Bill Gross penned a discerning op-ed for this past Monday's Financial Times, "The Ugly Side of Ultra-Cheap Money." From Gross: "Ultra low, zero-bounded central bank policy rates might in fact de-lever instead of relever the financial system, creating contraction instead of expansion in the real economy... Historically, central banks have comfortably relied on a model which dictates that lower and lower yields will stimulate aggregate demand and, in the case of financial markets, drive asset purchases outward on the risk spectrum as investors seek to maintain higher returns. Near zero policy rates and a series of 'quantitative easings' have temporarily succeeded in keeping asset markets and real economies afloat in the US, Europe, and even Japan. Now, with policy rates at or approaching zero yields and QE facing political limits in almost all developed economies, it is appropriate to question not only the effectiveness of historical conceptual models but entertain the possibility that they may, counterintuitively, be hazardous to an economy's health."

I agree that current ultra-loose monetary policy is having ill-effects and unintended consequences. I believe, however, that this predicament has much more to do with accumulated debt structures, previous speculative excess and economic maladjustment - than it does with our dovish central bank having finally landed flat on the zero rate floor. Within his analysis, Mr. Gross made an extraordinary statement deserving of serious contemplation: "Capitalism would not work well if Fed funds and 30-year Treasuries co-existed at the same yield, nor if commercial paper and 30-year corporates did as well. It is not only excessive debt levels, insolvency and liquidity trap considerations that delever both financial and real economic growth; it is the zero-bound nominal yield, the assumption that it will stay there for an 'extended period of time' and the resultant flatness of yield curves which are the culprits."

The virtues of free trade, free markets and Capitalist economies of course predate Fed funds and the U.S. long-bond. The great English economic thinker David Ricardo referred to "the capitalist" almost 200 years ago, and the benefits of free trade were appreciated centuries earlier. Yet it is as strange as it is accurate these days to recognize that Capitalism as we know it has somehow become dependent upon both an ultra-accommodative securities funding marketplace and speculative profits garnered from Treasury and corporate "carry trades" (borrow short-term to lend long; and short higher quality to finance holdings of lower quality/higher yielding). Reading Mr. Gross's thought-provoking line of analysis, my thinking jumped immediately to my notion of "Financial Arbitrage Capitalism" from some years back. The analysis is near and dear to my analytical heart. When I went to re-read my piece, I found, coincidently, that it was posted almost 10 years ago to the week.

I rarely partake in the cringe-inducing exercise of reading old CBBs. I am this week excerpting liberally (gluttons for punishment see below) from my article from a decade ago, believing the analysis has become more relevant over time. Old readers know my analytical framework owes a huge debt to the great Hyman Minsky. Over the years, many have cited Minsky's work, although too often too superficially. Minsky was focused on finance - financial players, financial structures, financial incentives, financial evolution and speculative dynamics. Late in his life (he passed in 1996), Minsky brilliantly appreciated the profound changes unfolding throughout the financial world. I've over the years attempted to build on Minsky's framework, incorporating the transformational evolution of securitization markets, derivatives, the government-sponsored enterprises (GSEs), the hedge fund community, Wall Street proprietary trading, unprecedented risk intermediation and financial leveraging, and policymaking doctrine that essentially pandered to these contemporary financial operators and structures.

I believe the vast majority of the modern financial apparatus over the years gravitated to speculative spread trading and various leveraged risk arbitrage strategies - especially at the expense of funding sound investment in the U.S. and other advanced economies. The system's focus turned to financing the securities and asset markets, an extremely lucrative business that so dwarfed opportunities available from financing capital investment. The intense focus on Credit market spread/arbitrage "profits" - as our central banking incentivized leveraged speculation - made real economic returns virtually irrelevant to the broader economy (home mortgages were much preferred over business investment loans as fodder for risk intermediation and financial arbitrage). Never before had the possibilities for Credit creation - and resulting fees and speculative profits - been so unfettered and incentivized. That is, as long as asset prices continue to inflate. Over time, this resulted in "money" and Credit becoming dangerously and increasingly detached from real economic wealth and wealth-producing capacity.

"Gresham's law needs a corollary. Not only does 'bad money drive out good,' but 'cheap' money may as well,' began Mr. Gross's FT writing. I would strongly argue that this deleterious process of bad "money" driving out the relatively better commenced decades ago - and then proceeded to accelerate momentously during the nineties. Over the past decade, both U.S. household and federal debt more than doubled, as consumption boomed and deindustrialization gathered momentum. GSE assets tripled to $6.7 TN. Hedge fund assets quadrupled to surpass $2.0 TN. The global over-the-counter (OTC) derivatives market ballooned from about $100 TN to exceed $700 TN. Global central bank balance sheets ballooned uncontrollably. "Bad money" took the world by storm.

I've always equated "Financial Arbitrage Capitalism" to an unsustainable financial mania. Inevitably, a point would be reached where the quality of the underlying mountain of Credit obligations would prove incompatible with highly leveraged speculative positions and deeply maladjusted economic structures. Global fiscal and monetary policymakers have worked inexhaustibly to bolster increasingly vulnerable debt structures, through the unprecedented issuance of sovereign debt and government guarantees; by imposing ultra-low interest rates; and by massive purchases (monetization) of marketable debt instruments. And especially post-2008, this fragile structure (and associated mania) has been buttressed by the perception that policymakers retained the necessary tools to ensure the situation remained under their control. From Mr. Gross: "Conceptually, when the financial system can no longer find outlets for the credit it creates, then it de-levers." True enough. I would add that a system will find it increasingly challenging to find "outlets for Credit" once premises behind - and confidence in - the mania in Credit instruments begins to break down.

From "Financial Arbitrage Capitalism" - CBB, December 28, 2001

Today's Wall Street Journal carried a piece by Greg Ip and Jacob Schlesinger "Did Greenspan Push US High-Tech Optimism Too Far?" The article addressed a central issue: "The Fed's growth debate amounts to an argument over what kind of economy America can look forward to once the recession ends: one of rapidly rising living standards, low inflation, low interest rates, and federal budgets in reasonable balance - like that in most of the 1950s and 1960s - or a much-less-robust version." Well, the current financial and economic backdrop could not be more unrecognizable as compared to the relative stability of the '50s and '60s. It will, furthermore, be the sustainability of current financial structures, atypical economic dynamics, and the seemingly vulnerable global purchasing power of the dollar that will determine the "robustness" of future U.S. prosperity, not Alan Greenspan's nebulous, singular, wishful notion of "productivity." In this vein, there is simply no analysis more apposite than that from the brilliant Hyman Minsky.

"In both Keynes and Schumpeter the in-place financial structure is a central determinant of the behaviour of a capitalist economy. But among the players in financial markets are entrepreneurial profit-seekers who innovate. As a result these markets evolve in response to profit opportunities which emerge as the productive apparatus changes. The evolutionary properties of market economies are evident in the changing structure of financial institutions as well as in the productive structure. In the Theory of Economic Development Schumpeter called the banker/financier the ephor of market economies. The ephor was a magistrate of Sparta who contained and controlled the kings. In Schumpeter's vision it is the banking structure of a capitalist economy which controls and delineates what can be financed, and only that which is financed enters the realm of the possible. But nowhere is evolution, change and Schumpeterian entrepreneurship more evident than in banking and finance and nowhere is the drive for profits more clearly the factor making for change. But in an evolutionary system the power and efficacy of the ephor is also endogenously determined. To understand the short-term dynamics of business cycles and the longer-term evolution of economies it is necessary to understand the financing relations that rule, and how the profit-seeking activities of businessmen, bankers and portfolio managers lead to the evolution of financial structures." Hyman P. Minsky, Schumpeter and Finance from Market and Institutions in Economic Development: Essays in Honour of Paulo Sylos Labini, 1993, p. 106

To garner better understanding as to the causes and ramifications of recent financial and economic turmoil it is helpful to contemplate the nature of dominant financial entrepreneurs, institutions, relations and structures. Minsky saw in capitalist economies "at least four models of the structure of relations among business, households and finance... Although all four coexist in advanced capitalistic economies, they can be viewed as stages in the development of capitalist finance. These are (1) commercial, (2) financial (3) managerial and (4) money market capitalism. These stages are related to what is financed and who does the proximate financing."

Commercial Capitalism - "The essence of commercial capitalism was bankers providing merchant finance for goods trading and manufacturing. "Commercial capitalism created a hierarchy of contingent commitments. The normal function of the economy saw the creation and the unwinding of these contingent commitments. When a contract that creates credit is fulfilled credit is destroyed... In commercial capitalist arrangements bankers financed producer's inventories, but not the stock of durable capital assets used in production."

Finance Capitalism - "The industrial revolution led to a great increase in the relative importance of machinery in production and therefore of the non-labour costs that prices had to cover...The nineteenth century was the first great era of putting in place industry that required expensive and durable capital assets...In Great Britain and the United States commercial banks...were not the main conduit for funds to corporations to finance positions in the expensive capital assets that made the industrial revolution possible. The flotations of stocks and bonds and the trading of existing stocks and bonds became intertwined in security markets...the capital development of these economies mainly depended upon market financing. The main institutions of the financing markets were investment bankers... The great crash of 1929-1933 marked the end of the era in which investment bankers dominated financial markets." (Minsky, 1993, p. 108/109)

Managerial Capitalism - "In the world of Schumpeter, Kalecki and Keynes, profits depend upon financed investment and financing depended upon the funds made available through the intervention of commercial and investment banks. During the great depression, the Second World War and the peace that followed government became and remained a much larger part of the economy...government deficits led to profits. A major social policy in most capitalist economies was to improve the housing stock. In the United States this took the form of government support of mortgages and the institutions that financed mortgages...The fundamental Schumpeterian view that the process of entrepreneurs investing and bankers financing these investments leads to profits as a distributional share was violated in the post-Second World War economy where debt-financed government spending and mortgage-financed household purchases of new housing (facilitated by government endorsement) generated profits. The role of bankers as the ephors of the decentralised market economy was reduced when government took over responsibility for the adequacy of profits, of aggregate demand. The flow of profits that followed from the deficits of governments and from debt-financed housing construction meant that the internal cash flows of firms could finance their investments...firms rather than bankers were the masters of the private economy...The flaw in managerial capitalism is the assumption that enterprise divorced from banker and owner pressure and control would remain efficient...The social policies of this era led to the emergence of private pension funds...as the era progressed, individual wealth holdings increasingly took the form of ownership of the liabilities of managed funds..." (Minsky, 1993, p. 110/111)

Money Manager Capitalism - "The welfare state big government managerial capitalism largely but not completely divorced business profits (cash-flows) from private investment...It followed that the margin of safety which entered into the building of liability structures which reflected earlier experience were too big: the safe level of indebtedness was higher in the postwar economy than hitherto...the independence of operating corporations from the money and financial markets that characterized managerial capitalism was thus a transitory stage. The emergence of return and capital-gains-oriented block of managed money resulted in financial markets once again being a major influence in determining the performance of the economy. However, unlike the earlier epoch of finance capitalism, the emphasis was not upon the capital development of the economy but rather upon the quick turn of the speculator, upon trading profits...As managed money grew in relative importance, more and more of the market for financial instruments was characterized by position-taking by financial intermediaries. These positions were bank-financed. The main financial houses became highly-leveraged dealers in securities, beholden to banks for continued refinancing. A peculiar regime emerged in which the main business in the financial markets became far removed from the financing of the capital development of the country. Furthermore, the main purpose of those who controlled corporations was no longer making profits from production and trade but rather to assure that the liabilities of the corporations were fully priced in the financial market...The question of whether a financial structure that commits a large part of cash flows to debt validation leads to a debacle such as took place between 1929 and 1933 is now an open question."

"In the present stage of development the financiers are not acting as the ephors of the economy, editing the financing that takes place so that the capital development of the economy is promoted. Today's managers of money are but little concerned with the development of the capital asset of an economy. Today's narrowly-focused financiers do not conform to Schumpeter's vision of bankers as the ephors of capitalism who assure that finance serves progress. Today's financial structure is more akin to Keynes' characterization of the financial arrangements of advanced capitalism as a casino. The Schumpeter-Keynes vision of the economy as evolving under the stimulus of perceived profit possibilities remains valid. However, we must recognize that evolution is not necessarily a progressive process: the financing evolution of the past decade may well have been retrograde." (Minsky, 1993, p. 113)

It is my contention that the essence of the American (and in many respects the American-dominated global) system evolved significantly and then diverged so profoundly over the past few years from Minsky's "Money Manager Capitalism" that it is today appropriate to distinguish an entire new stage of capitalistic financial development - the age of "Financial Arbitrage Capitalism." Whether this new stage is "retrograde" and untenable - as is our view - is the key economic issue of our time. At the minimum, this most unusual cast of financial institutions and structures provides a good basis for making sense out of the anomalous divergences in sectoral economic performance (record home and auto sales, as capital goods investment plummets), extreme disparities in relative pricing and profits throughout the economy and markets ("inflation vs. deflation" quandary), and general acute financial and economic fragility.

Minsky's "Money Manager Capitalism" aptly recognized the increased power wielded by mutual and pension fund managers in their aggressive pursuit of returns and capital gains, with the emphasis on more aggressive use of corporate leverage, mergers and acquisitions, and "restructurings" to enhance the value of publicly traded shares and private equity. Generally, the goal of the financial entrepreneur was to profit through growth and building enterprise value. However, and especially over the past year, financial power has subtly yet markedly shifted from traditional institutional fund managers, the crowded venture capitalist arena, and the scores of IPO dealmakers to "sophisticated" Wall Street financial players incorporating various forms of financial engineering (typically, variations of "spread trades"). While assets have shrunk and scores of equity mutual funds have been closed, 1,000 new hedge funds are said to have joined the fray as industry assets continue their historic Bubble ascent."

For the Week:

The S&P500 surged 3.7% (up 0.6% y-t-d), and the Dow rose 3.6% (up 6.2%). The Morgan Stanley Cyclicals jumped 4.1% (down 14.3%), and the Transports gained 3.0% (down 1.0%). The Banks were up 5.9% (down 23.5%), and the Broker/Dealers were 5.0% higher (down 30.2%). The Morgan Stanley Consumer index rose 3.2% (up 1.4%), and the Utilities jumped 3.5% (up 13.7%). The S&P 400 Mid-Caps rose 3.4% (down 2.5%), and the small cap Russell 2000 jumped 3.6% (down 4.6%). The Nasdaq100 increased 2.2% (up 3.1%), and the Morgan Stanley High Tech index gained 1.7% (down 10.7%). The Semiconductors surged 4.5% (down 10.5%). The InteractiveWeek Internet index advanced 3.2% (down 7.7%). The Biotechs jumped 5.0% (down 17.2%). With bullion recovering $7, the HUI gold index increased 0.3% (down 10.7%).

One and three-month Treasury bill rates ended the week near zero. Two-year government yields rose 5 bps to 0.27%. Five-year T-note yields ended the week up 16 bps to 0.94%. Ten-year yields rose 18 bps to 2.03%. Long bond yields jumped 22 bps to 3.03%. Benchmark Fannie MBS yields were up 13 bps to 3.05%. The spread between 10-year Treasury yields and benchmark MBS yields narrowed 5 bps to102 bps. Agency 10-yr debt spreads narrowed 7 bps to negative one basis point. The implied yield on December 2012 eurodollar futures rose 8 bps to 0.835%. The two-year dollar swap spread increased about 2 bps to 51.6 bps. The 10-year dollar swap spread declined 1.5 bps to 16.5 bps. Corporate bond spreads narrowed. An index of investment grade bond risk declined 10 bps to 121 bps. An index of junk bond risk dropped 62 bps to 685 bps.

Debt sales slowed to a trickle. Investment-grade issuance this week included International Lease Finance $680 million.

Junk bond funds inflows declined to $260 million (from Lipper). I saw no junk issuance.

I saw no convertible debt issued.

International dollar bonds issuers included International Bank of Reconstruction & Development $510 million.

Italian 10-yr yields ended the week down only 3 bps to 6.93% (up 212bps y-t-d). Spain's 10-year yields added 6 bps to 5.32% (down 12bps). Greek two-year yields ended the week up 12 bps to 134.44% (up 12,220bps). Greek 10-year yields declined 15 bps to 31.68% (up 1,923bps). German bund yields rose 11 bps to 1.96% (down 100bps), while French yields declined 6 bps to 2.98% (spread to bunds narrowed 17 bps to 103bps). U.K. 10-year gilt yields were little changed at 2.04% (down 148bps). Ten-year Portuguese yields rose 13 bps to 12.62% (up 604bps). Irish yields added a basis point to 8.30% (down 75bps).

The German DAX equities index rallied 3.1% (down 15% y-t-d). Japanese 10-year "JGB" yields dipped one basis point to 0.97% (down 15bps). Japan's Nikkei was little changed (down 17.9%). Emerging markets were mixed. For the week, Brazil's Bovespa equities index rallied 2.9% (down 16.7%), and Mexico's Bolsa gained 2.7% (down 3.9%). South Korea's Kospi index gained 1.5% (down 9.0%). India's Sensex equities index rallied 1.6% (down 23.3%). China's Shanghai Exchange declined 0.9% (down 21.4%). Brazil's benchmark dollar bond yields declined 4 bps to 3.35%, while Mexican benchmark yields were little changed at 3.54%.

Freddie Mac 30-year fixed mortgage rates declined 3 bps to a record low 3.91% (down 90bps y-o-y). Fifteen-year fixed rates were unchanged at 3.21% (down 94bps y-o-y). One-year ARMs fell to 2.77% (down 63bps y-o-y). Bankrate's survey of jumbo mortgage borrowing costs had 30-yr fixed rates down one basis point to 4.68% (down 83bps y-o-y).

Federal Reserve Credit expanded $17.8bn to a record $2.885 TN. Fed Credit was up $477bn y-t-d and $496bn from a year ago, or 20.8%. Elsewhere, Fed Foreign Holdings of Treasury, Agency Debt this past week (ended 12/21) declined $2.2bn to $3.441 TN (14-wk decline of $34.6bn). "Custody holdings" were up $90.1bn y-t-d, or 3.1%.

Global central bank "international reserve assets" (excluding gold) - as tallied by Bloomberg - were up $1.256 TN y-o-y, or 13.9% to $10.279 TN. Over two years, reserves were $2.658 TN higher, for 35% growth.

M2 (narrow) "money" supply jumped $32.3bn to a record $9.672 TN. "Narrow money" has expanded at a 9.9% pace y-t-d. For the week, Currency increased $1.7bn. Demand and Checkable Deposits dropped $11.3bn, while Savings Deposits surged $41.7bn. Small Denominated Deposits declined $2.0bn. Retail Money Funds increased $2.2bn.

Total Money Fund assets rose $14.2bn to a 23-week high $2.692 TN. Money Fund assets were down $118bn y-t-d, or 4.3%.

Total Commercial Paper outstanding declined another $5.2bn (23-wk decline of $250bn) to $987bn. CP was up $15bn y-t-d, or 1.3%.

Global Credit Watch:

December 22 - Dow Jones (Javier E. David): "More money, more problems? Flush with low-cost lucre from the European Central Bank, euro zone banks may now have a new challenge: fending off political strong-arming to buy distressed government debt. While acceding to that pressure could temporarily hold back the risks of a default and a breakup in the euro zone, some worry that this politicized intervention into financial markets will only create deeper problems down the road. For some, the sheer magnitude of the nearly EUR500 billion provided in the ECB's three-year tender... all but compels banks to support battered sovereign debt markets. The cheap loans... have led some analysts to call the tender a version of the 'carry trade' that allows investors to take low-cost borrowing and invest it in riskier, higher-yielding assets. The central bank's cash infusion has coincided with entreaties from euro zone politicians, or what economists euphemistically refer to as 'moral suasion', for banks to serve as a cavalry brigade in Europe's war against surging bond yields and market contagion."

December 22 - Bloomberg (Zoltan Simon): "Hungarian Prime Minister Viktor Orban's drive to consolidate power at the cost of delaying an International Monetary Fund bailout prompted Standard and Poor's to become the second ratings company in a month to downgrade the country's debt to junk. Hungary's sovereign-credit ratings... had rated the eastern European nation at investment grade since 1996..."

December 23 - Bloomberg (Chiara Vasarri and Lorenzo Totaro): "Prime Minister Mario Monti's market honeymoon is ending as Italian bond yields approaching 7% signal mounting concern his government may struggle to sell 440 billion euros ($574bn) of debt next year."

December 23 - Bloomberg (Chiara Vasarri and Lorenzo Totaro): "Italian consumer confidence fell in December to the lowest in 16 years as Europe's debt crisis forced austerity measures and intensified households' concerns about a probable recession."

December 20 - Bloomberg (Sonia Sirletti and Elisa Martinuzzi): "UniCredit SpA and Intesa Sanpaolo SpA are among Italian banks that will use bonds guaranteed by Italy as collateral for loans from the European Central Bank, two people with knowledge of the matter said. Italy's biggest lenders met Italian Deputy Finance Minister Vittorio Grilli... to define the terms of the transaction... The Treasury agreed to back the bonds, which the banks will keep on their books, using rules introduced by Prime Minister Mario Monti two weeks ago..."

December 21 - Bloomberg (Fabio Benedetti-Valentini): "BNP Paribas SA, Societe Generale SA, Credit Agricole SA and Groupe BPCE, France's biggest banks, are struggling to fund about 37 billion euros ($48bn) of debt payments due in the first quarter."

December 20 - Bloomberg (Jonathan Stearns): "The euro area's rescue fund may lose its top credit status were France's AAA grade to be cut, Fitch Ratings said... Five days after lowering France's credit outlook, Fitch said the European Financial Stability Facility's AAA rating is linked to France's grade. France is one of six AAA nations backing the EFSF..."

December 22 - Bloomberg (Christos Ziotis, Marcus Bensasson and Jesse Westbrook): "Greece's creditors are resisting pressure from the International Monetary Fund to accept bigger losses on holdings of the indebted nation's government bonds... Lenders want the 70 billion euros ($91bn) of new bonds the government will issue in return for existing securities to carry a coupon of about 5%, said the people, who declined to be identified..."

December 19 - Bloomberg (Charles Penty): "Spanish banks reported more bad loans and lower lending and deposits in October... The ratio of bad loans as a proportion of total lending climbed to 7.42%, the highest level since 1994, from 7.16% in September and 5.68% a year earlier..."

December 20 - Bloomberg (Stephanie Bodoni and James G. Neuger): "Europe bolstered its anti-crisis arsenal, channeling 150 billion euros ($195bn) to the International Monetary Fund as the European Central Bank widened its support for sagging bond markets. Four countries not using the single currency also pledged to add to the IMF war chest while Britain refused to commit..."

December 21 - Bloomberg (Jody Shenn): "U.S. mortgage bonds that lack government backing are trading at about the lowest prices in more than a year, even as riskier assets from high-yield company bonds to stocks rally... A group of prime jumbo-mortgage securities tracked by JPMorgan... as a benchmark fell to 93.3 cents on the dollar this month, the lowest level since August 2010. A set of subprime bonds tumbled to a two-year low of 28.1 cents."

December 20 - Bloomberg (Mary Childs): "For all the evidence that the U.S. economy is expanding, the nation's credit markets are unable to decouple from Europe as everything from junk bonds to interest- rate swaps move increasingly in lockstep with the euro region. Correlation between the 17-nation currency and prices of a credit-default swaps index tied to U.S. junk bonds is at about the highest on record... Interest-rate swap spreads in the U.S., a gauge of fear in credit markets, are trading the most in tandem with European corporate credit since 2007."

Global Bubble Watch:

December 22 - Bloomberg (Jason Webb): "Corporate bond sales from borrowers in emerging-markets soared 14% to a record this year as their economies grew four times faster than the developed world and debt yields fell. China National Petroleum... led $683 billion of issuance, $86 billion more than 2010's all-time high... Average emerging-market corporate bond yields were the lowest ever this year at 5.9%, down from 6.1% in 2010..."

December 20 - Financial Times (Helen Thomas and Anousha Sakoui): "Mergers and acquisitions activity collapsed in the fourth quarter as the sovereign debt crisis and market volatility put the brakes on dealmaking and equity sales, pushing European investment banking fees to their lowest level in more than a ¬decade. Fourth-quarter M&A volumes fell 32% to $375.3bn from the previous three months, led by a 41% decline in Europe. The drop... contributed to an 8% fall in investment banking fees to $72.6bn for 2011, against 2010."

December 20 - Bloomberg (Doug Alexander and Michael Amato): "Issuance in the Canadian syndicated loan market rose to a record this year as energy companies including Suncor Energy Inc. took advantage of lower borrowing costs to refinance revolving credit lines. Banks arranged $173.8 billion in syndicated loans for Canadian companies this year, 56% more than in 2010, topping the previous record of $167.7 billion in 2007..."

Currency Watch:

For the week, the dollar index slipped 0.3% (up 1.2% y-t-d). On the upside, the South African rand increased 2.9%, the Canadian dollar 1.7%, the Australian dollar 1.7%, the New Zealand dollar 1.7%, the Singapore dollar 1.0%, the South Korean won 0.7%, the Swedish krona 0.6%, the British pound 0.3%, the Mexican peso 0.2% and the Taiwanese dollar 0.3%. On the downside, the Japanese yen declined 0.4%, the Brazilian real 0.3%, the Norwegian krone 0.3%, and the Swiss franc 0.1%. The euro was unchanged on the week.

Commodities and Food Watch:

The CRB index recovered 3.8% this week (down 8.0% y-t-d). The Goldman Sachs Commodities Index rallied 4.4% (up 2.1%). Spot Gold added 0.5% to $1,606 (up 13.1%). Silver declined 2.0% to $29.08 (down 6%). February Crude jumped $5.93 to $99.68 (up 9%). January Gasoline surged 8.0% (up 9%), while January Natural Gas slipped 0.4% (down 29%). March Copper rallied 4.2% (down 22%). March Wheat surged 6.6% (down 22%), and March Corn rose 6.3% (down 2%).

China Bubble Watch:

December 20 - Bloomberg: "China's biggest provincial borrowers are deferring payment on their loans just two months after the country's regulator said some local-government companies would be allowed to do so... As local governments delay payments for projects commissioned as part of stimulus to ward off recession in 2009, less money is available for bank lending even as China is taking steps to inject more funds into the economy."

December 20 - Bloomberg: "Zhu Lei, a property agent for the Serenity Coast luxury residential and hotel complex in Sanya on China's Hainan island, recalls clients carrying suitcases of cash to shop for holiday apartments last year. 'We didn't even have time for toilet breaks because there were just too many clients,' Zhu said. Today, sales in the second-biggest city on the tropical island compared to Hawaii for its sandy beaches and weather, are 'bleak,' he said. A two-year lending binge and the government's plan to transform Hainan, in the South China Sea, into an international tourism destination helped fuel a 48% surge in Sanya's home prices last year... Sanya's home prices have dropped 28% since last December."

December 19 - Bloomberg: "A copy of Manhattan, complete with Rockefeller and Lincoln centers and what passes for the Hudson River, is under construction an hour's train ride from Beijing. And like New York City in the 1970s, it may need a bailout. Debt accumulated by companies financing local governments such as Tianjin, home to the New York lookalike project, is rising, a survey of Chinese-language bond prospectuses issued this year indicates. It also suggests the total owed by all such entities likely dwarfs the count by China's national auditor and figures disclosed by banks."

India Watch:

December 20 - Bloomberg (V Ramakrishnan and Kartik Goyal): "India's plan to boost food subsidies by 50% is threatening efforts to cut the budget deficit, extending the biggest jump in bond risk among the largest developing nations... Indian Prime Minister Manmohan Singh is tapping public finances to boost assistance as the economy of the nation, where the World Bank says more than 75% of the people live on less than $2 a day, slows."

December 22 - Bloomberg (Anoop Agrawal and Kartik Goyal): "India's central bank signaled Asia's third-largest economy may grow less than earlier estimated in the year through March, putting pressure on the budget deficit as subsidies increase and tax collection falters."

Japan Watch:

December 23 - Bloomberg (Toru Fujioka): "Japan will budget 90.3 trillion yen of spending for the year starting April 1, the Nikkei newspaper said... The government will sell 44.2 trillion yen of new bonds and estimates tax revenue of 42.3 trillion yen..."

Asia Bubble Watch:

December 23 - Bloomberg (Shamim Adam): "Singapore's industrial production unexpectedly declined in November, adding to evidence of a weakening Asian outlook that prompted Fitch Ratings to cut its growth forecasts for the region... Emerging Asia will expand 6.8% in 2012, Fitch said in a report distributed today, less than its June forecast of 7.4%. The company raised its 2011 and 2012 estimates for inflation in the region."

Latin America Watch:

December 21 - Bloomberg (Alexander Ragir): "Brazilian inflation accelerated for a second month through mid-December... reinforcing bets that inflation will breach the central bank's annual target for the first time in 8 years. Consumer prices... rose 0.56% in the month... Annual inflation slowed to 6.56%..."

December 22 - Bloomberg (Alexander Ragir): "Brazil's unemployment rate fell to its lowest on record in November... Unemployment fell to 5.2% last month..."

December 23 - Bloomberg (Alexander Ragir): "Brazil's top banks may tighten their grip on consumer and small-business lending as record high borrowing costs and the end of emergency credit pinch smaller competitors struggling with fallout from Europe's debt crisis. Bonds maturing in 2020 sold by Banco Cruzeiro do Sul SA and Banco Bonsucesso SA... yield 20% and 14%... after the banks were shut out of international markets for the past three months."

December 21 - Bloomberg (Gabrielle Coppola and Cristiane Lucchesi): "Brazilian companies from Fibria Celulose SA to Gol Linhas Aereas Inteligentes SA are seeking to renegotiate bond contracts as the real's tumble drives up the amount of $199 billion of foreign corporate debt in local- currency terms."

December 22 - Bloomberg (Cristiane Lucchesi and Gabrielle Coppola): "Brazilian companies are using a record amount of foreign-exchange derivatives for protection from the most volatile currency market in two years. The notional value of currency derivatives, such as forwards and options contracts, made by companies in the over-the-counter market reached an all-time high of $230 billion at the end of November... It rose 41% from a year earlier, eclipsing the record of $215 billion set in September 2008."

Unbalanced Global Economy Watch:

December 20 - Bloomberg (Anchalee Worrachate and Brian Parkin): "Germany is poised to overshoot its 2012 borrowing target as the growth outlook in Europe's largest economy worsens and the cost of bailing out banks and troubled neighbors increases... The debt agency is scheduled to reveal next year's funding plans this week, after bond and bill sales of 283 billion euros ($368 billion) in 2011."

December 20 - Bloomberg (Peter Levring): "Denmark's government lowered its forecast for economic growth this year and in 2012 as the Nordic region's weakest economy grapples with a twin bank and housing market crisis that saps consumer spending. Denmark's gross domestic product will expand 1% this year and also in 2012..."

December 21 - Bloomberg (Chiara Vasarri and Lorenzo Totaro): "The Italian economy contracted in the third quarter, signaling the country may have entered its fifth recession since 2001... Gross domestic product declined 0.2% from the second quarter, when it expanded 0.3%..."

December 22 - Bloomberg (Josiane Kremer): "Norway's registered jobless rate was 2.4% in December, the Oslo-based Labor and Welfare Organization said..."

U.S. Bubble Economy Watch:

December 20 - Bloomberg (Brian Chappatta): "New York, California and other high-cost U.S. states may lose residents as the economy recovers, continuing a trend during the past decade of Americans searching for more affordable regions to settle. The U.S. population climbed 9.7% from 2000 to 2010... Five states -- Nevada, Arizona, Texas, Utah and Idaho -- grew at more than twice the national pace, as California, the most-populous, had its smallest increase ever..."

Real Estate Watch:

December 20 - Bloomberg (Bob Willis and Alex Tanzi): "More than two years after the U.S. recession ended in June 2009, construction of single-family homes is heading for its worst year on record ...While total housing starts bottomed in 2009, construction of one-family houses will probably post a new low this year at around 419,100, about 11% less than in 2010..."

Central Bank Watch:

December 23 - Wall Street Journal (William Launder): "Use of the European Central Bank's overnight deposit facility reached a new record high for the year..., suggesting recent measures by central banks and policy makers still aren't enough to restore confidence in inter-bank lending markets. Banks deposited €346.99 billion ($453.38bn) in the overnight deposit facility, up from €264.97 billion a day earlier and a previous high for the year of €346.36 billion, reached earlier this month. The high level reflects ongoing distrust in inter-bank lending markets, where banks prefer using the ECB facility as a safe haven for excess funds rather than lending them to other banks."

December 20 - Bloomberg (Tony Barrett): "A measure of European Central Bank leverage may grow from a record 30 times, raising the risk of a widening in sovereign bond spreads unless governments commit to a detailed rescue plan for members, Bloomberg Industries said. ...The central bank's total assets have risen to 2.46 trillion euros ($3.2 trillion), driving the ratio to capital and reserves above levels reached during the 2008 global financial crisis."

December 20 - Bloomberg (Johan Carlstrom): "Sweden's central bank cut its main interest rate for the first time since 2009 and predicted it will keep the benchmark unchanged over the next year as Europe's debt crisis saps growth in the largest Nordic economy. The seven-day repo rate was lowered a quarter point to 1.75%..."

December 20 - Bloomberg (Andras Gergely and Zoltan Simon): "Hungary increased the European Union's highest benchmark interest rate after the trading bloc and the International Monetary Fund suspended talks about a bailout, threatening to pressure local assets. The Magyar Nemzeti Bank raised the benchmark two-week deposit rate by a half-point for a second month to 7%..."

Muni Watch:

December 20 - Bloomberg (William Selway): "U.S. state and local-government tax revenue rose 4.1% in the third quarter, for the eighth consecutive gain, the Census Bureau said. The collections rose to $292 billion from $280.5 billion a year earlier... The increase was driven by property, sales, and personal income taxes. Corporate-income levies fell for the first time since the third quarter of 2010."