global economics research for the langley intelligence group network_brent m eastwood

GLOBAL

ECONOMICS

RESEARCH

2013

The Langley

Intelligence Group

Network

Brent M. Eastwood, PhD

Contents

TO REVIVE JAPAN, ABE'S ‘ARROWS’ MUST FIND THEIR TARGET ............................... 3

October 25, 2013 | Global Economics | Asia-Japan .............................................. 3

FRANCE AIMS EU TAX CUDGEL AT US TECH GIANTS ............................................... 8

October 3, 2013 | Global Economics | Europe-France .......................................... 8

WHY ‘ECONOMICALLY FREE’ COUNTRIES ARE OFTEN ‘POLITICALLY FREE’ .............. 12

October 3, 2013 | Global Economics | Asia and the Pacific ................................. 12

TRANS-PACIFIC TRADE PACT OFFERS TEMPTING ALTERNATIVE TO WTO ............... 17

October 2, 2013 | Global Economics | Asia and the Pacific, The Americas .......... 17

HOW WE KNOW THE ERA OF SECRET SWISS BANK ACCOUNTS IS OVER .................. 21

September 17, 2013 | Global Economics | Europe .............................................. 21

ROGUE CRIME WAVE KNOCKS MALAYSIA OFF BALANCE ........................................ 25

August 30, 2013 | Global Economics | Asia and the Pacific ................................ 25

TINY NONPROFIT CASTS WIDE NET IN HUNT FOR SANCTIONS VIOLATORS ............ 30

August 28, 2013 | Global Economics | Middle East-Iran ..................................... 30

EUROPEAN POLITICIANS STUMPED BY HORDES OF JOBLESS YOUTHS ..................... 34

August 26, 2013 | Global Economics | Europe .................................................... 34

GREECE CAN KEEP THE LIGHTS ON, BUT COLD WINTER AWAITS ............................ 38

August 2, 2013 | Global Economics | Europe ...................................................... 38

HOW THE EMERGING MARKETS CRASH IS HURTING GLOBAL GDP .......................... 43

July 5, 2013 | Global Economics | Asia and the Pacific ........................................ 43

CHINA: DESPITE ‘PLAN,’ SWEEPING ECONOMIC REFORM DIFFICULT ....................... 47

June 12, 2013 | Global Economics | Asia and the Pacific ..................................... 47

BITCOIN VIRTUAL MONEY OPENS DOOR FOR TERROR FINANCE ............................ 52

April 15, 2013 | Security, Global Economics | Asia and the Pacific, The Americas 52

SOUTH KOREA WILL RECOVER QUICKLY FROM NORTH’S ECONOMIC WARFARE ...... 57

April 11, 2013 | Security, Global Economics | Asia and the Pacific ...................... 57

ARGENTINA: DAMAGE FROM KIRCHNER WRECKING BALL PILING UP ...................... 62

February 27, 2013 | Global Economics | South America ...................................... 62

TO REVIVE JAPAN, ABE'S ‘ARROWS’ MUST FIND THEIR TARGET

October 25, 2013 | Global Economics | Asia-Japan

Summary

After two decades of stagnation, Japan’s latest economic recovery strategy relies on

three policy “arrows” — very loose monetary policy, new government stimulus plans

and structural reforms, including deregulation. Dubbed “Abenomics,” after Prime

Minister Shinzo Abe, the three-pronged approach has plenty of audacity but likely

lacks the political will to ensure it has a lasting impact.

Abenomics aims to spur growth, inflate wages, boost consumer spending and

increase exports, primarily by making the Japan’s central bank the economic policy

driver. Yet the plan relies on many politically unpalatable reform initiatives, such as

government spending, taxes, welfare reform and changes to labor law. In the end,

Abenomics may turn out to be just another experiment in quantitative easing that

results in artificial asset price growth.

Background

Prime Minister Shinzo Abe’s second term began in December 2012. It has been

noteworthy for its daring plan to get the country’s economy moving again after more

than 20 years in the doldrums.

The idea is to increase gross domestic product growth to an annual level of between 4

percent and 5 percent by elevating Japan out of deflation, which has stifled

consumption and investment, to an inflationary era of rising wages and higher-paying

jobs. Abe claims his plan will add 600,000 jobs in just two years, according to a

report published this month by the Council on Foreign Relations.

The focus will be on giving the Bank of Japan a level of firepower never before seen,

featuring both quantitative and qualitative easing. The quantitative easing will double

the number of bonds the Bank of Japan buys with a goal of doubling the country’s

money supply. Japanese QE consists of about $71 billion a month in mostly short-

term debt purchases.

BOJ’s qualitative easing has to do with the type of asset purchases the bank takes on

its balance sheet. It will now own a greater amount of less liquid, riskier assets, such

as exchange-traded funds (ETFs) and real estate investment trusts (REITs), according

to research conducted by the Swiss National Bank in April. The Bank of Japan also will

hold longer-term Japanese government bonds and it will pump up its loan program to

get more cash in circulation.

The fiscal prong of Abenomics includes a huge investment of $116 billion, mostly

targeted at the same infrastructure improvements Japan has tried in the past. Other

parts of the package will focus on renewable energy and encourage private

investment in nascent industries.

These first two provisions are generally uncontroversial, but at $10 trillion and 245

percent of GDP, Japan’s mammoth debt problems have forced Abe to prescribe bitter

medicine: To pay Japan’s health care and social welfare expenses, estimated at

around 24 percent of GDP, he has decided to raise the country’s national

consumption tax to 8 percent from 5 percent beginning in April 2014.

The tax would go up to 10 percent in October 2015. Such gigantic tax hikes are

expected to cut the budget deficit in half by 2016 and balance the budget five years

later, Reuters reports.

The third policy lever of Abenomics is a program of economic structural reforms. Abe

will attempt to deregulate industries bogged down in red tape, such as energy,

environment and health care, according to the Council on Foreign Relations.

Next, he will encourage more women to join the workforce by providing better day

care opportunities. This reform is designed to foster growth of two-income families

that can spend more on consumer goods.

Abe also will target Japan’s antiquated labor laws. An estimated 5 million redundant

employees are now subsidized by corporations. Allowing firms to lay off these

workers would promote a more efficient allocation of capital and encourage

investment, according to Abe’s economic advisers.

Trade is on the agenda as well. Abe decided in March to join negotiations for the

Trans-Pacific Partnership (TPP) trade pact with the United States and 11 other

countries, spanning the Pacific from North America to the Far East. For more on this

issue, see LIGNET’s Oct. 2 report: “Trans-Pacific Trade Pact Offers Tempting

Alternative to WTO.”

Mixed Results

Japan’s GDP has reacted positively so far, with first-quarter annualized growth at 4.1

percent and the second quarter at 3.8 percent, according to The Economist. The

Nikkei stock index has risen by more than 35 percent year to date, although down

from a mid-May peak.

Japan’s loose monetary and fiscal policy was meant to devalue the yen, and it has

worked: The yen has fallen 13.2 percent this year against the U.S. dollar. Thirty-year

and 10-year government bond yields are down, making it easier for Japan to service

its debt.

On the other hand, the hoped-for rise in exports has lagged. Economists had

predicted a 15 percent rise in Japanese exports last month, but growth only hit 11.5

percent year-over-year, according to Reuters. Inflation hit 1.1 percent in September,

but wages are not rising and consumer prices have increased mainly due to higher

energy costs. This type of inflation is not what Abe promised.

Analysis

Global economists generally agree that the monetary policy aspect of Abenomics is

unprecedented. Greg Ip of The Economist believes that Bank of Japan Governor

Haruhiko Kuroda has a “vociferous and full-throated commitment to achieving these

goals, as opposed to constantly making excuses.”

The financial markets have shown their approval of Abenomics, especially the

quantitative and qualitative easing. This has translated into the best business

sentiment in Japan in six years.

Stimulus spending on construction has been less robust and in the past has not

trickled down to create jobs, improve capital investment nor promote consumer

spending. The disbursement of construction contracts over the years often results in

waste, fraud and abuse.

Abe’s remaining policies are problematic. Raising consumption taxes to pay for health

care and welfare spending may sound like the right type of austerity plan, but it

causes political problems. Some detractors of Abenomics believe the tax hikes could

be disastrous. Critics say the last time Japan tried to raise the sales tax in 1997 the

move put Japan on the road toward financial crisis.

Japan’s deficits and debt problems are not likely to go away no matter how much Abe

tinkers with fiscal policy. Japan has an aging society that will force the government to

continue to borrow and service debt at an unsustainable level for the next decade.

Labor laws need reform but, like Social Security and Medicare in the United States,

changes to these entrenched practices face resistance and only help Abe’s political

opponents. The parliament has already indicated that labor reform is off the table.

Legislators have expressed willingness to experiment with “special economic zones,”

where pilot projects with new labor policies might be undertaken. The zones are still

at the conceptual stage, but they could help create a surge in small-business

entrepreneurship, something Japan wants to encourage.

Abe has taken an interesting position in terms of workforce development with his

goal of attracting more women to the labor force. Japan is clearly stuck in the 1950s

in terms of gender equity. Women hold only about 6 percent of management

positions in Japan’s top companies.

Women are expected to quit their jobs when they have children. If Abe could increase

the number of women in high-paying jobs, he might move the needle on GDP growth.

Japan’s entrenched special-interest groups, such as rice growers and beer makers,

are no fans of free trade, so the TPP trade pact will face political headwinds as well.

Even if Japan eventually joins the bloc, it may not create the expected growth in

exports or new jobs.

Meanwhile, the Abenomics currency devaluation gambit has not achieved export

growth either. It has produced the wrong type of inflation, economists say, without

the needed increases in wages and consumer spending.

Conclusion

One way to look at Abenomics is to evaluate the policies on the merits of its three-

pronged approach. In this view, Abenomics would receive high grades on monetary

policy, low grades on fiscal policy, and mediocre grades on economic reform. The

structural change aspect of Abenomics, often called the “third arrow,” is encountering

political pushback. Abe’s arrows are simply not sharp enough to pierce that

resistance and create an economic environment that will result in rapid GDP growth

over the next several years.

FRANCE AIMS EU TAX CUDGEL AT US TECH GIANTS

October 3, 2013 | Global Economics | Europe-France

Summary

France is attempting to whip up support in the European Union for tighter rules and

new taxes on some of the biggest U.S. technology companies, including Google

(NASDAQ: GOOG), Apple (NASDAQ: AAPL), Facebook (NASDAQ: FB) and Amazon

(NASDAQ: AMZN). The French government, meanwhile, owns equity stakes in

domestic Internet companies that would stand to benefit from taxes on foreign

competitors.

So far, French ideas for a “data tax” are mostly talk, but there is a chance that some

punitive measures for privacy failings and levies on digital services could become

proposals to be reviewed by the European Commission and Parliament next year.

French bureaucrats, however, appear mainly interested in giving national companies a

boost at the expense of U.S. tech titans.

Background

French regulators met with their European counterparts at the end of September to

get more countries on board with its new oversight plan, which includes restrictions

on Internet privacy and levies on data use. The EU will hold a leadership summit on

Oct. 24, at which France is expected to push adoption of its agenda.

French technology and telecommunication ministries, along with privacy watchdogs

that oversee the Internet in France, want their demands turned into policy across the

Continent. Their ideas could become specific proposals that the European

Commission and European Parliament would review and potentially vote on in the

spring of 2014.

The proposals include revenue sharing between EU states for profits earned on

European soil, according to a Sept. 19 Wall Street Journal report.

France, Germany and other European countries also are concerned about personal

privacy in the wake of the Edward Snowden affair and allegations that the U.S.

National Security Agency used online data from personal accounts in Europe for

intelligence collection and analysis.

Facebook could become the subject of the data tax and privacy rules if the proposals

are enacted. The EU also could regulate Amazon’s e-books and take Apple to task

over its app store. It might require Apple to allow European users to have “portable

user profiles” that can be shared, a measure that would give smaller Internet firms in

the euro zone greater access to new customers in the digital economy.

Google already has been targeted by EU regulators for antitrust issues regarding its

search rankings of European companies. The EU has been studying Google’s

advertising and data mining practices over the past three years, allegedly for

infringing on civil liberties.

The head of the EU antitrust agency, Joaquin Almunia, said Oct. 1 that a tentative deal

was in the works that would require Google to give higher visibility to competitors’

information during Internet searches instead of blocking them, as European tech

firms allege.

Another oversight body, French data privacy commission CNIL, told Google in June

that it had three months to comment on how it is complying with data protection laws

in France or face a fine. So far Google has not “implemented the requested changes,”

said a CNIL spokesman, IDG News Service reported on Sept. 27.

Google contends that it is following European law and working in good faith with

CNIL.

It’s worth noting that France's sovereign wealth fund, Fonds Stratégique d'

Investissement, invests and holds equity stakes in domestic Internet companies. In

2012, the fund invested about $32 million in Viadeo, a Paris-based social network

that is similar to LinkedIn.

France also had investments in French tech firms such as Dailymotion (video sharing)

and Skyrock (blogging) at that time, the New York Times reported in April 2012.

“We want to regulate a small number of Internet platforms that are blocking

innovation from all other actors. The current situation makes it difficult for European

champions to emerge at a global scale . . . We need to make sure there is a level

playing field for everyone,” French Technology Minister Fleur Pellerin said Sept. 19.

Analysis

One can understand the need to make sure all foreign firms pay the appropriate

amount of corporate income tax and the inevitability of host governments imposing

new types of tax revenue for data usage. Europe, after all, is mostly in recession and

living under austerity measures, so more revenue is needed and can be rationalized

by European lawmakers.

Internet privacy concerns that France, Germany and other European countries have

also are understandable. Google and Facebook are much more than search or social

media companies; they are massive data collectors that attempt to convert user data

into advertising dollars. European regulators cannot be completely faulted for

demanding more transparency and compliance with privacy rules in this area.

However, there appears to be another reason why France is so enamored with an EU-

wide regulation and a taxation campaign aimed at Google, Facebook, Apple and

Amazon. It may be protecting its own nascent Internet sector.

French cabinet ministers use phrases such as “leveling the playing field” for “European

champions.” That likely means that the French government fears the country is falling

behind larger foreign competitors.

Clearly, it is the American technology firms that are the real “champions” in this

space. U.S. corporate leaders would say they should not be targeted by governments

because their companies have better user experiences, loyal customers, unrivaled

competitive advantage, more productive economies of scale and ingenious intellectual

property.

It is interesting that the French government does not often publicly disclose that it is

a major investor in French Internet companies. Such conflicts of interest are rarely

noted when French politicians accuse American companies of antitrust violations and

suppressing competition.

U.S. Internet companies have not commented on the French push for more EU-wide

regulations and taxation. Privacy regulations and new taxes in various countries are a

cost of doing business for American technology companies when they expand into

global markets.

The new French regulatory and taxation agenda could be mere saber rattling and

political posturing. It also is not clear what views individual European Parliament

members hold on the subject.

The British government already has expressed opposition to a European Internet

“financial transaction tax,” according to a Sept. 20 report in the UK Telegraph. Critics

in Britain already are questioning how the data-tax measures could be enforced, if

they are passed.

Conclusion

The French pursuit of regulation and taxation targeted at U.S. technology companies

is not so surprising. Foreign businesses expect to face fees and oversight when

operating overseas. But the proposed rules may be over-reach by French bureaucrats

attempting to protect their own Internet startups. French leaders also often fail to

mention that the government owns equity stakes in domestic Internet ventures, a

clear conflict of interest.

WHY ‘ECONOMICALLY FREE’ COUNTRIES ARE OFTEN

‘POLITICALLY FREE’

October 3, 2013 | Global Economics | Asia and the Pacific

Summary

Countries that are ranked near the top for economic freedom are often the most

politically free, according to report cards released by two major policy institutes this

year. The report cards can serve as an indicator of whether a country can successfully

adapt to economic development.

Economic freedom refers to the extent to which an economy adheres to free market

principles. Political freedom is measured by one watchdog group as the level of

individual rights and civil liberties. It is not unusual for the same countries to finish in

the top 10 or bottom 10 of each list. But the report cards are not without surprises.

Mauritius, a tiny island nation off the coast of Madagascar, is one of the most

economically free governments in the world. Meanwhile, the United Kingdom is

considered less economically free than Bahrain and Estonia. Despite a few unexpected

outcomes, these lists seem to back up free market economists who have always

claimed that a nation’s level of economic freedom reflects its measure of political

freedom.

Background

Every year the Heritage Foundation and the Wall Street Journal release their Index of

Economic Freedom. The index ranks 185 countries based on 10 benchmarks that

place a quantitative value on tenets of economic freedom such as the rule of law,

limited government, regulatory efficiency, and open markets. Economic Freedom,

according to Heritage, is defined as:

“The fundamental right of every human to control his or her own labor and

property. In an economically free society, individuals are free to work, produce,

consume, and invest in any way they please, with that freedom both protected

by the state and unconstrained by the state. In economically free societies,

governments allow labor, capital and goods to move freely, and refrain from

coercion or constraint of liberty beyond the extent necessary to protect and

maintain liberty itself.”

Following is a chart showing the countries that ranked in the top ten for economic

freedom, beginning with the “most free” – Hong Kong.

2013 Index of Economic Freedom- Heritage Foundation and Wall Street Journal

1 Hong Kong

2 Singapore

3 Australia

4 New Zealand

5 Switzerland

6 Canada

7 Chile

8 Mauritius

9 Denmark

10 United States

The New York City-based democracy watchdog Freedom House conducts an annual

study that evaluates countries based on the extent to which their governmental

institutions embrace political rights and civil liberties.

The Freedom in the World survey ranks 195 countries on political aspects of the

electoral process, democratic pluralism and participation and how well the

government functions. It also grades states based on civil liberties regarding freedom

of expression and beliefs, the right to associate and organize, rule of law and

personal autonomy and individual rights.

This year’s list appears to show that countries that do well on the Heritage Economic

Freedom rankings also score high on political and individual freedoms as measured

by Freedom House. Eight of the 10 top nations on the economic freedom index also

got top ratings from Freedom House in 2013.

Two of these states, Hong Kong and Singapore, received only mediocre rankings in

political rights and civil liberties from Freedom House.

There also seems to be a relationship between countries that are the least

economically free and their low scores in political freedom. The 10 bottom dwellers in

economic freedom also receive some of the worst grades from Freedom House.

These countries include North Korea, Iran, Cuba, Burma, Eritrea, Equatorial Guinea,

Democratic Republic of Congo, Republic of Congo, Turkmenistan and Zimbabwe.

Analysis

There appears to be a positive correlation between country rankings on economic

freedom and scores on political freedom and individual liberty. The rankings on both

lists link authoritarian and totalitarian regimes such as North Korea, Cuba and Iran

with low levels of economic freedom.

This would come as no surprise to free-market economists such as Milton Friedman,

Friedrich Hayek and Ludwig von Mises. These pioneers advocated government

institutions that encourage increased levels of economic and individual liberties.

Friedman especially believed that economic and political freedoms go hand in hand

and that countries cannot have one without the other. Many of his writings concluded

that developing economies that emphasized free-market ideals often resulted in a

more democratic and open political climate.

Friedman went on a lecture tour to Chile in the 1970s and encouraged Chilean

dictator Augusto Pinochet to enact free-market reforms. While Friedman has been

criticized for his work there, the country slowly transitioned from the dark days of

Pinochet to a country that scores well on both economic and political measures of

freedom.

What causes the link between economic freedom and political freedom? Freidman

would say that the “freedom to choose” – the individual freedom to vote in elections

or associate freely in a pluralist democratic system – also brings people to power who

guarantee the rule of law, the enforcement of contracts and the protection of property

rights.

These traits often produce a higher level of economic freedom. Alternatively,

countries with statist or authoritarian governments often have political leaders and

institutions that do not promote individual rights and civil liberties. Most countries fit

somewhere in the middle and are an amalgam of varying degrees of freedom.

Transitioning or developing countries known as the BRICS – Brazil, Russia, India,

China and South Africa – get mixed grades on the rankings. China and Russia finished

136th and 139th on the Economic Freedom Index. Both are considered “not free” by

Freedom House, with poor rankings on political freedom and civil liberties.

Brazil, India and South Africa are considered “free” by Freedom House and,

surprisingly, South Africa had the best economic freedom score among the trio –

finishing 74th in the world. India, the world’s largest democracy, is still hobbled by

corruption, according to Heritage. Brazil, ranked 100th in economic freedom by

Heritage, struggles with an inefficient legal and bureaucratic system.

The most unexpected developing country to appear at the top is Mauritius. The small

African island in the Indian Ocean east of Madagascar has developed strong

institutions in which “all the pillars of economic freedom are solidly maintained.”

Mauritius is considered “free” politically even though it has endured plenty of public

corruption over the years.

In what can be considered a disappointing finish, the UK was ranked by Heritage as

only the 14th freest economy in the world, even though its political environment is

believed to be top notch, according to Freedom House. Despite such a healthy level of

democratic governance, the UK still finished behind Bahrain and Estonia in economic

freedom.

Ironically, former British colonies and Commonwealth nations such as Hong Kong,

Singapore, Australia, New Zealand, Canada and the United States all ranked better

than Britain in economic freedom. Even Ireland finished better this year.

After the global economic crisis of 2008, much discussion has been devoted to the

rise of authoritarian or “state capitalism.” Countries that have poor ratings on both

economic and political freedoms, such as China and Russia, would fit under this

banner.

Countries with mixed results (high economic freedom and low political freedom) such

as Hong Kong and Singapore can also be considered states with authoritarian

capitalist tendencies.

Ian Bremmer, Robert Kagan and others have written about governments that believe

in more central command over their economies. It may be too early to say if this trend

will continue or if these countries will grant more political freedoms to their citizens.

The future of governance in China greatly depends on solving this puzzle.

Conclusion

Some correlation appears to exist between countries that score high on both

economic and political freedoms. Similar comparisons can be made with countries

that have totalitarian governments and controlled economies. It can be difficult to

make generalizations based on the range of grades a country may receive in any

given year from various policy institutes. But lists of freedoms reveal much about a

given state’s economic and political institutions. They can also be a useful barometer

to forecast whether a country can successfully adapt to improvements in economic

development, income distribution, human development and environmental health.

TRANS-PACIFIC TRADE PACT OFFERS TEMPTING ALTERNATIVE

TO WTO

October 2, 2013 | Global Economics | Asia and the Pacific, The Americas

Summary

An ambitious free trade agreement that spans the globe with participation ranging

from tiny emerging markets to world economic leaders has free trade believers

hailing it as the “gold standard” and free trade opponents crying foul. The Trans-

Pacific Partnership would form a coalition of willing countries that are frustrated with

the stalled Doha Round of World Trade Organization talks and who are now willing to

make a monumental deal that will break down trade barriers and cut regulations for

40 percent of the global economy.

The TPP is basically NAFTA plus Peru and Chile combined with much of Southeast Asia

along with Japan, Australia and New Zealand. It is an impressive mix of allies hailing

from the Eastern and Western hemispheres. China hates the idea and thinks

Washington is trying to bully Beijing with new economic alliances. The White House is

treating the TPP as one of its signature economic reforms and part of its Asian pivot

strategy. President Obama believes that the trade pact will help American exports

soar to stimulate job growth. Congress is worried that some Asian countries unfairly

manipulate their currencies and steal U.S. intellectual property.

Background

The United States announced it would officially participate in the Trans-Pacific

Partnership (TPP) in 2009. This trade pact initially included four countries: Brunei,

Chile, New Zealand and Singapore, but when the United States expressed interest in

collaborating with the early adopters in 2008, the negotiations gained momentum.

Now the Trans-Pacific Partnership has seven more members: Australia, Canada,

Japan, Malaysia, Mexico, Peru and Vietnam. The addition of Japan on July 23 gave

participants ample confidence about future talks.

TPP countries represent about 40 percent of the world’s gross domestic product and

about one-third of all international trade. According to the U.S. Trade Representative

(USTR), the United States exported goods, agricultural products and services worth

nearly $1 trillion to the Asia-Pacific region in 2012. That comes to about 61 percent

of all American exports.

The TPP is a very broad agreement that seeks to energize trade negotiations for

certain countries that became frustrated with the stalling of the Doha Round of World

Trade Organization (WTO) talks. These talks have produced few results since they

started in 2001.

TPP participants, according to World Bank President and former U.S. Trade

Representative Robert Zoellick, are the “can-do countries” as opposed to the “won’t-

do countries,” the Financial Times reported Sept. 22.

The USTR explained in July how the Trans-Pacific Partnership will create rules that

cover “market access, rules of origin, technical barriers to trade, investment, financial

services, e-commerce and transparency.” However, progress has been slow as the TPP

has endured 19 rounds of negotiations since 2009. The latest talks were held in

Washington from Sept. 18-21 to prepare for Round 20 scheduled for Bali, Indonesia,

Oct. 3-8.

In a report published Sept. 25 by Japan’s Yomiuri Shimbun, analysts said that

intellectual property concerns in the United States could derail the negotiations. “The

results of the meeting here suggest the outcome of the talks for the multinational

framework has become even more unpredictable ahead of the negotiation’s targeted

year-end conclusion.”

The White House, on the other hand, thinks the Indonesia round will yield a major

breakthrough and that the agreement can be reached before the end of 2013.

The U.S. Congress is less optimistic and wants the president to address the issue of

Japan and other Asian countries’ practice of currency manipulation. Some members of

congress believe Japanese currency manipulation makes its imports to the United

States artificially cheaper -- creating an unfair disadvantage for American

manufacturing.

“Currency manipulation can negate or greatly reduce the benefits of a free trade

agreement and may have a devastating impact on American companies and workers,”

60 U.S. senators wrote in a letter to the Obama administration that was printed in the

Wall Street Journal on Sept. 24.

Analysis

The TPP has many merits. Its participants form a winning combination of various

population sizes and stages of economic development – from emerging to fully

developed economies. The TPP is a “coalition of the willing” and a credible alternative

to the WTO’s failed Doha Round of negotiations, at least on paper.

But the TPP also has glaring problems. It omits any country from the European Union

and, more importantly, it leaves out China. Critics from these governments believe

that the United States joined the TPP to avoid other contentious trade negotiations.

U.S.-EU trade talks have lost momentum in the wake of the National Security Agency

spying controversy, while U.S.-China conversations on trade are hardly ever

harmonious.

China has also implied that that Washington is using the TPP to forge an economic

alliance against Beijing. This development, along with America’s existing military

alliances with numerous countries in the region, threatens Chinese interests.

Labor unions and other free trade opponents describe the TPP as a series of secret

talks that will result in a giant corporate power grab. American nonprofits such as

Food & Water Watch are highly skeptical of the accord. This group said that, despite

numerous free trade agreements, median wages in the United States “have hardly

budged in the last 40 years” and that the TPP “will do no better.”

For Obama, the TPP is the capstone of his Asian pivot strategy and promises to be an

enormous job creator that can rewrite the narrative of his presidency. He stresses that

the pact will open up markets for U.S. companies that have been closed until now.

Along with these difficulties, making all parties completely satisfied with the outcome

will be impossible without substantial compromises. Intellectual property alone is

probably a show-stopper, even if the participants could agree to mitigate patent

disputes regarding the use of generic drugs in developing countries. Patent issues

with technology and entertainment are a whole different set of stumbling blocks.

In Asia, state-owned enterprises have many advantages over private businesses in

terms of subsidies and other forms of government support – a type of economics

known as “authoritarian capitalism.” Vietnamese businesses are especially dependent

on government, so those advantages will have to be navigated somehow.

Every TPP participant protects favored industry and agriculture in one way or another.

Nearly all agricultural commodities will likely be considered non-negotiable by one

country or another.

Conclusion

Despite the hurdles it faces, the Trans-Pacific Partnership is actually fairly good trade

policy. It’s inclusive, it spans the globe and it awards free-market principles.

Negotiations will probably not be settled until late in 2014, but as other countries

notice the TPP’s momentum and advantages, participants may find other countries

are willing to join. Beijing can be expected to continue to agitate as the proceedings

develop. A successful TPP negotiation could convince the European Union that the

United States is serious about international trade and may allow a future EU-U.S. free

trade agreement that could jump-start the global economy.

HOW WE KNOW THE ERA OF SECRET SWISS BANK ACCOUNTS IS

OVER

September 17, 2013 | Global Economics | Europe

Summary

U.S. citizens who are hiding money in bank accounts in Switzerland are in for a shock

if they have not heard already: Their Swiss cash stash is now out of the shadows. Tax

evaders using Swiss banks are either already facing prosecution or becoming

witnesses in criminal investigations by the U.S. government. Law enforcement is

showing little mercy, as one elderly widow has already been sentenced for Swiss bank

tax evasion and fined more than $21 million.

Now a new deal forged between American and Swiss authorities has even sharper

teeth that will bite both individuals and banks that are involved in this type of

financial deception. The improved policing effort is a culmination of earlier

crackdowns on Americans who park money offshore to avoid paying taxes on

earnings. Swiss bankers have to give up information on tax cheats and pay fines in

proportion to the illegal deposits they hold. Swiss banks even issued a rare and

candid public apology for hiding American money all these years.

Background

The U.S. Department of Justice began looking into wealthy Americans’ offshore

banking habits in 2008 when a U.S. Senate investigation revealed that evasive foreign

accounts cost the U.S. Treasury more than $100 billion in lost tax revenues each year.

Since 2009, 68 Americans who hid money in Swiss banks have been indicted or

prosecuted in some way. Three Swiss banks have paid huge fines and at least 30

enablers such as individual bankers and attorneys have also been brought to justice.

Another 38,000 Americans with Swiss accounts were given a choice – either face legal

action or become government witnesses and agree to move their money back to the

United States, Bloomberg News reported Sept. 8. An estimated $5.5 billion has been

repatriated.

Swiss banks, which hold an estimated $2 trillion in foreign deposits, have also been

targeted by U.S. investigators. UBS, the largest Swiss bank, agreed to avoid an

indictment in 2009 in return for a “prosecution agreement” that included a $780

million fine and required the disclosure of account information on 4,500 individuals,

the New York Times reported Aug. 29.

Another historic Swiss financial institution, Wegelin and Co., pleaded guilty to

conspiracy charges at the beginning of the year and was fined $74 million. Wegelin

closed down for good in January after being in business since 1741. Fourteen other

Swiss banks are under investigation, including Credit Suisse Group, HSBC Holdings

and Julius Baer, the Economist reported Sept. 7.

As a result of this dogged pursuit by the Justice Department and the Internal Revenue

Service, the Swiss government agreed to a “voluntary disclosure” deal involving the

other 285 financial institutions located there. Swiss authorities will now force banks

to close American accounts that are determined to be used for tax evasion, require

Swiss banks to divulge information about transfers of American money to other tax

havens, and assist U.S. investigators in other ways. They have until the end of the year

to cooperate or face legal consequences.

But disclosing information is only part of the amnesty program. Offending banks also

have to pay fines in proportion to the amount of money that has been hidden from

the IRS since 2008. These penalties can be from 20 percent to 50 percent of the

dollar value of the illegal accounts.

The 14 banks already under suspicion will not be granted amnesty by the Justice

Department, and they will still face criminal prosecution.

“If someone has an account in Switzerland, it is beyond foolish to think that that

account is going to remain secret…Swiss bank secrecy never should have been viewed

as a mechanism to commit criminal acts,” Assistant Attorney General Kathryn Keneally

told Bloomberg.

Keneally said her battalion of 360 lawyers will now go after other countries where

Americans try to hide money, including India, Israel, Liechtenstein and Luxembourg.

Banks in Caribbean nations will also be investigated.

The Swiss financial sector has been so shocked by the legal storm that an industry

representative apologized this month for banks that had helped people hide money

and cheat on their taxes. “We acted wrongly and we displayed wrong conduct,”

Reuters quoted the chairman of the Swiss bankers association as saying Sept. 3.

Analysis

It is nothing new for politicians to shake their fists at foreign governments that

illegally shelter money, but the relatively quick expansion of the law enforcement

efforts against Swiss banks and their depositors is noteworthy. In five years, this

crackdown went from an obscure Senate report on overseas tax evasion to a

watertight, comprehensive enforcement program that affects all 300 Swiss banks.

The U.S. Justice Department even got an unexpected public apology from the Swiss

banking industry, and perhaps more important, U.S. law enforcement sent a message

to the world that the Swiss reputation for privacy, secrecy and discretion for their

clients did not mean account holders can break the law.

Other Swiss banks may be forced into bankruptcy similar to Wegelin’s fate, but the

sector should be able to survive with fewer members. The U.S. government also

resisted an easy fix that the Swiss government first proposed – for the banks to pay a

one-time lump sum fine to make all their legal problems go away. The Justice

Department refused to back down and ended up getting an enforcement mechanism

with real teeth and global reach.

What is not being discussed is American secret funds in Swiss banks that could have

been tied to money laundering for terrorists and criminals. HSBC Holdings already

paid a $1.9 billion fine to the United States in 2012 for allegedly laundering cash for

terror groups and drug cartels. A former employee named Everett Stern opened the

curtain on HSBC’s wrongful dealings. HSBC’s Swiss accounts are currently under

investigation and it is plausible that other dirty deals perpetrated by the British bank

could emerge.

Unfortunately, American tax evaders have had plenty of time to pull assets out of

Switzerland and park them in other countries that allow safe havens. The Justice

Department will have its hands full dealing with governments that may not be such

close allies with the United States. But the Swiss should be able to assist investigators

on following the money trail, especially if it has to do with transnational crime, drug

dealing and terrorism. Israel, Lichtenstein and Luxembourg will likely cooperate if

their banks are implicated.

FBI counterterrorism agents could be brought into the mix if they find enough

evidence pointing toward crime and terror in connection with secret bank deposits.

Governments such as Israel may already be assisting the FBI in this realm.

Conclusion

The publicity from U.S. investigations and prosecutions regarding Switzerland may

have a deterrent effect on other individuals and banks around the world from hiding

cash and laundering money illegally. The era of the secret numbered Swiss account,

so often referenced in movies and popular culture, could be over. However, it is very

likely that depositors have found other countries that look the other way when it

comes to secret accounts. This will be a significant challenge for the U.S. government,

but Swiss authorities are likely to cooperate in further investigations that will shine

light on tax cheats or criminals in other countries.

ROGUE CRIME WAVE KNOCKS MALAYSIA OFF BALANCE

August 30, 2013 | Global Economics | Asia and the Pacific

Summary

As the emerging-market economies of Southeast Asia are buffeted by investor flight

driven by distant U.S. monetary decisions, Malaysia has been maintaining a steady

course with low levels of unemployment and inflation. Yet policymakers in normally

peaceful Kuala Lumpur now face an unexpected rise in another type of statistic:

violent crime.

The worst should be over for Southeast Asia's third-largest economy. The Malaysian

currency has stabilized and stock market losses have leveled off. But a new storm is

rocking this sleepy Asian backwater. A nation known for its calm, law-abiding citizens

is battling a crime wave in which deadly shootings have become an almost daily

occurrence.

Background

The Malaysian economy is slowing. During the second quarter of 2013, gross

domestic product grew at a worse-than-expected 4.3 percent. The first quarter was

about the same, with GDP growth at only 4.1 percent. These lower rates compare

unfavorably to 2012, when Malaysia’s GDP hit 5.6 percent. Government economists

and other forecasters have predicted Malaysia’s GDP will remain below 5 percent for

the rest of the year.

Like many emerging-market countries over the past two decades, Malaysia has

depended on its ample natural resources to fuel expansion. Oil and gas, palm oil and

rubber have paved the way for relative prosperity. This year has been different,

though. Compared to the boom times of the last decade, global commodity prices are

mostly lower. China is going through a period of slower growth, reducing global

demand for Malaysia’s raw materials.

Nevertheless, by many measures the Malaysian economy is healthy. Unemployment in

June was just 2.8 percent. Consumer prices are stable, with a relatively benign

inflation rate of 1.7 percent from January to July, compared to the previous year.

Analysts at CIMB Group, one of the country’s leading financial institutions, believe

“strong foreign reserves, high national savings and low external debt” will allow the

country to withstand any coming financial turbulence.

Yet other observers warn that a financial storm is brewing in Southeast Asia. Malaysia,

according to this view, could have difficulty maintaining the level of foreign

investment that previously supported frothy asset prices among the emerging

economies of Asia.

Investors who have turned bearish on Malaysia cite four problematic trends. First, the

Malaysian ringgit is foundering. The currency has been in a broad decline since May

against the dollar, British pound and euro, off by around 11 percent against each.

Secondly, Malaysia’s benchmark stock index is down by nearly 6 percent from recent

highs set in late July and is up a disappointing 3.5 percent over the latest 12-month

period.

Third, investors are reducing exposure to Malaysian bonds. More debt instruments

have been sold than bought, resulting in negative outflows over the past 12 weeks, a

danger to the ringgit. Finally, lower exports could give Malaysia its first trade deficit

in 16 years.

Malaysia’s policymakers insist these conditions are cyclical and that the country has

ample foreign reserves to fend off global “currency vigilantes” who may be shorting

the ringgit on a bet the currency will fall. Stunned by the rapid declines of currencies

in India and Indonesia this month, Malaysia’s central bankers quickly intervened on

Aug. 20, reportedly selling more than $1 billion of its reserves to steady the ringgit.

Violent Crime Wave Sweeps Country

Meanwhile, a new domestic problem has bubbled up that has nothing to do with

monetary or fiscal policy — violent crime. Native Malaysians and tourists alike have

learned to deal with run-of-the-mill urban crimes, such as pickpockets, purse

snatchers and injury-free muggings.

Now, however, some crimes have turned violent. Dozens of fatal shootings have been

reported this year, including daylight executions thought to be related to drug deals

or criminal gang activity. Knife-wielding robbers are suddenly wounding and

terrifying their victims.

Gunfire is common. In the city of Penang, 19 shootings have been reported so far in

2013. According to The Economist, 38 violent crimes occurred in one four-month

period across Malaysia, all involving firearms.

Business leaders worry that rising crime could affect the economy and discourage

foreign investment. “People feel scared and they don’t commit to investments,” said

Datuk Lim Kok Cheong , local president of the Chinese Chamber of Commerce.

“Even our own people don’t come out at night. The government has to take the

necessary steps, there are firearms everywhere,” the chamber leader said, according

to a report posted Aug. 26 on The Malaysian Insider website.

Analysis

Malaysia’s economy is a puzzle. It sends both encouraging and discouraging signals.

Its current maladies could be a bump in the road or the beginning of a downturn.

Foreign investors sense that Malaysia might be at a tipping point and many of them

have already removed their money from the country.

However, there are larger forces at work. Malaysia might instead simply be getting

punished by being lumped in with larger, struggling emerging markets, such as India

and Brazil. Capital flight is affecting emerging economies from Latin America to the

Far East.

This flight can be attributed to the U.S. Federal Reserve and the general perception

among investors that the Fed soon will wind down its easy-money policy. Central

bankers in the United States have engaged in buying U.S. Treasuries and mortgage

securities from the financial markets, an activity known as “quantitative easing.” This

policy lever is used to suppress interest rates in the United States. Monetary easing

thus encourages investors to seek higher-yielding investments in other countries,

including Malaysia.

The Fed recently indicated that it could reduce the level of easing, so investors have

pulled money out of emerging market stock and bond funds in anticipation of higher

returns at home. Malaysia may be getting unfairly targeted as a result. According to

economists and some financial analysts, its current difficulties are temporary.

Malaysian Prime Minister Najib Razak is acutely aware how painful a rapid devaluation

would be. A sudden devaluation of the ringgit decimated the Malaysian economy

during the 1997 and 1998 Asian financial crisis. This time around, Kuala Lumpur has

large currency reserves, enabling it to intervene and strengthen the ringgit before it

has a chance to drop precipitously.

The government also has correctly diagnosed the source of its GDP contraction —

falling exports. It thus has decided to spur consumer spending by sending cash

payments to citizens, giving bonuses to civil servants and raising the minimum wage.

The idea is to have consumer spending drive the economy until exports recover.

This prudent and nimble use of monetary and fiscal policy is based on lessons

learned from earlier crises and should save Malaysia’s economy from stumbling into a

death spiral. With current low unemployment and low inflation, Malaysia should be

able to endure a short-term decline in GDP growth.

One problem the government did not foresee, however, is the high percentage of debt

held by foreigners. At nearly 50 percent foreign ownership, there is always a chance

of a rapid sell-off in the bond market. Fear of political instability or other worries

could fuel a momentum swing against Malaysian bonds. This development would put

added pressure on the currency and affect interest rates at home.

The current crime wave is not the type of crisis that spurs such mass capital flight.

Malaysia certainly does not expose investors to the same political risk that they face

in, say, Egypt or Greece. But its domestic problems are unsettling.

Pundits have offered various explanations for the rise in crime. Gangs are stronger

and more sophisticated. A mass prisoner release in 2011 put many hardened

gangsters back on the streets. Police are perceived as corrupt and not trained in

modern crime-fighting techniques.

In response, citizens have begun to form neighborhood watch groups bordering on

vigilantism. Business leaders, too, are pressuring the government to act, so law

enforcement reform is likely on the way, provided that a cyclical downturn in foreign

investment doesn’t upset the apple cart.

Conclusion

It appears that Malaysia may have survived short-term turbulence stemming from an

across-the-board Asia sell-off by foreign investors. This time around, Malaysia’s

central bankers were ready with enough reserves to prop up the ringgit. GDP growth

is disappointing but not catastrophic and employment and inflation are still at

manageable levels. Fiscal stimulus has put more money in the pockets of consumers,

alleviating a drop in exports. The increase in crime is troublesome but could serve to

educate Malaysian politicians that thorny problems can arise at inopportune moments

in the economy.

TINY NONPROFIT CASTS WIDE NET IN HUNT FOR SANCTIONS

VIOLATORS

August 28, 2013 | Global Economics | Middle East-Iran

Summary

A low-budget American nonprofit has pioneered an ingenious software program that

tracks ships that are violating Iranian sanctions – and it seems to be more successful

at catching violators than some government agencies in the United States and Europe.

One recent case involved a Swedish shipping firm that was so brazen in its extralegal

maritime activities that it was accused of dispatching one of its tankers on regular

ports of call near Iranian military bases – and actually posted photos of Iranian vessels

on its website.

Tougher maritime sanctions against Iran passed went into effect July 1, and already a

handful of larger shipping lines from East Asia stopped doing business there. But

some smaller firms are still able to sneak around the new regulations, and industry

analysts believe that Iranian ships regularly use fake names and false flags to hide the

actual owners of the vessels and confuse investigators. Oil and other goods shipped

under these deceptive ploys are difficult to trace to Iran.

Background

The Swedish ship Persia has been operating near Iran full time and is allegedly

shipping fuel to Iranian ports that may include military depots and other defense

installations. The Swedish transportation company Stockholm Chartering AB is

responsible for the ship’s activities. An Iran sanctions watchdog group says this

vessel regularly docks at Iranian ports that are “known as hubs for petrochemical

exports and its military,” according to a July 18 Associated Press report.

If these reports are correct, the company would be in violation of international

economic sanctions levied against Iran over its nuclear program.

United Against Nuclear Iran (UANI) is a nonprofit advocacy organization with

headquarters in New York. The group monitors maritime operations around the world

and looks for violations of sanctions against Iran imposed by the United States, the

European Union and the United Nations. The group has a proprietary analysis

program that maps satellite surveillance data of ships at sea around the world.

UANI's ship-tracking data revealed that the Persia often sails to Iranian facilities and

ports at Bandar Imam Khomenei, Lavan Island and Chah Bahar. UANI has told the UN

about the ship’s routes and believes that shipments carried by the Swedish vessel

could assist Iranian navy and air force units stationed nearby.

Sweden and Stockholm Chartering are not the only countries and companies

appearing to skirt Iran sanctions. UANI discovered that three ships owned by

Germany’s Medallion Reederei GmbH have also regularly sailed to Iranian ports

managed by Tidewater Middle East Company, an Iranian firm subject to sanctions.

Medallion Reederei’s managing director said he was not aware of any violations and

that his firm always respects international sanctions, according to a June 20 New York

Times report.

UANI has told other media outlets that shipping companies engage in subterfuge to

mask their maritime relations with Iran. These scams include operating a ship under a

false flag or renaming the vessel to confuse record keepers. The watchdog group

alleges that the Iranian ship Parisan and other vessels have engaged in “mysterious

link-ups in the Red Sea” with other ships from Iran, Egypt and Turkey.

In March of this year, the U.S. Treasury Department caught and blacklisted a Greek

shipping magnate named Dimitris Cambis for an alleged complex crime that violated

sanctions against Iran. The Treasury Department, which is responsible for enforcing

U.S. sanctions, accused Cambis of buying oil tankers in collusion with Iran and then

shipping and selling oil for Tehran while disguising the tankers’ real ownership.

The U.S. Congress acted this year to better ensure that Iranian ships along with

commercial vessels from other countries would not violate sanctions. The latest

National Defense Authorization Act included language that specifically blacklisted

Iran’s “shipping, shipbuilding, energy and port management sectors,” according to a

July 2 Reuters report. This latest round of sanctions went into effect July 1.

In response, several Asian shipping companies decided to cease maritime transit

dealings with Iran. Two Chinese companies – China Shipping Container Lines and

COSCO Container Lines – reportedly have stopped doing business with Iran.

Two Taiwanese shippers – Evergreen and Yang Ming Marine – are also done working

with Iran. Singapore’s Pacific International Lines and two other shipping companies

from South Korea have pulled out of Iran as well, according to Reuters.

The sanctions are painting Tehran into a corner by limiting Iranian shipping routes,

according to Platts, an energy industry analyst. A managing director of Islamic

Republic of Iran Shipping Lines told Platts on July 5 that U.S. sanctions have worked to

essentially close Iranian lines between the Persian Gulf and East Asia and Europe.

However, the Iranian shipping manager said that some Iranian goods are still being

shipped to Europe despite the sanctions, and goods from abroad are being imported

with help from other states in the Middle East. “Domestic private companies and some

small foreign companies are helping us with maritime transportation,” Mohammad

Hossein Dajmar told Platts.

Analysis

So far, maritime enforcement of international sanctions against Iran has been a mixed

bag, with varying degrees of success and effectiveness. The Swedish shipping firm

has been “outed” by media and its alleged operations have been reported to the UN.

The Swedish company apparently had photos of Iranian ships on its corporate

website, and when questioned by UANI did not deny its ship’s movements to Iranian

ports near military bases.

Many shipping companies from China, Singapore, Taiwan and South Korea are no

longer doing business with Iran. A Greek shipping tycoon has been blacklisted for

nefarious acts related to Iranian oil exports.

However, most of these investigations have been conducted by nonprofit groups

rather than by government agencies in the United States and Europe. Sweden is an EU

member, but the Swedish ship’s travels to Iran were discovered by the American

watchdog group and apparently were not known to European law enforcement.

UANI’s ship-monitoring software uses publicly available data that the U.S. and

European governments can also access. But an Iranian shipping director said that

smaller companies are still able to transport Iranian goods by vessel to Europe and

Asia – implying that there are ways to get around trade sanctions.

Conclusion

When it comes to detecting violations of trade sanctions against Iran, it would appear

that one small nonprofit with an annual budget of about $1.5 million is doing a lot of

the investigative heavy lifting. Congress has tightened restrictions on Iranian

shipping, and this has led some large Asian shippers to discontinue shipments to and

from Iran. Smaller companies may still be getting around the sanctions. Moreover,

Iran is likely to continue using fake names and false flags on its ships. More law

enforcement agencies in Europe and the United States may need to be enlisted to

combat these persistent violations of maritime sanctions.

EUROPEAN POLITICIANS STUMPED BY HORDES OF JOBLESS

YOUTHS

August 26, 2013 | Global Economics | Europe

Summary

European leaders finally have taken notice of alarming levels of youth unemployment

— more than 50 percent in places — created by labor imbalances, high payroll taxes

and restrictive hiring laws, yet their solutions fail to address those basic causes.

Germany and France have some well thought-out reforms, but the southern European

countries reporting the highest rates of jobless young offer few policy innovations.

Germany wants its banks to provide capital to small businesses in Italy, Portugal and

Spain to kick start hiring. France plans to pay 75 percent of wages for new hires

between the ages of 16 and 25. The European Investment Bank would have a

significant role in addressing the problem, allocating more than $10 billion for new

hiring and training programs on the continent until 2020. Unfortunately, there are

just too many economic problems in Europe for a one-size-fits-all strategy.

Background

Overall, a quarter of Europeans under the age of 25 are unemployed. First, the

“good” news: Youth unemployment in France stands at 27 percent, and 120,000

French young people graduate from secondary school each year with no specific job

qualifications. The United Kingdom has a 20 percent youth unemployment rate.

For southern European youths, however, the problem is much worse. In Spain, the

jobless rate for people ages 15 to 24 is almost 60 percent. An estimated 40 percent

of this age group in Portugal and Italy are without jobs. In Greece the figure is about

58 percent. The problem is so acute that economists have created a new jobless

category called NEET — young people who are “Not in Employment, Education, or

Training.” There are 8 million NEETs in Europe, The Economist reported on July 20.

That works out to one in seven young Europeans idle.

Chronic joblessness has made it difficult for young people to afford separate living

arrangements. And it is not just youths between 15 and 24 who live with their

parents. Many Europeans ages 25 to 34 remain at home. In Italy and Greece, between

40 percent and 50 percent of adult children cannot move out, according to estimates.

Policymakers have made tackling youth unemployment a high priority. German

Chancellor Angela Merkel and French President Francois Hollande have been the most

outspoken leaders on the issue, with Merkel calling it Europe’s “most pressing

problem.”

A recent summit on youth unemployment in Berlin achieved some policy clarity.

Europe will soon create a “youth guarantee” in which young people will either have a

job or be enrolled in a university or some type of employment training program.

The plan sets aside $10.5 billion from 2014 to 2020 for various policy measures to

make this happen. Most of the funds will go to the European Investment Bank, which

will be responsible for helping small businesses finance industry training. One

proposal would enable young people to more easily change residences from a country

with high unemployment to one with lower unemployment and where jobs,

internships and apprenticeships are more plentiful.

Merkel and German economists believe the problem can best be addressed in

southern European countries by fortifying lending where bank allocation of capital is

inadequate. Merkel proposes that Germany’s development bank offer working capital

to small and medium-sized businesses in countries such as Spain, Portugal and Italy.

These enterprises could use the low-interest loans to hire more young people.

In France, Hollande has promoted a jobs program in which the French government

will pay up to a 75 percent subsidy of a young person’s wages to small businesses

who hire them. France also attempts to subsidize companies with “generation

contracts.” The scheme gives money to companies who hire in certain age brackets,

including under the age of 26.

European leaders have discussed the need for structural reforms when labor supply

does not match demand in a particular industry or location. Many college majors or

secondary school vocational programs in Europe are not meeting the need for

workers. Placing trainees in so-called “green jobs,” for example, has not succeeded in

reducing youth unemployment.

Economists also bristle at labor laws that make laying off or replacing workers

difficult in many European countries. This discourages the practice of replacing

unproductive older employees with more productive younger workers. High payroll

taxes discourage hiring, and welfare programs do not make benefits contingent on

looking or training for a new job.

Analysis

The youth unemployment crisis in Europe is creating what many are calling a “lost

generation.” Young people start their working lives burdened by student or consumer

loan debt and are forced to live with their parents longer than usual. Research on the

effects of early-career unemployment concludes that these late starters will earn

much less in their future jobs.

Idle youths are more prone to social problems as well, including higher rates of crime

and substance abuse. They can be more likely to feel politically disenfranchised and

subscribe to extremist worldviews or ideologies.

Europeans do not agree on whether unemployment should be solved by more

government stimulus spending, continued austerity or labor reform. Germany has

been successful with austerity thanks in part to a domestic labor force able to quickly

respond to changing employer needs, reforms that it undertook several years ago.

Most other countries, however, are not used to enforcing austerity measures. Their

workforces are dominated by labor unions and their laws discourage firing.

Berlin points to its highly flexible and effective vocational training programs, which

match workers with an industrial sector at an early age instead of waiting until they

reach their 20s. However, even the most successful vocational education initiatives

cannot foresee economic changes that eliminate jobs in a particular industry. The

green technology sector, for instance, was undercut by low-cost manufacturing in

China.

Sweeping government programs that target young people have a poor track record in

Europe. In France, every government since 1995 has attempted to solve the youth

unemployment problem. President Nicolas Sarkozy in 2009 attempted to offer

companies tax breaks to hire youth, but his incentives met with mixed results, the

Christian Science Monitor reported in May.

Conclusion

European policymakers have been slow to recognize the youth joblessness problem

and do not offer solutions that address its myriad causes, including business cycles,

restrictive laws, payroll taxes, labor imbalances, uneven allocation of business capital,

inadequate training, over-reliance on welfare programs, protective subsidies and

uncompetitive industries. In any case, the European Union as a whole is not really

attempting sweeping, innovative reforms. The $10.5 billion set aside over the next six

years to fund Europe’s “youth guarantee” is unlikely to make a difference. It appears

that each country is on its own to make incremental changes. Meanwhile, young

people will have to rely on their parents and temporary jobs to get by.

GREECE CAN KEEP THE LIGHTS ON, BUT COLD WINTER AWAITS

August 2, 2013 | Global Economics | Europe

Summary

By barely passing legislative reforms and getting a summertime bonus of European

financial aid, Greece has somehow avoided exiting the euro zone and has enough

funding to make it through this year. Many difficulties remain, however, and there is

no single remedy for its ailing economy. Unemployment in Greece stands at 27

percent, youth joblessness has topped 60 percent and the national debt is nearly

twice the gross domestic product.

Greece is forecast to have another budget shortfall between 2015 and 2016. The one

bright spot is growing revenue from tourism, but persistent deflation could erase

those gains. Greek legislators are worn out and are offering no solutions. Some

disaffected voters are signing up with extremist political parties or abandoning the

country for better economic opportunity abroad.

Background

The International Monetary Fund (IMF) gave the green light on July 29 to another

$2.29 billion loan package to Athens after the fund carried out its fourth review of

Greece’s bailout plan. Athens had finally implemented the last items of required

legislation that will hopefully begin the mandatory fiscal and economic reforms to rein

in runaway government salaries and bloated pension obligations.

Greece received its first bailout in 2010. The IMF has now appropriated nearly $11

billion in aid in accordance with the bailout measures adopted by the European Union

and the European Central Bank in March 2012.

On July 26, the EU agreed to pay Greece $3.3 billion as part of that bailout. The ECB

also opted to grant Greece $2 billion in profits the central bank accrued when it sold

its stake of Greek sovereign debt on the open market. This largess is contingent on

approval by various European legislatures but Greece is expected to get the check.

These funds should allow Athens to meet its fiscal and budgetary obligations until

winter. But EU economists predict Greece will face another budget shortfall of $5.1

billion (2 percent of GDP) in 2015 or 2016.

The latest aid has some Greek policymakers sounding optimistic. Finance Minister

Yannis Stournaras believes that Greece can plug future budget shortfalls since higher

levels of tourism should send more tax revenue to the government. Although Greece

is in a difficult recession, Stournaras believes his country will transition to GDP growth

next year and could even forgo some of its future bailout funding and use greater

amounts of private credit instead.

“If we have a positive growth rate for one or two quarters and at the same time have a

primary surplus, then anything is possible – even to tap markets next year,”

Stournaras said, according to a July 30 Reuters news report.

Stournaras, however, has glossed over some inconvenient facts. With a current

unemployment rate of 27 percent, Greece has lost an estimated 1 million jobs since

2008. Two out of three young people are believed to be out of work. The recession

may lower GDP in 2013 to minus 5 percent. Overall Greek debt stands at a whopping

160 percent of GDP.

Moreover, Greece is fighting deflation for the first time in 45 years. Deflation in

Greece is the worst in the EU as consumer prices dropped by about 0.6 percent in

April. The rate of deflation improved slightly in May to 0.3 percent but remains a

nagging problem.

While protests and political violence have subsided somewhat, the country is still

unstable. Austerity measures including cutting government jobs and pay rates remain

highly unpopular. Protests flared in Athens on July 7 when the mayor was attacked by

a mob outside a government office. He sustained injuries that required a brief trip to

a hospital.

Extremist groups have cropped up during the past few years, capitalizing on the

unrest. One ultra-nationalist party, Golden Dawn, is increasingly in vogue. Critics call

it fascist and say its members greet each other with Nazi salutes. Party members have

also been arrested for attacks on immigrants.

Meanwhile, the government has increased police powers to counter unrest. After

months of riots, police have been given greater permission to stop and search people

without probable cause. Some suspects reportedly are jailed without due process.

Analysis

Certain European and Greek policymakers and economists should be given credit for

keeping Greece afloat and avoiding a Greek exit from the euro zone. EU and IMF

efforts, along with lower costs to service its debt, should give Greece the funds it

needs to operate through 2013.

Except for tourism, however, Greece’s economy is not getting better. There is simply

no way that gains in tourism can grow the country out of recession.

The lack of private-sector jobs is debilitating and forces frightened citizens to hang

on desperately to their civil service jobs. Young people have few options. They can

stay in Greece without a job and join street protests against austerity, or they can

leave the country and find a better life.

The exodus of youth that is occurring in Greece bodes poorly for the nation’s future.

And young people aren’t the only ones who are leaving; retirees are looking at a

future in which the government may not be able to pay them enough to live on.

Greek members of Parliament have faced economic crises for years now. They are

tired and produce few new ideas. Policymakers are conducting very little strategic

economic planning, having grown accustomed to reacting to the latest crisis that

greets them each day.

Some think tanks, including the Levy Economics Institute at Bard College in New York,

have proposed a huge international stimulus program for Greece that would be

similar to the Marshall Plan that rescued the German economy after World War II.

This “shock therapy” would entail the Greek government embarking on an audacious

New Deal type of public works initiative, funded by the European Investment Bank,

which would put people to work as quickly as possible. The institute estimates that if

Greece can create at least 200,000 new jobs, deficit and debt reduction goals could

be met and positive economic growth could be attained.

Many observers immediately grasp that sustained high levels of debt and joblessness

along with negative GDP growth will destroy Greece’s economy. Deflation should be

added to this list.

Long periods of deflation can hamstring economic growth by hurting internal

consumption and tax receipts. If consumers believe that prices will fall in the future,

they will put off major purchases. And for governments like Greece that depend on a

value added tax on the purchase price of consumer goods, lower prices mean lower

tax revenue.

Greece’s inability to collect income taxes and its citizens’ habitual practice of refusing

to pay taxes or cheating the tax collector has often been cited as a key contributor to

the nation’s deficit and debt problem.

Greece has also been known to misrepresent economic and budget statistics and to

fudge forecasts, so the country’s deficits and revenue projections could be worse that

what is being reported.

Conclusion

Greece has likely avoided an exit from the European Union. It appears that the EU and

the European Central Bank are satisfied, at least for now, that Greek politicians have

passed the needed reforms to stop the bleeding. This means that there should be

enough operating funds to prevent the government from imploding this year.

However, in order to meet expected budget shortfalls in 2015, Greece’s finance

minister is betting that the recession will end in 2014 and the country will enjoy

positive GDP growth once again. This is an optimistic scenario that is unaccompanied

by a longer-term economic plan that solves the problems of deflation, high

unemployment and declining consumer spending.

HOW THE EMERGING MARKETS CRASH IS HURTING GLOBAL GDP

July 5, 2013 | Global Economics | Asia and the Pacific

Summary

Nose-diving commodity prices and loose monetary policies in the developed world

have combined to create a pincer effect on emerging markets, one powerful enough

to slow the world’s economic growth. Major emerging markets are falling across the

board, with annual GDP growth in China now below 8 percent after several years in

double digits; India down to 5 percent economic growth down from 9 percent last

year, and Russia and Brazil at below 3 percent growth, according to the International

Monetary Fund.

As a result of the slow-down in the growth of these emerging markets, economists

now call for 2 percent global GDP expansion in 2013, compared to nearly 5 percent in

2010. Falling commodity prices are an obvious problem for an economic model based

on export growth, but the emerging world also must face up to evaporating demand

for its finished goods and fickle foreign investors who fear instability and often bail

out of emerging debt and equities markets at a moment’s notice.

Background

In 1981, while working for Salomon Brothers, an international economic analyst

named Antoine van Agtmael came up with an idea for a new mutual fund that would

invest in stocks from developing countries. He called it the “Third World Equity Fund.”

A critic pointed out that people avoided investing in the Third World during the Cold

War, so Agtmael rebranded his concept as an “emerging markets” product.

Capital International started the first emerging markets mutual fund in 1986. Today,

U.S. investors have placed an estimated $420 billion in emerging markets

investments, The Wall Street Journal reported in April. In 2001, British economist Jim

O’Neill, then head of global economic research at Goldman Sachs, coined the term

“BRICs,” a catchy acronym for the red-hot economies of the largest emerging markets

of Brazil, Russia, India and China.

Until the global economic crisis of 2008, investments in the emerging markets and in

BRIC countries surged on an export boom led by commodities and manufactured

goods. Recently, however, the Word Bank has turned pessimistic on the global

economy. A slowdown in the emerging markets is cited as one reason. The bank has

cut its growth forecast for the global economy to 2.2 percent, slightly lower than the

2.3 percent of last year and lower than the 2.4 percent it predicted in January.

Instead of the 5.5 percent growth clip predicted for emerging economies at the

beginning of the year, the World Bank believes that rate will fall to 5.1 percent.

China’s growth will dip to 7.7 percent. Brazil’s economy has cratered to an annual

growth rate of 2.9 percent expected in 2013. India also will limp through the rest of

the year at 5.7 percent rather than the 6.1 percent growth forecast earlier this year.

Analysts at Capital Economics, a research firm in London, believe that emerging

markets in aggregate will grow at a 4 percent rate, a sluggish number not seen since

2009.

As a result, many investors are heading for the exits. On July 1, The Wall Street

Journal reported that $6 billion has been pulled from emerging market bond mutual

funds. Bloomberg News reported that almost $14 billion left emerging market stock

funds in late May and early June.

According to Bloomberg Businessweek reporting in June, seven of the 10 worst-

performing stock markets of recent weeks were in developing markets. Brazil’s stock

market has dropped 22 percent year-to-date. Turkish equities fell 11 percent in the

first quarter. Developing countries’ currencies have taken a beating. Brazil’s real and

India’s rupee have fallen by double digits against the U.S. dollar.

Long-term forecasts, however, are more bullish. The World Bank, despite its current

skepticism, thinks emerging countries will see growth increase to 5.7 percent by

2015, reported Bloomberg News. The Financial Times reported on June 4 that by

2018, emerging markets will produce more than 55 percent of the world’s goods and

services.

Analysis

Export-driven emerging markets depend on commodity prices, which have mostly

contracted in recent years compared to the first half of the previous decade. Demand

for copper and iron ore used in construction is not what it was before the financial

crisis. Global electricity production is down, so the need for coal and natural gas has

abated. Russia is probably the emerging market most affected by price volatility in the

energy sector.

China’s problems with its banking system and the availability of credit have negatively

impacted its manufacturing sector. In addition, China’s growth depends primarily on

government investment. Consumer spending alone is still not enough to drive its

economy forward.

In the developed markets — particularly in the United States, Europe and Japan —

loose monetary policies have driven down “safe money” bond yields. In such times,

global investors typically look to emerging markets bonds for better yields.

On May 22, U.S. Federal Reserve Bank Chairman Ben Bernanke announced that the

U.S. central bank could end or curtail its monetary stimulus, although nothing about

policy has changed. Central banks in other countries, including Japan, England and

Switzerland, are continuing their own accommodative monetary policies, using lower

interest rates to boost growth.

Such expansive policy efforts artificially devalue a country’s currency, making imports

expensive. The result is lessening export growth in emerging markets such as Brazil.

Slow economic growth and unemployment in Europe also has hurt demand for

manufactured goods from China and demand for services from India.

Under economic pressure, some emerging market countries find that weak governing

institutions lead to instability. Brazil, Egypt, Turkey and South Africa have endured

violent protest marches, demonstrations and labor strikes this year, shaking investor

confidence.

Emerging economies in the Association of Southeast Asian Nations (ASEAN) seem to

be doing better in terms of political stability and growth. Indonesia, Malaysia, and the

Philippines expect 5-6 percent growth over the course of 2013. Thailand and Vietnam

should report similar results.

Overall, struggling emerging markets mean global economic growth could continue to

be in the 2 percent range in the coming years, not a high enough rate to bring more

into the middle classes, where they might consume more, nor enough to lift people in

less-developed countries out of poverty.

Conclusion

Slow economic growth in the United States and Europe has reduced demand for

exports of commodities and manufactured goods from emerging markets, hitting

those countries hard, particularly Brazil, Russia, India and China, the “BRIC” nations.

Loose monetary policy in the developed world helps emerging economies by driving

global investors toward their higher-yielding bonds and growth stocks. But those

same policies also put emerging nation currencies at a disadvantage, killing export

growth in BRIC countries such as Brazil. Political instability and violent protests often

prompt investors to pull money out of emerging markets and discourage new foreign

direct investment. Global economic growth fades as a result.

CHINA: DESPITE ‘PLAN,’ SWEEPING ECONOMIC REFORM

DIFFICULT

June 12, 2013 | Global Economics | Asia and the Pacific

Summary

As many of the world’s economies struggle with low growth and high unemployment,

some look to China to power a sustained global recovery, an effective strategy after

9-11 but one that did not work as well following the 2008 credit crisis. The relatively

green Chinese political leadership team has carefully publicized a new “seven-point

blueprint” economic plan to confront slowing growth, to be unveiled at a party

summit this autumn, but LIGNET believes wholesale change is unlikely.

Rather than a robust, transformative package, however much one might be needed,

the blueprint is likely to offer a few pilot programs and policy trial balloons. That’s

because Beijing generally prefers its own hybrid form of “authoritarian capitalism”

over adherence to free market ideals and rapid change, while many Chinese believe

their economic system simply works better than Western models.

Background

China’s economy is slowing. Gross domestic product growth for the first quarter of

this year cooled to a 13-year low, ringing in at just 7.7 percent. China’s

manufacturing data has struggled to keep the pace it established over the last

decade.

Various surveys conducted in China have offered different conclusions, but it is clear

that manufacturing output growth has been mediocre. Reported measurements have

struggled to remain at a score of 50, the threshold that indicates contraction or

expansion.

For years, China depended on government-led investment and stimulus spending to

stoke the economy and create jobs. Meanwhile, private capital formation is a much

different process in China. Cronyism and political connections play a big role in

determining who will be awarded financing. On top of that, the government has

begun to clamp down, restricting borrowing because a huge stimulus package after

the global financial crisis has led to runaway asset price growth, particularly in the

real estate sector.

Most people and small businesses in China instead rely on “shadow” banking, off

balance-sheet lending that gets around government quotas, including high-interest

borrowing from loan sharks and pawnshops. JP Morgan recently estimated that this

underground part of China’s finance economy is worth almost $6 trillion (or 69

percent of total GDP), Bloomberg Businessweek reported on May 8.

China President Xi Jinping and Premier Li Keqiang are quite aware of slowing growth

due to structural problems in the economy and the danger of not creating enough

new jobs. They reportedly have assigned economic planning expert Liu He the

unenviable task of creating a “seven-point blueprint” for economic reform for the

next Communist Party plenary session in October, reported The Atlantic on May 14.

Liu is the architect of China’s current five-year plan.

Many international economics consultancies, think tanks and academics believe that

China must liberalize its capital account. Government capital controls now strictly

limit monetary flows in and out of the country.

A country’s capital account affects investors, who look for the highest return on

investment while assuming a manageable level of risk. Part of a country’s capital

account is the total of its foreign direct investment. That could be in the form of a

new factory, portfolio investments in stocks and bonds, speculative loans or

conservative bank account savings. Chinese savers also seek a return on investment,

increasingly outside of China.

The Chinese government must keep its capital account from running either too hot or

too cold. State planners want a stable money supply that will keep the currency

exchange rate steady. It’s still a command-and-control economy, after the age-old

communist model.

The government in 2002 instituted what it believed were generous “capital controls,”

allowing its citizens to send some money outside China to chase higher returns.

Currently, an individual is limited to exchanging $50,000 a year into a foreign

currency. This is not much money among the nouveau riche class in China, which

desperately wants to send much more of its assets abroad. The new middle class also

is interested in investing overseas.

Sometimes investors can be certified as “qualified foreign institutional investors,”

giving them access to foreign markets. As one can imagine, this coveted designation

is difficult to attain and often based on political connections.

Why Capital Account Reform is Desirable

If Beijing liberalizes its capital controls, China could become a more modern,

balanced and conventional economy, according to proponents of this theory. The

volatility of economic “booms, bubbles and busts” could be mitigated. Floating

exchange rates would be possible, rather than fixed rates. Interest rates also could

float, depending on the market forces of credit supply and demand.

China could then sell its sovereign bonds on the international market with predictable

maturities of 20 year and 30 years and thus finance its debt in a way similar to the

United States and other countries. Shadow banking would be curtailed naturally,

rather than by government fiat. China then could aspire to becoming an international

reserve currency, like the dollar, yen and the euro are today.

Potential Reforms

Other important reforms are possible, although unlikely, in the blueprint expected in

October. Tax reform would allow local governments to collect revenue by levying

taxes on retail sales and capital gains, rather than relying on property taxes.

The loosening of labor laws, too, would allow people to move around to take better

jobs in different parts of China. As it stands now, residents only receive government

welfare benefits in their hometowns. If they move, they lose those benefits. With

reform, more people in rural areas could move to cities, get higher paying jobs and

start spending money on consumer goods.

Analysis

Despite all these rosy scenarios, broad-based structural economic reform is not likely

for such an entrenched communist country. Xi and Li, in their first year at the helm,

are not expected to shake up the economy through capital account modifications.

There are many reasons for this, but mostly it is political inertia and communist

orthodoxy. Economic philosophy is a major obstacle to change. The Chinese simply

think that their current version of “authoritarian capitalism,” along with the many

perceived benefits of a centrally planned command economy, is just flat-out better.

Why should they change to the “Washington consensus” of free-market mechanisms

when that very same Western model nearly brought down the global economy in the

2008 financial crisis? The Chinese generally think their way is superior. Drastic

change would suggest that communism with capitalist characteristics is flawed.

The plenary session, however, is indeed an interesting symbolic forum, one fit for

announcing sweeping reforms. If anything dramatic happens, it would probably be

rolled out in this venue. This is where Deng Xiaoping introduced the “shot heard

round the world” economic vision in 1978, which eventually opened up the closed

Chinese economy.

Xi is much less charismatic and is more cautious than Deng. This year’s reform

blueprint is likely to be incremental rather than sweeping.

Policy incrementalism, however, may be a good thing, according to some scholars.

Revered Chinese economist Yu Yongding believes that it was China’s capital controls

that kept the country from imploding during the Asian financial crisis of 1997 and

1998.

Yu supports very slow changes to China’s economy because he thinks enabling a

floating exchange rate would eliminate an important policy lever. Think about how

little control a U.S. president has over the domestic economy. Xi may not want to

surrender this power to market forces.

Yu also thinks relaxing capital controls would encourage too many Chinese to

expatriate funds all at once, an outcome he considers disastrous. The lack of clear

property rights in China could encourage a scary environment of money laundering

and other financial tricks that might lead to economic turbulence and anarchy,

destabilization that order-loving Chinese fear.

Conclusion

Handicapping the rate of political and economic reform has become a cottage

industry for China watchers. Numerous observers, for instance, have pointed out that

free market reforms in China could lead to more democracy and an accompanying

increase in political rights and individual liberties. Such predictions, however, often

are proven wrong. By the same token, self-styled policy gurus prescribe various

“tune-ups” for the Chinese economy based on the Washington free-market

consensus. LIGNET believes that the current old-guard, change-resistant policy

environment in China will not allow major reforms. Many Chinese, too, cherish the

thought that their brand of authoritarian capitalism is the best in the world and thus

see no reason for change.

BITCOIN VIRTUAL MONEY OPENS DOOR FOR TERROR FINANCE

April 15, 2013 | Security, Global Economics | Asia and the Pacific, The

Americas

Summary

Bitcoins, a virtual, digital, peer-to-peer currency traded over the Internet, are an

alternative to traditional currencies that provide secrecy and anonymity for

international financial transactions. These features are worrying governments since

they have made the virtual currency popular with criminals and potential terrorists.

In response to the growing popularity of bitcoins, the U.S. Department of Defense

(DOD) is coordinating with other agencies to form a new anti-terror mechanism called

“counter threat finance.” This is the catch-all term for law enforcement, intelligence

and military organizations created to disrupt and defeat terrorist financial networks.

Unfortunately, the “Bitcoin economy” has a head start on American law enforcement

agencies.

Background

The Bitcoin is a virtual currency used online for a dizzying array of goods and services

around the world, from digital music to drugs and more. There are nearly 11 million

Bitcoins moving around the web and about 25 of them are produced every 10

minutes, according to an April 10 report in The Weekly Standard. Bitcoins can be

found or “mined” by specialized software. People who own Bitcoins have an electronic

wallet to hold them.

To enable a Bitcoin transaction, users download software that provides a unique

address of 36 random characters. The software talks to another user with this

anonymous address.

When two users want to exchange the currency for a product, the Bitcoins are passed

by a peer-to-peer network that completes the transaction. Bitcoins can also be

exchanged for dollars, pounds or euros on a web site called “Mt. Gox”

(www.mtgox.com). Mt. Gox is operated by Japanese company Tibanne Ltd. and

handles more that 70 percent of Bitcoin trading.

Bitcoins were launched in 2009 by an unknown person or group called “Satoshi

Nakamoto.” It was born in response to upheaval from the global financial crisis.

Bitcoins thus were designed to be independent of any country’s economy. The coins

are supposed to stop being produced by servers once the number in circulation

reaches 21 million.

The digital currency became suddenly popular in recent weeks following the banking

crisis in Cyprus, where many savers were restricted from accessing their accounts.

Panic, fear and greed has attracted speculators into the Bitcoin market and the

currency has become volatile.

Spot prices for Bitcoins have ranged as high as $260. Last week, the Bitcoin to U.S.

dollar exchange rate plummeted due to high volatility and several denial-of-service

cyber-attacks that caused trading to be suspended. On April 10, Bitcoins plunged in

value more than 60 percent before leveling out to a 37 percent drop. The next day,

however, it dropped another 35 percent.

Bitcoins closed on April 12 at $77.56, causing Bitcoin owners to lose about $2 billion

last week. Monday morning trading of Bitcoins on mtgox.com in Tokyo (10:30 PM EDT

April 14) was about $95.

Due to the secretive nature of bitcoins, international criminals and terrorists are

attracted to the online currency. The FBI compiled a comprehensive report that was

leaked to media outlets in 2012, entitled “Bitcoin Virtual Currency: Unique Features

Present Distinct Challenges for Deterring Illicit Activity.” Click HERE to read this

report.

“Bitcoins might logically attract money launderers, human traffickers, terrorists, and

other criminals who avoid traditional financial systems by using the Internet to

conduct global monetary transfers,” according to the FBI report.

U.S. Ready to Fight Financial Terror Networks

Since 9-11, numerous U.S. government agencies have fought financial terror

networks on many fronts. Recently, the DOD has categorized these efforts into a

program called “Interagency Counter Threat Finance,” an umbrella concept for efforts

to target financial networks used for terror.

Since Bitcoins are a nearly perfect tool for money laundering, it is likely that the DOD

and other departments already monitor the ebbs and flows of such online currencies

and their links to terror cells.

In 2012, the U.S. Army War College published the most comprehensive overview of

counter-threat finance activity at the Pentagon. The report, written by Marine Lt. Col.

Jennifer E. Carter, describes how DOD coordinates with federal departments such as

Treasury, State and Justice, along with various intelligence agencies, to “attack or

block financial lines of communications and disrupt networks.”

An example of counter-threat finance would be the Defense Intelligence Agency’s

“Global Harvest” program, which specializes in rooting out financial terror. Global

Harvest had fallen under the Air Force’s oversight for several years but is currently

transitioning to the responsibility of Secretary of Defense, reported Defense News on

November 29, 2012.

Defense News reported that Global Harvest “provides timely all-source fused

intelligence assessments on terrorist organizations and illicit finance,” according to a

DOD contracting document.

Analysis

LIGNET believes that anonymous electronic wallets full of Bitcoins are likely to become

a popular tool among international criminals and terrorists. Nevertheless, the FBI

realizes that online manhunts for criminal figures who seek to exploit Bitcoins will

divert time and resources away from other investigations.

There are too many ways to foil investigators attempting to discern who is behind

virtualized financial transactions. Terrorists and criminals could use hackers to steal

Bitcoins from other users by installing malware on computers, for example. In

addition, simple add-on code could make an already anonymous bitcoin trail literally

untraceable, Forbes.com reported last week.

Online black markets, such as one named “Silk Road,” offer contraband items,

including illegal drugs, in exchange for Bitcoins. It is easy to see how terrorists could

profit in the real-world drug trade and then conceal these earnings by laundering

money through Bitcoin exchange sites.

Terrorists long have used underground banking schemes, charities and dummy

companies to hide or redistribute illegal funds. The U.S. government has been

moderately successful in disrupting these types of financing networks. Bitcoins move

the goal posts and make such techniques viable once again.

State sponsors of terror, meanwhile, could have a heyday with Bitcoins. Governments

who back terrorists would be able to create multiple accounts and use third-party

services to secretly consolidate these accounts in order to launder money. They then

could send Bitcoins to terrorist cells around the world without a trace.

The development of the counter-threat finance concept to fight financial networks is

a significant innovation for the Pentagon. Many government contracts, job listings

and training sessions use the label, but there is so far few little to show in the way of

major busts or infiltration that has resulted in bringing terrorists who use Bitcoins to

justice.

Nevertheless, it is likely that interagency task forces have been created to monitor

Bitcoin activity around the world.

One of the problems with interagency counter-threat finance, however, is assigning

responsibility for handling the Bitcoin issue. Is it a law enforcement problem to be

handled in jails and courtrooms? An intelligence strategy that could be used to find,

capture and question terrorist kingpins? Are online currencies a U.S. Treasury

problem that needs to be shut down in America by the Secret Service? Or should

bitcoin networks somehow be destroyed by cyber-warfare units of the DOD?

One theoretical advantage of Bitcoin proliferation would be what the Army War

College calls the “first strike option” for pre-emptive attacks against terror groups. As

cyber warfare, this type of virtual combat would not risk death or injury in the

traditional sense. In theory, fighting terror online through finance could reduce the

necessity for raids using real soldiers against a hard target.

Conclusion

Bitcoins may be considered a gimmick now, but their use could easily become the

basis of a major shift in terrorist financial activities, one that can be used to hide state

sponsors of terror and line the pockets of terrorist cells. Counter-threat finance

groups are gearing up to meet the challenge, but many unanswered questions

remain. More human capital and expertise from different agencies is beneficial, but it

is not clear how best to overcome the early advantage Bitcoins give underworld

figures. Counter-threat finance does have the potential advantage, however, of being

able to preempt online activity without losing real agents or soldiers in the field.

SOUTH KOREA WILL RECOVER QUICKLY FROM NORTH’S

ECONOMIC WARFARE

April 11, 2013 | Security, Global Economics | Asia and the Pacific

Summary

The stream of rhetoric from North Korea over the last few weeks has been mainly

focused on military aggression, but there has also been an economic dimension and

the drumbeat of threats has hurt South Korean financial markets. The effect, however,

is likely only temporary, while even a small military conflict would have significant and

lasting economic consequences for South Korea.

LIGNET believes that Kim Jong Un is attempting to wage economic warfare against the

South, but that the South's economy is strong enough to prevent serious damage.

Many automotive, electronic, and industrial firms in South Korea are global leaders

with strong earnings and are resilient enough to overcome bad news days. LIGNET

judges that the South Korean economy, due to its low interest rates, tame inflation,

and minimal unemployment figures, will finish 2013 strongly and that its stock prices

will begin rebounding by this autumn.

Background

South Korean stock and currency markets have been volatile almost the entire year.

Various funds tracking South Korean electronics, automotive, and industrial equities

have moved downward since North Korea tested a nuclear device on February 12.

Escalating tensions since the UN Security Council imposed more extensive sanctions

on the North on March 7 put more downward pressure on South Korean stock prices

and encouraged investors to sell Korean equities and bonds.

Investors have sold around $3.5 billion in South Korean stocks and bonds this year

according to the Wall Street Journal. Foreign investors unloaded nearly $330 million

dollars of equities in just one day on April 8.

The Korean Composite Stock Price Index (KOSPI) includes major corporations such as

Samsung Electronics, Hyundai Motor Co., Kia Motors, and LG Chemical. Stocks for

these companies trade on the over-the-counter market.

The KOSPI took a huge dive last week when it endured its worst five-day trading

period since May 2012. A volatility that tracks the KOSPI -- the KOSPI 200 Volatility

Index -- surged 29 percent last week on April 5, an indication that there is ample

anxiety among traders in the South Korean market.

The benchmark KOSPI index has fallen nearly 4 percent since the beginning of the

year, but the big sell-off has been in more broadly traded funds that contain some of

the same holdings as KOSPI.

For example, EWY (AMEX:EWY), the iShares exchange-traded fund for South Korea

that tracks Samsung, Hyundai, and others, is off 11.8 percent year-to-date. The

Korea Fund (NYSE: KF), a closed-end fund of large South Korean firms, is down 9.7

percent for the year.

The South Korean won has also taken a beating in the foreign exchange markets. The

won hit its lowest level against the dollar in almost nine months on April 8. It has lost

around 6 percent versus the dollar since the beginning of the year. The government

said it is watching won exchange levels closely and will intervene in the foreign

exchange markets to prop up the nation’s currency if needed.

Some investors have also become rattled by North Korea’s threat to close the joint

industrial complex at Kaesong. North Korea has blocked South Korean workers from

the complex for about a week and withdrew North Korean workers from its factories

on April 8. Kaesong has 120 South Korean companies who employ cheap North

Korean laborers.

Analysis

Most attention on the Korean peninsula has been focused on the military aspect of

the conflict, but LIGNET believes that the North is also practicing a form of economic

warfare against the South.

Kim Jong Un would love to believe he is responsible for sabotaging South Korean

financial markets and discouraging foreigners from investing in the South. If he could

scare away foreign direct investment with North Korea’s distinct mix of purple

rhetoric, propaganda, strategic communications, and psychological operations, he

could hurt Seoul without firing a shot.

Kim also understands that increased fear and the perception of greater market risk

can intensify stock, bond, and currency price reactions that will hurt South Korea

financially.

However, experienced South Korean traders and financial analysts have endured

crises on the Korean peninsula before and they are unlikely to overreact to North

Korean provocations.

In 2010, after a North Korean torpedo sunk the South Korean navy ship, the Chenoan,

killing 46 South Korean sailors, financial analysts referred to the ensuing market

turbulence as the “North Korean Risk.”

Foreign investors dumped South Korean stocks, bonds, and won for several days. The

won-dollar exchange rate rocketed upward 9 percent in four trading days. But this

disruption was short-lived and not widely covered by the media.

Like most markets around the world, South Korean financial markets have a way of

quickly pricing in actions during the 24-7 news cycle. Even though media outlets

trumpet even the slightest happening as a major newsflash, after a while, traders get

used to the patterns and are more likely block out the daily news churn as

background noise.

If North Korea launches attacks on the scale of 2010, there is a potential for South

Korean retaliation which could lead to a ‘hot war.’ (Click HERE to read a special

LIGNET analysis of this issue.) Such a development would have devastating effects for

South Korea and possibly Japan, both in terms of loss of life but also for their

economies. While many experts believe North Korea could still conduct attacks similar

to 2010, it appears intent at this time on demonstrating its military might.

New launches of North Korean ballistic missiles that go harmlessly out to sea will have

no significant effect on South Korean or Japanese financial markets. There could be a

short-term effect if any missiles happened to come down on South Korean or

Japanese territory. This effect would be greater if an errant missile caused loss of life

in another country.

A more serious and continuing risk to the South Korean economy from North Korea

may come from cyber-attacks. North Korean intelligence is believed to operate a

capable and effective cyber-terrorism unit employing over 3,000 computer hackers.

On March 20, around 48,000 personal computers and servers at three major banks

and three television stations were infected by malware. South Korean investigators

announced April 10 that they believe North Korea was behind these cyber-attacks.

This type of economic warfare could be devastating to a country such as South Korea

that is considered one of the most wired places on the globe.

North Korea has been blamed for other cyber-attacks against South Korea and for

disrupting airline flights into and out of Seoul’s airport (Incheon) by jamming GPS

signals.

Kim Jong Un is also trying to frighten tourists from visiting Seoul and other vacation

sites even though the Korean Tourism Organization recently announced that a record

number of visitors came to South Korea in March according to CNN on April 9. The

U.S. embassy in Seoul has not changed its security posture nor has it delivered any

new travel advisories.

Not every investor is heading for the exits either. Many financial analysts note that the

South Korean economy is fairly strong with low interest rates and relatively low

inflation. The unemployment rate was only 3.5 percent in March.

Moreover, several of the companies on KOSPI, especially Samsung, have strong

fundamentals. Samsung is leading the world in mobile phone market share -- even

besting Apple in recent estimates. Bargain hunters may be able to find some

appealing equity prices now and then wait for tensions to subside on the peninsula

later -- enabling them to make a decent profit.

Asian markets also have a history of roaring back to life after downturns. Thailand’s

equities recovered strongly after the 2011 floods and Japan’s markets came back

after the huge earthquake and nuclear disaster at Fukushima in 2011.

Conclusion

South Korea’s financial markets, particularly funds that track companies on its

benchmark index, have been negatively affected by this year’s crisis on the Korean

peninsula. This can be partially attributed to Kim Jong Un’s ham-handed attempts at

economic warfare. Obviously, any type of armed action or focusing event such as a

nuclear test or missile launch would make for very volatile trading days. But military

incidents on the scale of North Korean attacks in 2010 would likely only have short-

term market consequences. South Korea’s economy is strong enough to “take a

punch” and companies on its major stock index should overcome current losses and

finish the year in positive territory.

ARGENTINA: DAMAGE FROM KIRCHNER WRECKING BALL PILING

UP

February 27, 2013 | Global Economics | South America

Summary

The economic policies of President Cristina Fernandez de Kirchner have damaged

Argentina’s economy to such an extent that a turnaround is unlikely in 2013, or even

2014. Ratings agencies say Argentina is headed for another default on its debt and

international investors are running for the exits. A LIGNET analyst led a trade

delegation to Argentina last year, and gives a first-hand account of the situation

there.

Kirchner is promoting a statist, isolated, and closed economy that is allied with leftist

governments in Latin America. In the last 12 to 18 months, Kirchner’s government

has insulted its former allies, raised protective trade barriers, thumbed its nose at

creditors, and hurt its own middle class by ignoring inflation and restricting currency

exchange.

Background

Argentina’s economy enjoyed an excellent run during the last decade. The average

gross domestic product (GDP) rose 7.7 percent a year from 2004 to 2010. This boom

was fueled by the global bull market in commodities and exports from soybeans,

grain, and beef. However, according to the CIA World Factbook, 2012 saw a marked

slowdown for Argentina’s economy. Fourth quarter 2012 GDP growth rate dipped to

0.6 percent while annual growth dropped to 2.6 percent.

President Kirchner was re-elected in 2011 with 54 percent of the vote, but the wife of

the late president, Nestor Kirchner, saw many constituent groups turn against her

controversial economic policies. Kirchner has battled the media, farmers, the oil and

gas industry, unions, business executives, the military, and the judicial branch. She

has witnessed mass strikes and protests while her approval rating has sunk to 39

percent, according to the Economist.

Inflation is the most serious economic problem for Argentina. Kirchner claims the

official inflation rate is below 11 percent while independent economists estimate

consumer prices have actually spiked between 25 and 30 percent. The International

Monetary Fund (IMF) censured the Argentinian government early this month for

fudging economic data.

With one of the highest inflation rates in the world, Argentines are struggling to keep

up with high prices. The government has adopted a prize freeze on food at

supermarkets that will be in place until April 1. All products at major grocery store

chains including Wal-Mart are required to keep prices at current levels and consumers

can report any non-compliant price hikes to the Argentine commerce ministry.

Wages are another thorny issue as unions harden their positions on salary

negotiations. The country’s largest trade federation wants raises for workers to go

beyond the wage cap of 20 percent. The food industry union and the teachers’ union

want at least 30 percent pay increases and have threatened to strike.

Argentina’s Protectionist Trade Policies

Kirchner instituted harsh protectionist policies on trade in January 2012. Tariffs

increased to a maximum rate of 35 percent on 100 products including popular

consumer goods such as motorcycles, computers, printers, telephones, and mobile

phones. Argentina also has a value added tax (VAT) on imports. There are additional

duties if an imported good is already manufactured in Argentina.

Non-tariff barriers are also troublesome for importers. Anyone who wishes to import

must request a license from the country’s tax and custom authority. The application

process is daunting and requires companies to sign a sworn affidavit that explains all

the details of the import shipment including why the good is needed. Firms are

reporting numerous delays in the application process.

Argentina also has an array of quotas and price controls on imports. Major

corporations are sometimes required to invest in new domestic manufacturing

operations before they are allowed to introduce new product lines.

As a result, the United States, the European Union, and Japan have complained to the

World Trade Organization (WTO). The WTO is currently investigating Argentina’s free

trade violations and the organization is also looking at the government’s seizure of

assets of a subsidiary of the Spanish oil company Repsol SA in April 2012. Repsol has

also petitioned the World Bank over the matter.

Struggling to Reduce Capital Flight

These economic policies have led investors to pull money out of Argentina. Almost $2

billion was withdrawn during the second quarter of 2012, according to Bloomberg.

Economists estimate that a total of $87 billion has flowed out of the country since

2003.

Kirchner has attempted to impose tight currency and foreign exchange controls to

prop up and increase levels of foreign currency at Argentina’s central bank because

dollars are used to pay back foreign debt.

Foreign debt has dogged Argentina for decades. Last November, Fitch downgraded

the country’s long-term credit rating from CC to B, one level above default. Argentina

experienced a default on its sovereign debt of around $132 billion in 2001 and 2002.

Private investors have taken the government to court in the United States in hopes of

recovering some repayment.

At a recent Hudson Institute conference, former U.S. ambassador to Argentina Lino

Gutierrez lamented the economic mishaps of the Kirchner administration. “It didn’t

have to be this way. Today you could have an Argentina that is much more developed

with real economic statistics, cordial relationships with the international community,

and good prospects for growth.”

LIGNET Experiences in Argentina

When the LIGNET analyst travelling in Argentina tried to exchange $37 for Argentine

pesos, he had to consult with two tellers under the watchful eyes of an armed guard,

pacing back and forth, in a transaction that took 30 minutes. It was a taste of the wild

inefficiency and tangled bureaucracy that now characterize the Argentine economy.

At the time of the analyst’s visit, inflation in Buenos Aires was taking off. Restaurants

were making daily changes to their menus and revising prices upward by writing them

in pen. Some eateries did away with menus and required diners to ask the waiter the

prices for each item knowing that costs would be higher than the previous day.

An exasperated U.S. Commercial Service officer at the American embassy in Buenos

Aires described, in detail, the government’s new import tariffs, and warned that

Argentina can be extremely challenging for even the most experienced exporters to

South America.

Analysis

The damage to the Argentine economy at the hands of Cristina Kirchner since she was

re-elected will be long-lasting and difficult to reverse. One only has to walk the

streets of Buenos Aires to see how the Kirchner wrecking ball has affected a once-

thriving market economy.

Inflation and currency controls are hurting the middle class, particularly those who

are on fixed salaries and pensions. These citizens have seen their purchasing power

decline. Savers have watched their bank accounts dwindle in real value.

The food price freeze will be a short-lived public relations gambit and is not expected

to help consumers much. Store managers, after all, can always pull higher profit

margin items off the shelves. And since the end date of the price controls has already

been announced, stores could have a run on staples such as milk, bread, and eggs

after April 1.

Kirchner’s political orientation as a member of the far-left Peronists has led her to

seek alliances with socialist governments in Latin America such as Venezuela and

Bolivia. She has also recently traveled to Cuba and Vietnam to make statements of

solidarity with communist governments there.

Argentina is in many ways a tragic case. It had transformed itself into one of the most

modern, diversified, and international economies among the emerging states. In just

12 to 24 months, the Kirchner administration has reversed those gains.

Argentina will likely find a way out of its current debt crisis and is not intimidated by

its creditors. By keeping dollars in the central bank, the government has just enough

foreign currency to make loan payment installments. Legal rulings that have required

the country to pay back bond holders from the last default are difficult to enforce.

Argentina is also a crafty negotiator and is often successful at persuading the United

States and other powers to forgive piles of debt.

However, the complaints filed against Argentina at the WTO may have deeper

repercussions. The WTO could impose retaliatory “tit for tat” punitive tariffs on

Argentine exports, and this could hit the agricultural sector hard. If Kirchner loses the

urban middle class and the rural vote at once, she may face even lower approval

ratings, larger and more intense demonstrations, and a difficult path to another term

of office that would require a constitutional change.

Conclusion

Argentina’s economy is a ship that is taking on water, and with Kirchner at the helm,

it looks like things will not improve until a new president is elected. Argentina has

often run itself on “luck and soybeans” and other people’s money. Agricultural

commodity prices have swung downward off their highs from the last decade and

more creditors are demanding the South American country pay its debts. The

Argentine government has been unlucky at fighting inflation. The enormous gains

that Argentina had made during the boom times, such as diversifying its economy

away from agriculture and attracting high-tech manufacturing have sadly been

undone by autarkic policies. These protectionist trade practices have created bad will

with its trade partners and could force the WTO to retaliate with trade sanctions that

could hit Argentina hard and continue to punish its middle class.

global economics research for the langley intelligence group network_brent m eastwood

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