdimukhammedov [reportedly said on Saturday].

'Turkmenistan will be ready to accept any ruling to be issued by the International Court of Arbitration on this issue,' he said.

In its first response to the Berdymukhammedov declaration, Azerbaijan made no direct reference to arbitration, but the statement from deputy foreign minister Xalaf Xalafov to Azerbaijan's ANS television Saturday that Baku would defend its position could be interpreted as an indication that it was prepared to submit its case to arbitration."

Any planned natural gas pipeline that would traverse the Caspian would theoretically at least require the demarcation and sea bed issues resolved previous to construction. One potential pipeline to be routed through the Caspian is Nabucco. Worth reading in full.

8. 80-90% VOTER TURNOUT REPORTED IN KURDISH REGIONAL GOVERNMENT ELECTIONS THIS WKEND

Ben Lando, Serage Malik, Rawsam Latif and Istifan Braymok at Iraq Oil Report that turnout in the Kurdish Regional Government's elections this weekend was at, according to early estimates, between 80 and 90% of eligible voters.

"To be sure, there have been complaints, during the campaign and at the polls, and it’s up to the Independent High Electoral Commission in the coming days to determine how serious they are. Preliminary results are expected by Sunday, and final results certified by the IHEC within five days. But in a region specifically and in a country generally where the challenger has seen bullets and prison instead of campaign flyers, the general sentiment is forward looking."

9. IRANIAN PARLIAMENTARIANS CRITICIZE PRESIDENT'S RELUCTANCE TO IMMEDIATELY HONOR LOTR'S INSTRUCTIONS, SOME CALL FOR VOTE OF CONFIDENCE

Press TV reports that more than 200 members of Iran's parliament, the Majlis, have called upon President Ahmadinejad to "fully and promptly comply with the Leader's instructions."

"[T]he president's reluctance to reverse the decision [to appoint his son in law first Vice President] was called into question even by his own ministers. As a sign of protest, three of the ministers--Intelligence Minister Gholam-Hossein Mohseni-Ejei, Culture and Islamic Guidance Minister Mohammad-Hassan Saffar-Harandi and Labor Minister Mohammad Jahromi--walked out of a Cabinet meeting on Thursday.

Although news broke out that the Ahmadinejad administration had sacked the ministers, the government moved to clarify the issue after a senior member of parliament suggested that the administration had lost its legitimacy with the measure as it had removed too many Cabinet members during the first Ahmadinejad tenure.

Only the intelligence minister has been removed, said an official working for the presidential office.

The dismissal has intensified pressures on Ahmadinejad by parliament members who contend that the ninth government is obliged to seek a new vote of confidence in its remaining 7 days in office.

According to parliament Vice Speaker Mohammad-Reza Bahonar, all Cabinet sessions of the current government are 'illegal' until the official second-term inauguration of the president."

Article 136 of the Constitution requires the President to call for a vote of confidence at the Majlis is half or more of his cabinet is replaced.

10. KUWAIT, QATAR, BAHRAIN LINK ELECTRICITY GRIDS

Miriam Amie at Platts writes that KUNA reported today that Sunday Kuwait, Qatar, and Bahrain successfully linked their electrical power grid networks.

"Over a decade ago, the six GCC states agreed at a summit to set up the power grid to cope with the regions rapidly increasing electricity consumption. Draws on electrical power stations throughout the GCC increase dramatically during peak usage times in summer between April and September.

The estimated $1.4 billion electrical network is being initiated one year later than previously expected.

Earlier this month, five of the GCC states, except Oman, signed a power trading agreement setting terms between transmission system operators, and power procurement companies for the purpose of exchanging or trading electrical power."

11. DECOUPLING WAS ALWAYS A MYTH, ARGUES WÄLTI

Sébastien Wälti at VoxEU argues that the notion that the developing economies were decoupling from the developed economies was always a myth, and that the process of globalization leads, intuitively even, to greater business cycle synchronization.

"Figure 2 shows that the degree of business cycle synchronicity between emerging markets and advanced economies has not decreased in recent years. The evidence on individual emerging markets shows that there is no country (except for Peru) which reports a general decline in its degree of synchronicity with all four groups of advanced economies."

12. IEA OIL DEMAND FORECAST AHISTORICAL RELATIONSHIP TO GDP PREDICTION

Mark Shenk at Bloomberg notes that the most recent IEA forecast of a 1.7% increase in oil consumption in 2010 does not fit the historical relationship between GDP growth as forecast by the IMF and oil consumption.

"[T]he IEA’s projections for oil demand growth will trail the World Bank’s forecast for GDP growth by 0.8 percentage points, the least in 14 years. Since 1997, oil use has followed GDP by an average of more than 2 percentage points and in 2006 the spread widened to 3.9 percentage points."

"'There’s been a remarkable correlation between GDP and oil demand growth,' said Edward Morse, head of economic research at LCM Commodities LLC in New York. 'The IEA numbers are implausible.'"

(h/t Joshua Keating at the FP Morning Brief.)

13. NEW SINGLE FAMILY HOME SALES DOWN 21.3% (±11.4%) FROM JUNE 2008

Barry Ritholtz at the Big Picture reports that US Census Bureau and Department of Housing and Urban Development announced today that sales of new one-family homes were up 11.0% (±13.2%) in June from May, which is statistically insignificant. They are down 21.3% (±11.4%) from June 2008, which is statistically significant.

14. 80% OF DERIVATIVE ASSETS AND LIABILITIES HELD BY 5 FIRMS (ENERGY FIRMS USING DERIVATIVES MOSTLY FOR HEDGING) PER FITCH REPORT

In a story picked up on in the econoblogosphere over the weekend, David M Katz at CFO.com wrote on July 24 that a Fitch Ratings report released a week prior to his story indicated that about 80% of derivative assets and liabilities are held by five firms--JP Morgan Chase, Bank of America, Goldman Sachs, Citigroup, and Morgan Stanley.

"Those five banks also account for more than 96% of the companies' exposure to credit derivatives.

About 52% of the companies reviewed disclosed there were credit-risk-related contingent features in their derivative positions. Such features require a company to post collateral or settle outstanding derivative liabilities if there's a downgrade of the company's credit rating.

The Fitch analysts also found that just 22 companies disclosed the use of equity derivatives. Just six nonfinancial firms--IBM, General Motors, Verizon, Comcast, Textron, and PG&E--reported exposure to share-based derivatives.

For the report, the rating agency reviewed first-quarter 2009 filings of the companies, which come from a range of industries and represent almost $6.4 trillion in aggregate outstanding debt. The companies also recorded a total notional amount of derivative positions of more than $296 trillion.

Unlike the financial firms, which both use derivatives and issue them for profit, nonfinancial companies seem mostly to use derivatives just to hedge specific risks, according to Fitch. While 'derivatives trading by utilities and energy companies appear to be very limited,' for instance, 'most of the companies reviewed in both industries report the use of derivatives for hedging commodity risks,' the report found."

It is rather hard to disaggregate hedging from speculative use of derivatives by major energy firms, I would be rather interested to see the methodology for that in this report.

Daily Sources 1/28

1. Clifford J. Levy at the New York Times reports that a story carried by the Interfax news agency in Russia has sparked speculation that the Kremlin will scrap plans to place new nuclear armed missiles near the Polish border in a response to the initially more friendly approach toward Moscow by the Obama administration. Calls to the ministry of defense yielded no one who would confirm or comment on the speculation. However, ITAR-TASS published the remarks of an unnamed official as saying the news that Russia was pulling back from its new missile plans was nonsense. "Asked about the Interfax report, NATO said through a spokesman that if confirmed, 'It would be a positive step.'" Meanwhile, the Associated Press reports that Cuba's Raul Castro arrived in Moscow today for an eight day visit. (Typically a leader going on an overseas trip for a relatively long period of time--as in more than a few days--is a sign that he is extremely comfortable with their political position at home.)

2. Jane Morecroft at Platts reports the European Commission is expected to announce on Wednesday new plans to invest €3.5 (~$4.6) billion in European Union energy infrastructure over the course of 2009. The monies will be a part of the European Recovery Plan. Meanwhile, Nadia Rodova at Platts reports that Gazprom is considering expanding the planned capacity for the potential South Stream natural gas pipeline from 31 billion cubic meters/year (bcm/y) to 47 bcm/y.



The South stream pipeline plan is being developed in cooperation with ENI.

3. Marcus Hand at Lloyd's List reports that Neptune Orient Lines announced that from he period November 15-December 26 it saw a 24% drop in box container cargo volumes. It is a somewhat unusual time period to report on, but appears to be another confirmation of a general collapse in global trade. The Baltic Dry Index continues to show some sign of recovery, though there wasn't much room left to fall.



Meanwhile, Pete Harrison at Reuters reports that the EU will call for airline and shipping emissions regulations to be included in any successor treaty to Kyoto.

4. Yves Smith at Naked Capitalism reports that the Institute for International Finance has made the first forecast by an official international finance organization of a global economic contraction in 2009. The IIF's forecast now has the global economy contracting by 1.1% this year. Christopher Swann at Bloomberg reports that the IMF has revised downward its prediction for the global economy this year to 0.5% from 2.2% in a new publication.

"The reports signal that write downs and losses at banks totaling $1.1 trillion so far are only half of what’s to come and that contractions may deepen. Losses on that scale would leave banks needing at least $500 billion in fresh capital to restore confidence in their balance sheets ... ."

As Smith noted, official wisdom usually lags market indicators, and this is grim news.

5. Brad Setser at Follow the Money makes the point that large additional demand for sovereign debt and agencies brought on by growing receipts from export-led growth depressed yields on those instruments, thus pushing money looking for safe returns traditionally provided by sovereign debt and agencies elsewhere. Interesting read.

6. Jeff Stein at Spy Talk reports that the EU took the Mujahedin-e Khalq off its list of terrorist organizations on Monday. Having been taken off this list, assets previously frozen in Europe will become available again. This will prove a windfall to the organization, which is a darling of neocons in the US and was a pawn of Saddam Hussein in his struggle with the Islamic Republic of Iran.

7. Asif Ali Zardari, the President of Pakistan, has an opinion piece in the Washington Post where he congratulates Barrack Obama on his election and urges closer cooperation between Islamabad and DC. Zadari, known as Mr. 5% to his countrymen, urges the Administration to

"encourage Congress to pass the Enhanced Partnership with Pakistan Act. The multiyear, $1.5 billion annual commitment to social progress here would signal to our people that this is no longer a relationship of political convenience but, rather, of shared values and goals ...."

Pakistan is facing serious budgetary difficulties, and thus the call for aid is warranted, though Mr. Zadari is probably not the best messenger. He goes on to urge the Administration to focus on assisting the resolution of long-standing disputes with India:

"Much as the Palestinian issue remains the core obstacle to peace in the Middle East, the question of Kashmir must be addressed in some meaningful way to bring stability to this region. We hope that the special envoy will work with India and Pakistan not only to bring a just and reasonable resolution to the issues of Kashmir and Jammu but also to address critical economic and environmental concerns.

The water crisis in Pakistan is directly linked to relations with India. Resolution could prevent an environmental catastrophe in South Asia, but failure to do so could fuel the fires of discontent that lead to extremism and terrorism. We applaud the president's desire to engage our nation and India to defuse the tensions between us."

Zadari concludes with:

"Pakistan and the United States have much in common and should be partners in peace. This moment of crisis is an opportunity to recast our relationship. We are extending our hand in friendship."

Well worth reading.

8. Nazila Fathi and Aalan Cowell at the New York Times report that President Ahmadinejad urged President Obama to apologize to Iran for 60 years of its behavior toward Iran. The Iranian president suggested that the Administration's change could be a change in tactics as opposed to strategic ends, or even just a change in tone.

"'Change means that they should apologize to the Iranian nation and try to make up for their dark background and the crimes they have committed against the Iranian nation,' he said in the speech broadcast live on Iranian television.

The catalog of crimes, Mr. Ahmadinejad said, stretched back decades, beginning with American support for the 1953 coup that ousted the democratically elected government of Mohammed Mossadegh and installed Shah Mohammed Reza Pahlavi, who ruled until he was ousted in the 1979 Islamic revolution."

9. Emmanuel at International Political Economy Zone reports that the US has prevailed in suits in the WTO alleging intellectual property violations by China.

"# China backed down and agreed to a settlement before a case concerning export rebates given to exporters was formally investigated;
# China lost its appeal in the case concerning discrimination against foreign auto parts manufacturers;
# Now, reports suggest the US has chalked up another one against China regarding intellectual property violations. From the US Trade Representative's site -"

This has led to expressions of regret by Beijing. Worth reading.

10. Norimitsu Onishi and Mark McDonald at the New York Times report that Yasukazu Hamada, Japan's minister of defense, announced today that it would send ships to conduct anti-piracy operations off the Somalian littoral.

"'The pirates in the Gulf of Aden off the coast of Somalia pose threats to Japan and the international community and are an issue that should be dealt with swiftly,' Mr. Hamada said, according to Kyodo News. The deployment, which would be considered a police action, is not expected to be as politically sensitive as other missions in recent years."

However, a new law will still need to be passed in order to allow the ships to leave on the mission. It also was not clear from his remarks whether the Japanese ships would coordinate with the international flotilla already in the region on the same mission, though it seem awfully likely. On January 8, Lloyd's List reported that the Aso administration was considering changes to the Japanese Constitution in order to allow action against the Somali pirates. (see Daily Sources 1/8 #14.)

11. Fabiola Moura and Karla Palomo at Bloomberg report that Petrobras Chief Executive Officer Jose Sergio Gabrielli told journalists that the company would put off issuing new debt to finance its production and exploration plans, as the cost of borrowing on the international markets is too expensive. "'The market conditions nowadays in the secondary market for Petrobras are too expensive,' Gabrielli said. 'We don’t need more funds. We can wait as much as we need.'" Bloomberg posted a video of their interview of the CEO in Spanish--not Portuguese--here.

12. Michelle Boorstein at the Washington Post reports that the Pope made his first comments this morning regarding the controversy sparked by his decision to revoke the excommunication of a renegade order of Catholics, one of whom is a holocaust denier. In his remarks, he reiterated "'full and indisputable' solidarity with Jews and repudiating the idea of denying the Holocaust." He also said the Holocaust should "prompt humanity to reflect on the unpredictable power of evil when it conquers the hearts of men." Boorstein provides a fair summary of the controversy and its ideological background.

13. Sophia Kishkovsky at the New York Times reports that the Russian Orthodox Church has elected a new Patriarch, Metropolitan Kirill of Smolensk and Kaliningrad--who had also acted as interim Patriarch when Aleksy II died last month. Kirill was in charge of international affairs under Aleksy II, and has received some criticism for his ties to the Roman Catholic Church.

"As chairman of the external relations department, he oversaw the drafting of the 'social concept' of the Russian Orthodox Church, presented in 2000. It addresses church positions on social issues, including abortion, globalization and poverty. One of its most cited points allows for civil disobedience if the government violates Christian commandments."

Historically, the Russian Orthodox Church has been fairly establishmentarian, the legitimization of civil disobedience is a fairly significant move in a new direction for the church, if I understand correctly.

14. Justin Lahart at Real Time Economics reports that the conventional wisdom is that it is "all but assured" that the Fed will cut the federal funds rate to 0-0.25% in the FOMC meeting today. In a related post, Phil Izzo, also of Real Time Economics points out that since 2000 money supply growth has been negatively correlated to other economic indicators:



(Chart courtesy of the Wall Street Journal.)

15. Richard Cowan at Reuters reports that the US House of Representatives looks likely to pass President Obama's $825 billion stimulus plan today.

16. The EIA reported today that crude oil stocks for the week ended January 23 built by a whopping 6.2 million barrels to 338.9 million barrels. The amount in storage is getting close to the largest commercial stock holdings on record since 1998, which was 352.6 million barrels in July 2006. (1998 was the last time there was a super contango similar to the current strip.) That said, the historical data suggest that there should still be some storage capacity available. (And reportedly some crude is being offloaded from VLCCs which were chartered for storage purposes.)



According to a survey by Bloomberg, most analysts on Wall Street had expected a 2.8 million barrel build in crude stocks, a large build, but half of what in fact took place. Gasoline stocks fell by 100 kb, remain at the top of the historical range, and against analyst expectations of a 1.75 million barrel build. Distillate stocks also fell by 1 million barrels, but remain at the highest levels seen in recent history and well above the average. The draw down was consistent with analysts expectations of a 1.13 million barrel draw. Taken in isolation, this news should put downward pressure on the price of crude. However, at the time of this writing, the price of sweet light crude on NYMEX hasn't budget much from yesterday's close.

Meanwhile, Maher Chmaytelli reports that Abdalla el-Badri, the Secretary General of OPEC, is seeking rules to limit the number of participants in the US markets who purchase crude without any intention of using it--or "speculators.""'The speculators are still there,' el-Badri told reporters today as he arrived in Davos, Switzerland, where he is attending this week’s World Economic Forum. 'Before, they were playing a supply shortage, now they are playing too much supply. They are delaying a recovery in prices.'" And Edward Morse, managing director and chief economist at LCM Commodities and founder of the Energy Intelligence group of publications, has a piece exploring the validity of WTI as a benchmark for global sweet light crude prices at the Financial Times.

"The problem resides in the physical market of the mid-continent of the US, specifically at Cushing, Oklahoma, an obscure but crucial oil gathering hub and the pricing point for financially traded WTI on the Nymex. Often viewed as the global crude oil reference point, Cushing is really a regional, parochial crude market tenuously linked to international markets by bottlenecked pipelines from the Gulf coast. Cushing pulls oil from the Gulf coast, Canada or the mid-continent but, unless regional refiners process WTI, it becomes landlocked and decouples from global markets. As inventories build, WTI's price must fall until it sells, even if that means trucking oil south.

This physical situation is not new but the problem has worsened as Canada's tar sands production has grown nearly 500,000 b/d since 2002 and should rise another 200,000 b/d this year, most of it headed towards mid-continent, where refining capacity has fallen by 200,000 b/d. A new pipeline will soon increase flows into the region by another 100,000 b/d. WTI will continue to disconnect from world markets until new pipeline connections create a physical escape valve for oil to flow from the mid-continent to the Gulf coast.

Some believe the problem stems from market manipulation but it is the twin facts of higher storage capacity in the mid-continent and the bottleneck that provide a temptation for companies to trade around the storage, building it in weak markets and emptying it in strong markets. Weak markets discount spot sold oil to deferred oil, further encouraging storage and weakening WTI's spot price; the reverse happens when spot prices are at a premium to deferred prices, depleting storage rapidly.

Although what's happening to prices might suggest that some traders are manipulating the market, the more compelling explanation is that, because a peculiar inland market sets WTI's price, the incentive emerges to trade the WTI below its "waterborne" level in weak markets and above it in tight markets."

These are all fair points, but, in practice, as I understand it, the majority of term crude contracts actually use dated Brent or BWAVE as the reference price, not CL/WTI.

Daily Sources 12/8

1. Max Boot, in the Wall Street Journal, echoes Robert Kaplan's recent call in the Washington Post for placing regions that certain states are having a difficult time governing into international receivership. Boot asks, "The question is: What if anything can outside powers do to bring the rule of law to these troubled lands?" He says not much, although he points, with approbation, to the example of 19th century imperialism. I would point out that much of the problem is that US policy has been to support those who will execute policies that we believe is in our interests, even if to do so the supported actors will violate domestic law and custom. In the case of Pakistan, for example, the US is arguably harvesting the fruit of supporting a dictator--Musharraf--who's response to judiciary challenges to his rule was simply to disband the judiciary. In Somalia, the US found the Islamic Courts Union unpalatable because we felt they were the ideological fellow-travelers of al-Qaeda and the Taleban, and so the US supported an external attempt to assert sovereignty in Somalia by force--which was unsurprisingly regarded as illegitimate by the local population. The problem--if one of three Islamist groups gain control in Somalia soon after the Ethiopian withdrawal as seems likely--is that some expect the Islamists groups to support ideological international terrorism, not that the groups in control would be likely to flout rule of law. Indeed, they would be the first to have imposed it in two years or so.

Perhaps it is time to explore pursuing a policy which supports--either actively or via polite indifference--governments which seek to create rules-based societies, even if some of those rules are distasteful to us. Boot says the best alternative to Kagan's suggestion is ranged attacks via warship or plane. Note well the implication that we have no choice but to wage war (aka politics by other means.) Perhaps it is time to support political solutions to these situations instead. Why not seek out the reasons why elements in any given society which are supported by us cannot rule by law? Once we have done that, it might become plain who can and who thus ought to be made aware of our interests, instead.

2. Rama Lakshmi at the Washington Post reports that the Congress Party won control of three states in local elections. Observers were surprised that the BJP did not do better given their critique of Congress as being lackadaisical in their response to terrorism. I thought so as well, but in retrospect should have realized that an attack on a democratic country almost always at first has the result of increasing the support for the ruling party.

3. Fareed Zakaria at Newsweek has a reasonable op ed pointing out that India's response to the Mumbai attacks has been very restrained, but that that restraint will likely need rewarding if it is to continue. Zakaria argues that Pakistani neighbors China, India, and Afghanistan all are increasingly alarmed by Islamic extremism. He should probably also mention Iran, the other neighbor, which is also concerned about that type of Islamic extremism, given that it is Sunni, and Iran is Shi'a. Zakaria says that the US has a lot of clout in the Pakistani military, which is the center of power that needs to be influenced in this context--and that so does Beijing and Riyadh. These countries are all part of the "Friends of Pakistan" group and so it's a more or less common sense recommendation. Still, I think a lot could be done to encourage the President to reinstate the Chief Justice of the Supreme Court--Zardari is uncomfortable with the idea because Justice Chaudhry ruled in cases where the President was prosecuted for corruption. And perhaps international diplomatic corps would do well to try and switch the gravity of power from the military to elected officials by spending most of their time negotiating with the latter rather than the former.

4. James Fontanella-Khan at the Financial Times reports that India added $4 billion to the nearly $60 billion in stimulus measures on Sunday. New Delhi's additional spending will be geared to supporting the export, real estate and infrastructure sectors.

5. Alex Nicholson and Emma O’Brien at Bloomberg report that Standard & Poor's reduced the rating of Russia's long term debt to BBB from BBB+.

"'The massive accumulation of reserves is the main reason why Russia kept getting ratings increases, so without that it’s only natural that the rating would go down,' said Vladimir Osakovsky, an economist in Moscow for UniCredit SpA. 'This will worsen the already-poor sentiment toward Russia.'"

6. Nadia Rodova at Platts reports that Vitaly Bushuyev, the General Director of Russian Energy Ministry's Institute of Energy Strategy, told an industry conference that the country's crude oil production was likely to peak at about 535 million mt/year (10.7 million barrel/day) by 2020, after which it will begin to decline. These numbers comprise the basic scenario for Moscow's draft energy strategy to 2030. The ministry will submit the draft for approval to the government by the end of the year. The basic scenario shows natural gas production growing to "701 bcm/year in 2010, 800 bcm/year in 2015, 880 bcm/year in 2020, 910 bcm/year in 2025, and 935 Bcm/year in 2030." The article makes no mention of low or high-case scenarios employed by the ministry.

7. Robert Tuttle at Bloomberg reports that Saudi Arabia's oil minister, Ali al-Naimi, told 60 minutes yesterday that the country had the potential to increase its reserved by 77%. He said, "The truth is here is the kingdom with more than 260 billion barrels. And I firmly believe that the potential to add another 200 billion barrels of oil are there to be found." Of course, Riyadh just changes these numbers at whim, more or less, there has never been any independent confirmation of its reserves claims and all calls for them have been resisted.

8. Maher Chmaytelli at Bloomberg reports that Shokri Ghanem, Libya's OPEC governor and head of the Libya’s National Oil Corp, told her in a telephone interview that "Everyone at OPEC agrees that the market needs support, I think that our action should be substantial."

9. Liam Denning at the Wall Street Journal argues that the budget requirements of the OPEC states will drive Saudi Arabia to go for market share as opposed to production allocation cuts. He argues that the budget requirement of Saudi Arabia is $38/b--as per the 2008 budget, which doesn't make much sense as we're nearly in 2009. (PFC Energy estimated a little more than $50/b as the budget requirement for 2009.) Either way, the argument goes that a 2 million barrel production cut--half of which would be provided by Riyadh--will open up, even with higher prices, a budget deficit. The bonuses, per Denning, of going for market share instead, would be to keep China using oil and to take market share from Iran and Russia. We saw this argument before, you might remember, in the Economist, which argued that the price of oil was going to go down to $5/b on a market share grab by Riyadh. But I cannot see why it would be in the interests of Saudi Arabia to destabilize its neighbor to the north--which is locked in a war of wills with the West over nuclear power--nor to needlessly alienate Russia, which was just recently asked to join OPEC. Calculated Risk talks of how OPEC nations have been reducing supply in 2008 as a way of investing in oil revenues. Because oil revenues are now below budget requirements, it also argues that production will increase. Maybe, but all the data shows that oil production went up in 2008--in part due to intense pressure from DC on Riyadh--not down. I think that these folks are suffering from a case of wishful thinking, and you are almost certain to see a large production allocation cut on December 17. This is especially the case given that stocks are high and once they are full, the contango being driven by the credit crunch will only deepen until supply falls below the rate of consumption.

10. Robert Tuttle and Alexander Kwiatkowski at Bloomberg give a fairly decent summary of the giant contango of 2008 story we've been watching for some time now.

11. Eurointelligence reports that Gordon Brown, Nicholas Sarkozy, and Jose Manuel Barroso have reacted to Chancellor Angela Merkel's constant refusal to consider pan-European responses to the financial crisis by holding a summit in London this week without her in order to consider strategy in the weekend EU summit.

12. Richard Milne and Anousha Sakoui at the Financial Times report that Allianz forecasts that a record number of companies will go bankrupt next year in Europe and the United States. The German insurer expects there to be 200,000 corporate bankruptcies in Europe next year, up from 149,000 in 2008, and 62,000 in the US, up from 42,00 this year.

13. Norma Cohen at the Financial Times reports that the UK Office of National Statistics show that producer prices fell by 0.7% in October and November.

14. Sudeep Reddy at Real Time Economics reports that the Conference Board expects job losses--which it estimates are at 1.9 million through November--to exceed 3 million by the middle of 2009.

15. Justin Fox at the Curious Capitalist determines that we have not seen stock index volatility like this since the Great Depression:



Brad Setser also concludes that the "Great Moderation," or the period since the mid-1980s where growth has been fairly constant and volatility low, is over. And high volatility makes leverage much less attractive because it is much more risky. Which suggests to me that the volatility by itself will reduce the amount of capital available to invest, which in turn increases volatility, because the fewer participants in the market there are, the more volatility, which in turn will reduce the amount of capital available to invest, and so on.

16. Alison Vekshin at Bloomberg reports that nearly 53% of the mortgages that were voluntarily modified in the first quarter of 2008 were delinquent within 60 days of the modification. The data does not demonstrate why.

Daily Sources 12/5

1. Michelle Ho at Platts reports that Zhang Xiaoqiang, deputy director of the National Development and Reform Commision, said at the China-US Strategic Economic Dialogue in Beijing on Thursday that January 1st would be a good time to introduce a consumption tax on gasoline and diesel. The measure would cut the benchmark prices for domestic petroleum products by about 30% and add a 30%-50% consumption tax.

"Many analysts say the recent decline in crude oil prices presents an opportunity for Beijing to levy the tax as a step toward letting the market
eventually set prices, as consumers will be more amenable to change when oil prices are low."

Fair enough, but another likely consequence would be to put an upper band on consumption generally, as the tax would prevent lower oil products costs from giving the economy a de facto stimulus. John Kemp at Reuters argues--in an analysis worth reading in full--that the move would likely drive Riyadh to try and stabilize prices at a lower range than some in OPEC would like. He suggests that that number is $75/b, the number mooted by King Abdullah last week in the Kuwaiti press. I think, however, that most members of OPEC would be very comfortable with $75/b. Riyadh might be more interested in destroying the economics of alternatives, at this stage, in effect taking out the competition--and $50/b may be what their budget requires in 2009. In a related story, Reuters reports that Riyadh has lifted the prices of its crudes to Asian buyers. The Strategic Economic Dialogue ended today and it looks as if little was decided. Li Yanping and Rebecca Christie at Bloomberg report that the US and China pledged $20 billion to fund trade via import-export banks and to deepen financial ties. The US encouraged China to have its sovereign wealth funds invest here.

2. Justin Stares at Lloyd's List reports that there is growing frustration in the shipping industry with the rising level of contract defaults. Traders are defaulting on futures in which they bet on, instead of hedged against, higher shipping rates. They are claiming that the financial crisis is force majeure. Worth reading in full.

3. Douglas R. Burgess Jr. has an op ed at the New York Times which suggests that, for the purpose of clarifying jurisdiction and rules of engagement over and on pirates, the international community should explicitly make piracy by definition terrorism. He suggests this could be done by giving the International Criminal Court jurisdiction over piracy and terrorism cases. This would also allow states that do not want to burden their domestic courts with international piracy cases to deliver suspects over to the Hague. So far, an interesting proposition, but Burgess also writes

"Recent evidence also indicates that the Somali pirates hand over a part of their millions in ransom money to Al Shabaab, the Somali rebel group that has been linked to Al Qaeda."

Perhaps there is some evidence of this. But there is much more evidence that the Islamic groups in Somalia will put an end to the practice of piracy, which, I suppose, may mean that they advocate one form of terrorism, but not another, though I am even leery of concluding that.

When the Islamic Union of Courts (IUC) grabbed control of Somalia in 2005, they eradicated the practice altogether. The fact that a political movement would include in its name the notion of justice, as in justice meted out by jurists in courts, is an important clue to what their appeal in Somalia--and, in fact, the world--really is. Al-Shabaab translates as "the Youth", but their political platform is not all that different from the IUC insofar as the issue of law and order is concerned, even though they are locked in battle for supremacy in Somalia. For example, on November 21st, al-Shabaab stormed the port of Haradheere in pursuit of the pirates which had hijacked the Sirius Star ... they regarded the seizure especially anathema given that the ships owners were co-religionists. (Daily Sources 11/21 #5)

4. Nidaa Bakhsh at Bloomberg reports that the Paris-based International Energy Agency cut its demand forecast for 2009 again by 170 kb/d to 86.37 mb/d. It also cut its forecast for 2008 demand by another 40 kb/d.

5. Yaakov Katz at the Jerusalem Post reports that the Israeli Defense Force is drawing up options for an attack on Iranian nuclear facilities without US cooperation. A somewhat alarmist title. It makes sense for any armed forces to plan for a wide variety of potential actions, the great majority of which never happen. Still, the drums are still beating for war on Iran, if somewhat more softly these days. I still don't think it's going to happen, nor do I think that Israel is going to attack Iran on their own. Certainly not while the US is still in the Iraqi theater.

6. Clifford J. Levy at the New York Times reports that Aleksy II, the Patriarch of the Russian Orthodox Church, died today in Moscow.

7. Emma O’Brien at Bloomberg reports that Bank Rossi weakened its defense of the ruble enough so that it fell 1% against the bank's target basket of dollars and euros. The bank has widened the trading band by 1% four times since November 11, but it is not clear from the article whether the new relaxation is official policy.

"Bank Rossii sold $2 billion to support the ruble yesterday, taking sales this week to as much as $11.5 billion, according to estimates by Moscow-based MDM Bank. That compares with about $4.4 billion sold last week and $7 billion the week before, MDM said."

8. Marcelo Teixeira at Reuters reports that Petrobras Chief Executive Jose Sergio Gabrielli dismissed concerns that the development of sub-salt reserves were uneconomic with oil below $50/b. The company expects production costs to fall along with everything else in the economic downturn.

9. Tara Patel at Bloomberg reports that a strike by workers at the Fos and Lavera oil terminals at the port of Marseilles has delayed the unloading of cargo and left 35 oil tankers idle off the southern coast of France.

"Vessels stranded by the labor disruption at the Marseille oil terminals include six oil tankers and 16 vessels carrying refined products, [port spokeswoman Claire] Battedou said. The terminals make up Europe’s second-largest oil-import hub."

10. Edward Cody at the New York Times reports that France announced a $33 billion economic stimulus plan yesterday "including cash payments to the poor, a bigger rebate on new-car purchases and a speedup in high-cost public works projects."

11. Helene Cooper reports that foreign policy aides to President-elect Obama is considering making a major foreign-policy speech in a Muslim capital within the first 100 days of taking office. She speculates it would be Cairo.

12. Henry Kissinger has an opinion piece in the Washington Post praising President-elect Obama's foreign policy cabinet selections which provides some helpful advice. "[T]he new national security team encourages the hope that America is moving beyond its divisions to its opportunities." Worth reading in full.

13. Kelly Evans at Real Time Economics reports that the Labor Department data released today shows that unemployment rose to 6.7% in November. The US lost 533,000 jobs last month. Evans also points to the U-6, which adds to the standard unemployment figure "all marginally attached workers, plus total employed part time for economic reasons… plus all marginally attached workers." That number is 12.5%, up from 11.8% in October and 8.4% in November 2007.

14. In even more frustrating news, Science Daily reports that young people between the ages of 11 and 18 just think cars are cool and really just want to drive them, as opposed to public transit, etc.