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Greenflation: Lowest Income Groups Hit The Hardest By European Energy Crisis

Starting from September onwards energy analysts warned for potential energy shortages due to lower than expected generation of energy by windmill parks at sea. Especially the United Kingdom, Denmark and Spain were forced to ramp-up coal and gas-fired electricity plants were called in to make up the shortfall from wind. This has caused prices for coal and gas to rise to extreme highs in recent months as the shortage lasted and widened. However, due to the sudden need to generate energy using fossil fuels the prices for carbon allowances went through the roof as well causing even higher energy prices. Operating costs for power plants have gone up tremendously to unseen levels in decades. Even though this is exactly the function of the EU emission cap-and-trade system, this has further increased prices in the already hot energy markets.

Figure 1 – Energy Prices in the UK remain elevated

Governments Should Incorporate Energy Reliability In Their Green Strategy

Many governments in Europe have decided to limit the burden on households by covering part of the costs. This is the first time where the necessary push for green energy has caused side-effects burdening individuals and governments with rising bills. The end is not in sight, but governments should be aware of the necessity to provide stable and reliable energy systems in its green transition strategy. In this way, lowest income groups who spend most of their income will get squeezed out. Consumer authorities expects that energy prices for households will rise over 50 percent on average this year, an unmanageable rise in cost for lowest income groups.

Lowest Income Groups Are Hit The Hardest From Current Inflation

In the United States the price of food rose by 6.1 percent compared to a year ago, while the average energy price jumped by 33.3 percent in November. These price increases do not affect all households in the same way because the consumption baskets of high-income and low-income households differ. Because of variation in the composition of consumption bundles, a Wharton University study finds that higher-income households had smaller percentage increases in their total expenditure. This is because higher-income households spent relatively more on services, which experienced the smallest price increases. On the other hand, lower-income households spent relatively more on energy whose prices had large increases.

The same is the case in Europe where energy prices are elevated as well and will trickle down into food prices as manufacturers face rising costs and will try to use this correction to also improve their own profit margins. Therefore, even though energy prices have been dropping due to the increased energy supply from Russia and other parts of the world and the still relatively soft winter, the damage is already done and will most likely become visible in supermarkets as well in 2022. Analysts expect inflation to come down as government expenditures relating to corona have come down, while central banks have been hinting towards several interest rate hikes and tapering efforts to soften the current inflationary pressure.

Eurozone inflation hits new record as energy and food ...
Figure 2 – Inflation in the Eurozone on a record high

It is hard to assess and quantify which income group is hurt the most by rising inflation. However, a fact is that stock markets have seen double digit percentage increases, partly due to excessive quantitative easing programs by central banks. The highest income group benefits the most from rising stock markets as they simply have the most disposable income. That is the same reason why poorer people feel a much heftier burden of rising inflation even if their purchasing power would be affected by the same percentage. People with the lowest income are the socioeconomic group that find it hardest to purchase a home, and real estate seems to be one of the best inflation hedges. On top of that, low income groups often have much lower savings that means that inflation surges will directly impact their consumption abilities.

The Worst Has Yet To Come

Within this topic the potential harsh side effects of rising interest rates and quantitative tapering remain out of the discussion, while these factors could mean that economic growth could drop significantly as well. While the aging of the baby-boom generation will put increased pressure on government finances that have to rely on a lower amount of workers for their tax income, a major problem that slowly will dampen the economic prosperity seen in the last decade.

Meanwhile also other commodities have seen major price spikes last year, like aluminium, copper and oil. All these assets face investment shortages, while gas and oil explorations have been going down due to lower investment in fossil fuels. The push for alternative energy sources has come at a cost of energy security which next to the surge of demand has pushed prices higher in almost all physical assets. It has to be seen whether more hawkish central bank attitudes will dampen these price surges or whether 2022 will see lasting inflation.

Bibliography

  1. https://www.catalyst-commercial.co.uk/works/dec-2021-energy-market-brief-2/
  2. https://budgetmodel.wharton.upenn.edu/issues/2021/12/15/consumption-under-inflation-costs
  3. https://www.ft.com/content/14d1e3f5-5131-4f0f-8e57-228810898b8f

ETF’s: Diversification Reduces Risk, But Kills Competition

Since big players like Vanguard and BlackRock introduced exchange traded funds (ETF’s), investors have been able to effectively reduce risk in their portfolios. However, this has created a market externality that comes at the cost of the overall economy and might dis-incentivize firms to compete with each other. ETF’s contribute to common ownership of companies, and their boards are effectively only serving the interest of their shareholders by trying to gain as much capital as possible for them, creating a distorted business model on the long run. As many ETF’s are industry and sector specific some competing firms will come under the watch of the same shareholders whose interest is not always in-line with what is best of the company. These companies will be less inclined to compete with each other if the opposing competitor has the same owner.

Silent Cartel-Forming Can Harm Consumers

If all companies across the industry will have the goal to serve the common owner, this can lead to silent cartel forming, where there is no need for specific agreements to offset anti-competitive behavioral practices. This can vary from limiting production and the raise of prices, but also more in-evident measures like reduced investment which leads to lower innovation. Where in mergers there are clear regulations in place to prevent the creation of monopolies, common ownership is harder to map, analyze and therefore harder to regulate. In many different countries new policies are set in place to improve transparency related to ownership. In the European Union the Ultimate Beneficial Owner (UBO) register has been adopted and impelemented to map all shareholders with over 25% ownership within a certain firm. Under the 5th Anti-Money Laundering Directive the register has been mandated to be open to the public.

Empirical Evidence Is Ambiguous

Koch et al. (2021) do not find a robust relation between common ownership and industry-wide price-levels, nor do they find evidence for industry profitability. However, their results could differ if tested for higher percentage levels of common ownership. Moreover, we know that there are anti-competitive effects from common ownership in the airline and banking industries (Azar et al., 2016; Azar et al., 2018). However, it is clear that common ownership has its effects on the market and therefore could be prone to regulation if competition authorities find more robust relationships. Three index fund manager effectively control the whole index market, Vanguard has 51%, BlackRock 21% and State Street Global 9%. The large jump below in 2010 is due to the acquisition of Barclays Global Investment by BlackRock in 2010. This shows that the rise of common ownership of large blocks of stock is to a large extent a consequence of the rise of index funds and of what Azar (2020) calls “the Big Three”.

Figure 1 – Common Shareholder Pairs S&P 500 (Azar, 2020)

The Common Ownership Trilemma

But it all comes down to the classic common ownership trilemma in which portfolio diversification, shareholder representation and competition are balanced. The most extreme scenario being a situation where all companies within a certain sector have to same common owner, that is when both shareholder representation (of the common owner) and portfolio diversification are maximized, but effectively create a monopoly in which there is no place for competition. There is a wide gap between some common ownership and monopoly-like destruction of competition, but the drawbacks of common ownership should be faced as it the whole of society benefits from healthy competition driving market dynamics leading to technological innovations and ultimately economic growth. Moreover, it could be argued that shareholders on the long run benefit more from competition and the resulting innovation as competition does not have to be a zero-sum game. When discounting for future profits, shareholders could actually be better off in a situation with high levels of competition, therefore competition authorities have every incentive to keep protecting healthy dynamics within the market.

In conclusion, it is good that regulators start implementing policies that map the common ownership. Tackling the potential negative sides of the drive for diversification in the financial sector will be much harder, as investors and thus large stakeholders in this debate have deep pockets which will potentially undermine the effectiveness of every policy set in place to reduce negative externalities involved with high levels of common ownership. For now it remains to be seen if governments are strong enough to withstand lobbyists.

Bibliography

  1. Koch, A., Panayides, M., & Thomas, S. (2021). Common ownership and competition in product markets. Journal of Financial Economics, 139(1), 109–137. https://doi.org/10.1016/j.jfineco.2020.07.007
  2. Azar, J., 2016. Portfolio diversification, market power, and the theory of the firm. Unpublished working paper. University of Navarra.
  3. Azar, J., Schmalz, M.C. and Tecu, I. (2018), Anticompetitive Effects of Common Ownership. The Journal of Finance, 73: 1513-1565
  4. Azar, J. (2020). The common ownership trilemma. University of Chicago Law Review, 87(2), 263-296.

Neo Performance Materials (TSE:NEO): Magnetics and Rare Earths Division Make This Stock Priceless

The Toronto-based Neo Performance Materials (TSE:NEO) can be considered a safe-bet for institutional investors looking to increase their footprint in the technology-boosted advanced materials market. With a variety of divisions on different markets Neo Performance Materials will only get a larger global footprint. Neo’s magnetic powders and magnets, specialty chemicals, metals, and alloys are critical to the performance of many everyday products and emerging technologies.

Important Magnets Need Neo’s Magnequench Division

Their magnetic material division Magnequench is the main revenue booster, together with price rises and a 35% increase in volume this division saw revenue rise with a whopping 68.5% in Q1 2021 YoY. Especially the electric vehicle market was responsible for the large increase in volume sold and squeezed revenues up for Neo Performance Materials. As the EV market is only expected to increase even more the coming years, while other technologies increasingly are dependent on its magnetic powders Neo has a bright future ahead. Also their Chemical & Oxides division saw a large increase in revenue boosted by increased prices for their rare earth products. The 62% revenue increase led to a tremendous 300% increase in operating income. Again the automotive market was mainly responsible for the vast increase of volume demanded (+21%), as prices for rare earth products and metals went through the roof in recent months.

Figure 1 – Neo’s revenue diversification

Demand For Rare Earth Metals Will Continue To Boost Neo’s Revenue

As Virgin Galactic (SPCE) completed their first ever aerospace test flight, space tourism is likely to catalyze as private sector companies increasing start reaching for the skies, Neo’s rare metals are essential for space endeavours. Moreover, as the aerospace sector is set to rebound from the COVID-19 inflicted drop in flights their small division focusing on rare metals is set to enjoy a major boost. With the right marketing and strong market integration Neo’s Rare Metals division will most likely benefit from the increasingly metal-hungry environmental technology sector as their rare metals are used in LEDs, batteries, solar panels and wind turbines. As Neo is set to produce Neodymium in its Silmet facility this year the new production stream will boost Neo’s geopolitical position too as the essential element is critical for modern day technologies. But as prices for Neodymium rose to recent highs in Q1 2021 this division will most likely benefit from higher revenue incomes too.

Figure 2 – Neodymium prices exploded in recent months as EV demand increased

Neo’s Collaboration With Energy Fuels Is Essential For The West

As Western nations have been worried about the Chinese dependence on rare earths, Neo Performance Materials (NEO) and Energy Fuels (UUUU) have been working in a technical collaboration to establish a monazite processing and RE Carbonate production capacity at Energy Fuels’ White Mesa Mill plant. Recently, Neo’s Silmet facility in Estonia has successfully processed trial quantities of Energy Fuels’ RE Carbonate which will ensure the supply of Neodymium for the European market and Neo’s magnet division in Thailand. When ramped up to commercial scale, this new rare earth supply chain is expected to constitute the first time in over twenty years that monazite ore from the U.S. will be used as a feedstock to manufacture separated rare earth materials outside of China. As both the United States and Europe acknowledge the importance of establishing rare earth supply chains outside of China, this major development makes Neo’s existence essential to Western economies.

Figure 3 – Neo’s rare earth metal facility in Sillamäe, Estonia

A Healthy Balance Now, Means Unlimited Growth In The Future

Neo Performance Materials is one of the only suppliers of advanced with a wide variety of clients and exposure to different markets. The globally operating company has a market cap of around 600 million CAD dollars, which is tremendously low for a dividend paying company in the advanced materials industry. As Neo has a vertically integrated global supply chain, it is set for some strong and healthy growth the coming years. However, as companies have been increasingly stockpiling their inventories, demand for Neo’s materials could drive lower the coming time. But as Neo’s products are essential to future supply chains, its share price at the moment is a steal for long term investors.

Together with Lynas Rare Earth Ltd this company is essential in facilitating the rise of increasingly electrified products for sustainable solutions. Their recent 79 million CAD stock offering will finance growth efforts for Neo Performance Materials in an effort to boost their connection to future supply chains. As the share price is slightly diluted and boosted by strong Q1 results on the short run some downturns can be expected before Neo explodes upwards. However, long term investors will find out that an investment in Neo Performance Materials will ensure healthy portfolio diversification from technological stocks that still have to prove to be profitable.

Disclaimer: The writer of this article holds Neo Performance Materials (TSE:NEO) stock, this article should not be interpreted as investment advice or anything like that.

Warlords In Afghanistan: Inverse Authority Of Power In A Fragile Nation

After the withdrawal of the Soviet Union the Afghan empire entered a new stage of uncertainty, the gap left behind led to a struggle for power. Different regions were subject to the authority of strongmen who sought to profit from the weakened stability of the state. This led to the fractionalization of the Afghan landscape, where several entities started to exert their dominance in certain regions as governmental control diminished. However, the primary battleground was centered in and around Kabul, as control over the capital city meant attaining symbolic authority and the legitimacy needed to accrue financial rewards (Dorronsoro, 2007). The Golden Investor will show in this article how warlords operate and why they are so successful in the fractured nation of Afghanistan.

The rise of warlords is a symptom of relatively lower institutional power. Warlords are often location rigid and therefore are the first in line when overall state governance breaks down. Their ability to provide and protect people is an essential part of their recurring resurgence over the past decades (Malejacq, 2019). Warlords act like chameleons under different regimes, their ability to capitalize on power changes is a vital part of their existence. These are the most basic reasons why warlords attain and hold local support over several periods of time. The longer this continuity lasts, the stronger their following and unconditional support when the common authority fails to keep control.

The lack of a strongman around the neighborhood of Kandahar gave the opportunity to the Taliban to prosper on the ongoing uncertainty and instability in the region. Their ideologic mantra helped their initial surge in Kandahar, however, over the course of the years the further surge towards the North of Afghanistan was largely attributable to their strong military force, with strong horizontal network of common schooling and military experience (Farrell, 2018).  Taliban fighters outperformed warlords in the strategic game of war-making with the financial and logistic support coming out of Pakistan. This eventually led to the fall of Kabul, where Massoud, leader of the Northern Alliance, had to flee to the capital. This surge of the Taliban could be defined as a fight towards legitimacy as common authority. Relatively successful warlords like Dostum and Massoud proved yet again their skills to surge and retreat at the right moment. Again, they rose back to power when their regions lacked leadership, but were competent enough to accept their defeat in time and hand over their control to the new unrecognized authority, the Taliban.

However, after the 9/11-attacks the warlords got an essential role in the Taliban sweep in 2001. Facilitated with financial and military support by the United States warlords like Dostum, Ismail Khan and Fahim thought to regain their territory. With the help of the strong superpower the warlords got control of the provinces, again providing security after the new power vacuum that was a result of the Taliban sweep. Warlords often abuse their power with predatory extraction, which works contra productive to the state-building process (Maley, 2002). Therefore, the warlords were quickly side-tracked by the United States in an effort to reinstate a centralized government. However, this ongoing rise-and-fall dynamics should not be seen as a weakness, rather as a characteristic of successful warlords.

Eventually, former warlords found a way to maneuver themselves in the new government, which resulted in a government with a large variety of actors, including former Taliban and warlords. Even though it was debated whether these actors wouldn’t undermine the function of the state, warlords had again found a way to fuel their ability to exert power. The high level of diversity in the government resulted in increasing suspicion when individuals within the government misused their function. The growing amount of corruption led to disappointment in a large part of the population (van Bijlert, 2009). More and more people did not feel represented by the central government anymore, which indirectly led to the increased insurgency of the Taliban. And yet again the warlords proved to hold a pivotal role in the smooth transition of authority back towards the Taliban.

The undermining role of warlords within the parliamentarian structure was one of the reasons for the failure of the created government. Warlords should be seen as human representations of a set of institutions. The low interconnection between different actors in the parliament, all with their own set of beliefs and interests was doomed to fail. However, this does not mean that warlords never function well. Their strength to assert power in an inverse conjunctural wave to common authorities (see Figure 1). In a country like Afghanistan where the strongest common authority changes entity over time, warlords function as a security net when the country lacks common governance by a common authority.

Figure 1 – Warlord control works inversely to common authority

Allowing warlords into the parliament caused the inverse waves of control to merge into one wave with great peaks and deep drops leading to more instability over time. This is exactly what happened in the post-2010 era where only after ten years of conflict there seem to be the first efforts towards creating one common authority.

To conclude, warlords do not always function as destructive monsters, their role as a security net in changes of power is a very vital one for a fragile country like Afghanistan. However, the international community is right when they assess that warlords benefit greatly from these changes in power as it reinstates their significance and legitimacy. The United States was right to side-track the warlords in their effort to create a strong government, but their inability to keep these strongmen out of parliamentary positions greatly overturned their progressive and ambitious plan.

Bibliography

Dorronsoro, G. (2007). Kabul at War (1992-1996) : State, Ethnicity and Social Classes. South Asia Multidisciplinary Academic Journal.

Farrell, T. (2018). Unbeatable: Social Resources, Military Adaptation, and the Afghan Taliban. Texas National Security Review, 1(3), 58–75.

Malejacq, R. (2019). Warlord Survival : The Delusion of State Building in Afghanistan. Cornell University Press.

Maley, W. (2002). The Afghanistan Wars.

van Bijlert, M. (2009). Doing Good or Doing Better : Development Policies in a Globalising World. Doing Good or Doing Better : Development Policies in a Globalising World, 157–173.

Governments Should Stop Supporting Non-Viable Companies

In France there is Renault, in the Netherlands there is KLM and the United States is known for subsidizing Boeing excessively. Many billions have been loaded into corporations to rescue them from a corona downfall. With the FED’s latest announcement to start buying individual corporate bonds instead of ETF’s, even central banks start to step deeper in the growing junk-rated investment environment that years of ultra-low interest rates have created.

A Rising Amount Of Zombie Companies Are Dependent On Low Interest Rates

In the chart below the rise in share of non-viable zombie companies is plotted. The left chart defines zombie companies as firms with an interest coverage ratio less than one for three consecutive years and over 10 years old. The right chart defines firms as zombies when they have a Tobin’s q below the median firm in the sector in a given year. The interest coverage ratio is the ratio of earnings before interest and taxation to interest paid. Tobin’s q is the sum of the market value of equity and liabilities divided by the sum of the book value of equity and debt. Both excellent measures to portray the following worrisome trend.

Figure 1 – Zombie Companies Are On The Rise And Survive Longer – Banerjee, R and B Hofmann (2018)

The right chart is somewhat lower because many investors tend to be overly optimistic about the future prospects of these kind of companies. There seems to be more to gain from these companies, while these companies are actually overvalued junk-rated companies and only survive due to the zombie-friendly low interest rate environment. This creates a huge incentive for central banks to start buying corporate bonds in order to rescue these obviously unsustainable companies, to prevent a possible zombie collapse. If they would not use their massive QE-measures these companies would go into default. But as the share of these companies is rising, the potential burden grows every time central banks extend this endless cycle of liquidity for these non-viable companies. The end is near, and corona may just have popped the bubble. As a second wave of corona cases initiated after the re-opening of the United States, this bubble might burst sooner than later.

Supporting Non-Viable Companies Harms Innovation And Creates Bad Debt In A Race To The Bottom

While many companies are becoming dependent of the zero interest rate, they tend to struggle more and more. An increasing amount of companies is issuing new debt in order to replace and finance old debt. These creates a race to the bottom where faulty and inefficient business models do not get stopped simply because interest rates are dropping. Without creative destruction of old-fashioned and unnecessary companies, there is no new ground and market place for new innovate and more efficient companies. Another thing that is keeping many non-viable zombie companies alive is the fact that they enjoy scale-advantages. No, not the classical economics scale advantages where higher production leads to lower average costs. No, these scale advantages more and more express themselves in too-big-too-fail scale advantages. Next to these low-interest rates, governments start a subsidizing spree to keep these companies alive. Both of these factors, governmental support and dropping interest rates along with unlimited quantitative easing, create a race to the bottom. Interest rates may not rise again soon and governments and central banks support the companies where interest rates can not drop further.

Governmental Subsidies Should Be Deployed With Stringency

There are several reasons why this is a bad trend, creative destruction is necessary for economies to continue evolving and innovating. Therefore, governments need to be really careful which sector to support and which companies to let go. Strangely, the U.S. government is still pouring billions every year into the oil industry, which seems rather counter-intuitive when also subsidizing companies like Tesla at the same time. The ultimate example is Boeing, the most subsidized company in U.S. history, this company has become the dirtiest kid in town where sloppy finance has resulted in sloppy engineering, with all the known consequences. However, the aerospace technology of Boeing is vital for agencies like NASA, Homeland Security and the U.S. Military, creating an inconvenient position for the U.S. government.

In Europa KLM and Renault are clear-cut equivalents of this trend, companies that both have been struggling to attain a large enough market share to be profitable. The Dutch and French government spent many billions on these companies that eventually will default anyway. The Golden Investor thinks it is a shame that tax payers end up paying for non-viable companies that eventually will break down anyway. The same billions can be used to rescue other more viable companies, to pay unemployment benefits and to subsidize companies that have higher chances of survival in the 21st century. Supporting these kind of companies creates a race to the bottom with other governments who all are supporting these kind of companies. In the end the weakest countries will lose this race, countries like Italy have already complained about this governmental behavior. They are restrained by the strict conditions of their support while other governments splash with money. Support does not work if it results in unfair competition between supported and non-supported companies.

The Golden Investor pledges for strict policies which have to restrain governments to blindly support every business out there. Governments could use this opportunity to steer businesses to more environmentally friendly business models. However, it is of great importance not to destroy productivity and innovation by unlimited and unrestrained support. The economic engine should not stop rolling, however governments need to stop turning the global economy from a Boeing F-15 into a Renault Twingo, because in that case the economy is not going to fly away after corona.

Bibliography

  1. Banerjee, R and B Hofmann (2018): “Corporate zombies: life cycle and anatomy”, Bank for International Settlements, mimeo.

Why The Euro Is Not Likely To Last

The 21st century has brought many groundbreaking developments, as we became increasingly dependent of the internet, the euro got adopted by a majority of European countries. This has had several positive effects, like less exchange rate risk and inflation risk, but the euro is increasingly becoming a liability rather than a uniting link between countries. The euro is product of European enthusiasts, but as the world experiences a rise in globalization this European monetary integration is becoming more and more under pressure due to several societal aspects which have to change in order for the euro to last. The euro can only function well in a fully unified Europe, but as European support drops in almost all European nations, this currency will go through some though times. The corona debt burden will be the last nail to the coffin of the euro.

What Will Prevail: The European Bureaucracy or The American Liberality?

When adopting the European currency a country gives up on his own monetary autonomy, national interest rate and exchange rate. The latter is the most notable, when used correctly, exchange rate management can increase competitiveness and makes it easier to overcome exogenous economic shocks. In order to stimulate exports a country can depreciate their currency to become cheaper for importers of other countries. In one European currency area, countries that experience different shocks due to differences in economic structures and characteristics are dependent of the same exchange rate. In order to be able to make up for different effects of the shock countries have to change prices, but as prices are sticky on the short run due to labour market policies European recovery of exogenous shocks is relatively slower. Interesting will be to see if the corona shock is a temporary one or if the negative economic effects will last. The European system is more likely to overcome a temporary shock as employment is guarded more than in the USA. However, if the economic pain will last longer the European structures will suffer more.

Labour Market Mobility And Fiscal Transfers Are Essential To An Optimal Euro Area

As European countries all have different economic structures not only the exchange rate unity poses a problem. For a currency area to work there has to be labour market mobility between countries. If a certain sector is hit relatively harder by a certain development, people have to be able to move to better performing industries. Labour mobility was already relatively low due to cultural and linguistic limitations of migration between regions. But as low skilled labour is valued less and less due to globalization, the inequality gap has significantly increased over the last fifty years. This inequality has resulted in the rise of populist parties across countries in Europe, of which most condemn free mobility, even between European countries. This has a negative impact on the functioning of the euro currency area.

Another important feature which is necessary for the euro to survive is the use of fiscal transfers to support less developed and under-performing regions. This is essential for the euro area to function, but as countries like Austria and the Netherlands tend to criticize these kind of fiscal transfers, the European strength weakens. Fiscal transfers to lesser developed regions also tend to lead to moral hazards. These regions become dependent of these funds and do not have a natural economic incentive to increase productivity within the region, but tend to twist policies in way which leads them to receive more of the European Structural funds. However, it is widely known that the more developed regions tend to benefit more of European integration than the outskirts of Europe. Fiscal transfers are made to make sure that regions which suffer under European integration also receive some of the benefits. But as this system is shaking and the board of the ECB diverges more and more, the euro is under high pressure.

Having One Monetary Union Reduces Exchange Rate Risks For All Member States

The richest European countries are dependent on the income of the poorer countries in regions. Each year there are capital flows out of the south of Europe to the north due to differences in economic structures. In order for this to be sustainable fiscal transfers are necessary to keep this flow going. It feels counter-intuitive to support less productive regions, but it is vital to European economic engine. Rich exporting countries are dependent on poorer typically import countries, so in a system with one currency fiscal transfers are necessary to sustain the European economy. Having different currencies across Europe creates a more flexible and seemingly fairer economic system. However, weaker countries will face exchange rate speculation attacks like we saw at the end of the last decade. Traders will speculate against the one with weakest pockets, which creates a self fulfilling prophecy, damaging to economic stability and thus spurring economic growth. And when weaker countries face lower growth, exporting countries with bigger pockets also lose economic prosperity.

As the most vulnerable countries in Europe also are the countries heavily dependent on tourism, where in Italy tourism is responsible for 15 percent of GDP, in Greece this number is 24 percent. As the corona outbreak is a killer to this industry, these countries will face huge debt burdens. European solidarity has to be higher than ever in order for the euro area to survive in the way we know it. It will be harder than ever, countries will face their own problems and under pressure of European skeptics the corona aftermath will prove to be the start of the end of the euro as we know it.

Decreasing Political Support Poses An Existentional Threat To The Euro Area

It would be great if we could coordinate as humans instead of nationalistic entities. This would lead to more equality, sustainability and overall prosperity, however such a world is far away in a world where there are minorities, oil tycoons and a wealthy minority with the majority of the power. Having a group of intellects with a majority of the power is not necessarily bad. Such a system would work as long as these people do not have personal interests, are absolutely rational and do not hold preferences in any way. Stepping back in reality, if even the European Union does not function optimally, we are not likely to see this kind of governing board anytime soon.

Keeping or abolishing the euro is a trade-off between solidarity and integration versus individualism and autonomy. Economically speaking it is best to function as one big European country, but as cultures differ greatly and people don’t feel as connected with fellow European inhabitants, the euro area is not likely to survive. The best would be to take away all the borders and function as one world, with one nationality: Earth. But as people tend to value and hold onto cultures and old habits, which isn’t necessarily a bad thing, an economic system is more likely to work within identical cultural regions. This is the same reason why The Golden Investor thinks that on the short run the euro is not likely to survive.

Disclaimer: The Golden Investor is not a fortune-teller, be sure to make the right decisions in accordance to your own financial situation, this is not investment advise or anything like that.

Stock Buybacks: A Major Issue With Minor Attention

Where stock buybacks used to be illegal and seen as a form of stock manipulation, in 1982 this rule was changed and all of a sudden stock buybacks became legal. Over the last few years the amount of stock buybacks has grown significantly, but the reasons for that remain inconclusive. The strange thing about buybacks is that the decision of doing stock buybacks is made by corporate directors and executives which themselves own many stocks. One thing is sure, buybacks have made investors richer over time, and the workers of these companies haven’t seen anything change for them. In 2018 the Roosevelt Institute showed in an analysis that McDonald’s could have given its 1,9 million workers an additional $4000 dollars each year instead of doing stock buybacks (Brands et al., 2018). In other words: they could have given a fifty percent income increase for the median worker, but decided to give it to the increasingly rich top 10 percent of the world.

Figure 1 – Buybacks Per Worker – (Brands et al., 2018)

Long term stockholders don’t benefit from buybacks, as they’re going to hold stock for a long period of time. The current spending on buybacks only benefits the investors who sell. The Golden Investor would like to see this mentality change. We shouldn’t reward the CEO’s and main shareholders with more cash, but the whole company with a better long term outlook. This can be done by increasing spending more on R&D, which is the main driver of innovation and leads to higher productivity. This increase in productivity then leads to more revenue and ultimately leads to a company with an increased market value which then can be accurately reflected in the stock price. In those companies also workers should benefit from the achieved goals. In this way the overall structure of the company remains well balanced and not distorted in a way. However, at the moment with the current policies inequality rises due to perverse incentives for corporate executives.

Stock Buybacks Hurt Productivity

In 2015 research showed that EPS-motivated repurchases are associated with reductions in employment and investment, and a decrease in cash holdings. Managers are apparently willing to trade off investments and employment for stock repurchases that allow them to meet analyst EPS forecasts. (Almeida et al. 2015). They actually should invest in their workers in order to improve productivity, profitability and stock market performance. All these effects are commonly known and proven, so why still invest in stock buybacks?

Supporters of buybacks still argue that stock buybacks can increase productivity through shareholders. If a company has too much unused capital, stock buybacks can stimulate investors to invest in other companies with a lack of cash, but with potential investing opportunities. However, these effects are limited. Actually the share of investment in start-ups has been declining and the CEO to worker wage ratio has risen immensely over the last decade. It is argued that banning stock buybacks could lead to increased dividends, which in turn leads to the same effects. But this is not entirely the case at all, because as mentioned before, stock buybacks lead to short term inflation, while increased dividends are more closely related to the real value of a business. Moreover, dividends are less sensitive to over-inflation, because shareholders expect dividends to be more stable. A volatile dividend payout reduces certainty and predictability and that’s the last thing big investors like.

Tax Payers Pay For Large Buy-backs

With the current 50 billion bailout of airlines in America, many wonder what would’ve been if these airlines didn’t do so many stock buybacks. American Airlines has been spending over 15 billion dollars on stock buybacks over the last 6 years. It seems as if big companies can inflate their stock market value and then sell it for a premium to the government during a economic downturn. Only now, as a condition of getting a bailout package, strict rules on buybacks are implemented. This should’ve been done way earlier, it’s time for a more equal playing ground. But with quantitative easing accelerating and future government spending at risk of being cut, more unequal times lie ahead. Many more problems will arise in the aftermath of the corona crisis, or as The Golden Investor likes to call it: The Ultimate Debt Crisis.

Bibliography

1) Brands, Y., Hut, P., & International, R. B. (2018). The High Costs Of Stock Buybacks For Workers. The Roosevelt Institute, 8–9.

2) Almeida, H., Fos, V., & Kronlund, M. (2016). The real effects of share repurchases. Journal of Financial Economics, 119(1), 168–185. https://doi.org/10.1016/j.jfineco.2015.08.008