Outside Economics

Fear and panic have hit the markets as if a massive earthquake hit the shores of the UK, as the Brexit vote has been tallied in favor of leaving the European Union (EU). The vote was very close, however most of the UK voted to leave. Scotland, North Ireland and London voted to stay. The vote was enough to send Prime Minister David Cameron to the podium to announce his resignation after the next party convention in October. The Pound Sterling was sent crashing to its lowest levels in 30 years, and other markets are reacting in a free-fall around the world.

Voter turnout was a record high of 72.2% passing the exit bill at 52% to 48% in favor of leaving the EU. 

So what does it all mean? What this means is a lot of changes, and markets do not like change, they like stability. The main change will be Britain will have its sovereignty back and will be allowed to make its own laws without the fear of the EU overturning those laws. 

This will come at a cost, the EU provided several benefits, namely the freedom of movement of people and goods and services. The 28 member states of the EU offered each country’s citizens to move freely between each country without a visa, people could travel freely, live, or work where ever they wanted in any EU country. Similar to the USA, where a person from California could move to New York and live and work there. 

A problem with the “free movement of people” was the refugee crisis, the people of the UK were feeling like their social system was already at max capacity and the EU was going to cram millions more people into the system. As refugees are brought into one EU country and processed, they then have free movement to all the countries and access to the jobs of those countries, along with new passports, etc. The UK felt this to be unwise for long-term political and social stability, since there was virtually no vetting of these immigrants.  

The UK will now have to renegotiate with each country the ability of its citizens to move about the EU. The Brits abroad may have to make applications to those countries they are currently living and working in to be able to stay, similar to any immigrant from another country. Or maybe they will come up with some grandfather clause to make it easier on those folks. 

The movement of goods and services will have to be renegotiated as well. The many products that are produced in the UK and moved about Europe freely without any tariffs or other import/export restrictions may change, some of those products may be replaced by other countries in the EU thus hurting British businesses.  

With the markets in a free-fall over this important vote, it may spell buying opportunities. Such political uncertainties always cause market turmoil, which spells opportunity. One headline this morning reads: Soros looks set to make a killing on Brexit result. 

Overall it will be hard to tell the from this vantage point the long term results of this vote, however, it will be a spectacle to watch as it unfolds around the world. The UK is a critical country on the world stage and one of our most important allies. Perhaps this will provide opportunity to make our relationship even stronger.

One thing we do know is the sun will rise on the UK again as it will the world over - a new day will dawn - its not the end yet! So keep calm and look for the good opportunities to work together and continue to make the world a better place.

Last week we looked at our inflation, now we will take a looks at what hyper inflation looks like  for one of our neighbors to the south. The price of oil has affected many economies around the world. It has hurt our economy in many ways, and helped in many other ways. But our economy is we diversified which is why the low price of oil has had such a balancing effect in our economy - other countries are not so blessed. 

One major oil exporter, Venezuela, is particularly hurting because of the low oil prices. As oil became the main income source, the country began to ignore other industries, like agriculture, and thus requires most of their food to be imported from Columbia and the United States. 

Before the 1950s agriculture was greater than 50 percent of Venezuela’s GDP, now it accounts for approximately five percent of GDP. This is a serious problem for the country’s leadership. As oil prices drop they are truly hurting. Its like still needing to feed the family on half the income; some things you can no longer afford and you don't have the economic base to find the income from other sources.

With oil exports accounting for over 95% of Venezuela’s revenue, the 50% collapse of oil prices in the past two years has thrown the country into fiscal and political turmoil. In order to raise critical cash to keep the government operational, officials have started to sell the country’s gold reserves. 

Even though the country is a major exporter of oil, it is also a major importer of essential goods for its citizens. The country’s currency, the bolivar, has collapsed to the value of one U.S. cent, creating hyperinflation which led to prices soaring over 121% in 2015, and expected to rise nearly 500% in 2016, as estimated by the IMF.

Inflation of this magnitude is similar to having a massive heart attack after twenty years of high blood pressure! It can really kill an economy!

In addition to its fiscal woes, the country is also suffering from little rain, which has brought about severe electricity shortages due to its main source of power generation, a dam whose water levels have dropped to historical lows. In late April, the country’s president ordered a two-day work week for government employees, in order to stem the consumption of electricity. The government workweek now is down to Mondays and Tuesdays, affecting roughly 2.6 million employees, representing 20% of the nation’s workforce.

Economic conditions have worsened, as the economy shrank 5.7% in 2015 and is projected to shrink another 8% in 2016, as estimated by the IMF. Such dire circumstances have created concern among U.S. officials, which are increasingly worried about an unraveling socialist economy and a political meltdown. Such an occurrence could lead to social unrest, chaos and political instability, causing tensions to rise with neighboring countries in South America.

So why is this important? Well hopefully two reasons: 1. perhaps it will bring about a political change, which will move the country back to a democracy and a free market economy and away from its current socialist/communist government. 2. hopefully they will begin to expand their industrial base and grow into other industries besides oil. Any time an economy is based on a single product the risk goes way up for future economic troubles.  

Additionally, it would be great for our two countries to get along better - geographically we are very close to Venezuela (less than 1400 miles) and the several people I know from Venezuela are wonderful people!

Sources: IMF

Remember:

There are plenty of good five cent cigars in the country. The trouble is they cost a quarter.
Franklin Pierce Adams

The Federal Reserve operates under a dual mandate, with three key objectives for monetary policy (which the Fed sets) to accomplish: Maximum employment, moderate long-term interest rates, and stable prices. Two of these three have been validated for the most part, with unemployment at 5%, and long term bond yields above short term bond yields. Stable prices (also known as inflation control) is monitored and released by the Consumer Price Index (CPI) each month and has been fairly subdued for sometime, until now. The Bureau of Labor Statistics which tracks the CPI reported that prices, as measured by the CPI, increased at the highest rate in three years as of April 2016. This latest report showed prices increasing at annual rate of 1.1%. 

A 1.1% inflation rate may not sound like much, but the data hidden within this number reveals something that the Fed may be concerned with. When broken down, the categories with the largest price increases nationwide were medical care services, transportation, and rent. What’s amazing is that the CPI increase would have been much higher if it wasn’t for the dramatic drop in energy and oil prices. 

The Fed considers various aspects of the economy and the country’s demographics when drafting its monetary policy. The fact that American’s are aging and are requiring more medical attention is an inflationary threat for retirees. In addition, many younger American’s are still having a very difficult time in securing mortgage loans, thus forcing young families to rent rather than buy. Such a dynamic has increased demand for rentals nationwide, forcing rents to rise until more supply is made available.

One cause of the medical inflation is the fact that Medicare, in an effort to control costs, continues to reduce payments to hospitals and doctors. The reduction in payments causes these businesses to look for other more profitable lines of business - meaning they stop seeing medicare patients altogether. This lowers the supply of services, thus raising the costs - it is simple economics. The additional problem is the enrollment in medical schools are down since the passing of Obamacare - meaning we are producing fewer doctors. 

While demand for rentals is high, so are sales of new homes. Housing is always challenging because of the time it takes to bring new home developments on line. The housing standards and regulations are so difficult, that it leaves fewer opportunities for low income housing. Gone are the days when a 1 bath, 3 bedrooms, 1000 square foot house is considered adequate. And yet for many first time home buyers maybe this is what the market needs (except I would opt for at least two bathrooms!).  

I think the next CPI report will have inflation at a much higher level, due to the recent large price increases in the energy sector. It is certainly affecting many people on the expense side, while at the same time it is good for the oil companies, who are starting to see a future in their business and maybe an opportunity to employ more people. 

It has been said that high blood pressure is a "silent killer"; Inflation is the silent killer of personal finances. Many may be asking how this will affect their investment portfolios and plans for retirement or issues with their own businesses. As inflation heats up, people need to be prepared. Helping people get prepared for these events are what I do - so if you want to be more prepared or you want a second opion on your current level of preparation call me for a no obligation free consultation. Click here for .

Sources: Bureau of Labor Statistics, Federal Reserve

Remember:

Inflation is one form of taxation that can be imposed without legislation.
Milton Friedman

A new form of digital currency has received tremendous media coverage this past year, Bitcoin, which is essentially virtual money that is traded digitally by exchanges. Bitcoins can only be purchased and sold with legitimate currency, such as dollars or euros making it available worldwide. The total estimated value of Bitcoins worldwide is about 9 ½ billion dollars.

Bitcoins exist as software, not physical currency, and are not regulated by any country or banking authority. Even though U.S. Senate hearings disclosed that Bitcoin could be a means of exchange, it gave no assurance that it would actually become an accepted medium of exchange. Government regulations would need to be created and then enforced in order for Bitcoin to become accepted by other government entities. The currency can be traded without being tracked, thus raising the potential for illicit activity, such as involving weapons, drugs, and prostitution. Bitcoins are not illegal, but it is also not legally recognized by governments as a currency. 

In late December, the price of Bitcoins fell more than 50% from recent highs as the world's biggest bit coin exchange, BTC China, said it would stop allowing its customers to use the Chinese currency to buy the virtual currency. This in turn removed a big source of cash that had been fueling Bitcoin prices. At one point in November 2013, the price of one Bitcoin was almost identical to the price of one ounce of gold, both being valued at approximately $1200.

The price appreciation of Bitcoin has been a result of speculation, and hasn’t been used as a store of value or as a medium of exchange to any extent. Some compare Bitcoin to the tulip craze in Holland of 1637, when speculators pushed the price of tulip bulbs to incredible levels, followed then by a collapse in the tulip bulb market.

Bitcoin has surged on speculation that perhaps one day digital money will eventually become a legitimate global currency, and even replacing currencies from certain countries.

Bitcoins are mined by powerful computers that calculate complex, mathematical functions. Total Bitcoin quantity is capped at 21 million, and currently there are about 12 million that exist worldwide. Circulating physical coins only represent Bitcoin, and are not a store of value as is legitimate currency.

The growing mobile payment industry could be a big benefactor to the acceptance of Bitcoin, as new and creative applications are being devised to accept digital currency. Bitcoin transactions are very popular among mobile users, where rather than using a credit card or cash to make a purchase, all you’d need is your phone.

Bitcoins emerged in 2008 designed by a programmer or group of programmers under the name of Nakamoto, whose real identity remains unknown. New Bitcoins can only be created by solving complex math problems embedded in the currency keeping total growth limited.

The value of Bitcoins fell by about fifty percent in mid December following remarks by China and Norway to not recognize the digital currency as legal tender. The government of Norway ruled that Bitcoin does not qualify as real currency, but rather qualifies as an asset, producing taxable capital gains. Norway said that Bitcoins don’t fall under the normal definition of money or currency.

More and more nations have been taking an official stance as the popularity of Bitcoins has evolved. The European Banking Authority has warned about the risks of trading digital money and being subject to losses where consumers are not protected by any government entity or authority.

As digital currency evolves, some believe that it will eventually be accepted as a legitimate currency. But for the time being, others believe that its time hasn’t arrived yet. Various studies have recently emerged with different opinions, such as

a Stern School of Business study conducted by David Yermack, which concluded that Bitcoin behaves more like a speculative investment than a currency, and has no currency attributes at all. For additionall information on bitcoins read Understanding Bitcoin.

Sources: Bloomberg, Reuters

REMEMBER:

"What we plant in our subconscious mind and nourish with repetition and emotion will one day become reality" - Earl Nightningale