Craig Pirrong's Blog, page 21

A Coda on Churchill v. US

In a nutshell: they were both right and both wrong. Churchill was right that an invasion of northwest Europe in 1943 (let alone 1942) would have been an epic disaster, and the Americans were wrong to believe it was possible, let alone wise. The US was right that a maritime strategy would not defeat Hitler, or would take so long that (a) millions more would die, and/or (b) Hitler would develop nukes, and/or (c) the Soviets would end up ruling all of Europe, and Churchill was wrong to think that a maritime strategy could work in any reasonable time frame.

In the event, the battle over strategy between the Brits and Americans resulted in a wise compromise. The Americans got their invasion, but in mid-1944 when Allied strength had waxed and German strength had waned. The British cooled American rashness, and the Americans overrode British reluctance. (Though Churchill fought against the cross-Channel assault until the very end.)

Praise the Lord and Pass the Ammunition . . . If There Is Any

The war in Ukraine has pointed out the fact that modern combatants consume massive amounts of munitions. This can only be a surprise to those with short memories, or the ignorant. Hell, Saddam had it figured out. He cached massive stores of shells. His problem was he didn’t have time to use them because the US went through his army like crap through a goose. Twice. But he left behind enough to keep American EODs working OT for months to blow it up . . . and to supply the explosives for numerous IEDs deployed by his “dead-enders” against the American forces occupying Iraq.

Awakened from their post-Cold War reveries by the shock of Russia’s invasion and Chinese truculence, American, European, and Asian politicians have recognized the desperate need to increase their munitions stocks, and to expand their surge capacity to produce in the event of war. That’s good: better late than never. But rather than make everything willy-nilly, to respond to this awareness it is imperative to prioritize munition types–and the weapons used to fire them. This requires an appraisal of strategic priorities and likelihoods.

Ukraine needs primarily artillery shells, 155mm mainly, and lots of them. That’s because it is engaged in a war of attrition on a relatively static front against an enemy that employs artillery en masse. But such ammunition should not be an American priority because such the United States will not fight such a war, short of a major strategic blunder.

The inability of Russia to defeat Ukraine means that the likelihood of a land conflict against that country is low. And regardless, if it does break out, the Europeans should be the one to fight it, and therefore should be looking to their own munition supplies.

China is the United States’ main likely adversary in a major war. But it is highly unlikely that the US would be facing off against China in a major ground war. It would be beyond idiocy for the US to charge into China. It would also be idiocy for the US to deploy major ground forces to Taiwan in the event of an invasion, and risk getting trapped like, say, the British on Crete in 1941.

The most likely theater of a major ground war involving the US would be Korea. However, South Korea has proved to be the least free riding of any American ally, and has built up a credible military and a military industrial base to back it up. (Poland is also pretty much a non-free rider. Funny how countries on a front line take security threats more seriously, isn’t it?) I think South Korea can–and should–take care of itself, especially on the ground, with the US chipping in with air and sea support

Since a strategically sensible US would be unlikely to engage in a shell eating contest a la Ukraine, what should its munitions strategy focus on?

Again, China is the main potential adversary, the one that poses the greatest threat to the US, and the one which has the greatest capability. In the event war breaks out with China, what should US strategy be? That strategy should dictate procurement priorities.

I’ve never been all that fussed by China’s Anti-Access/Area Denial (“AA/AD”) strategy, precisely because it would be strategically insane–and unnecessary–for the US to attempt to contest the area that China wishes to deny access to, namely the South China Sea. In the event of war, the proper US strategy would be to flip the board and implement an AA/AD strategy against China. Specifically, to deny it access to the region beyond its AA/AD zone. That is, don’t try to get in–keep them from getting out. Turn the fortress they believe they’ve constructed into a prison.

This is a strategy akin to classic British sea power strategies, dating back to the 18th century, which relied on blockades against Continental enemies, first France, then Germany. In the wars against the French culminating in the Napoleonic Wars, the blockades were often “close.” In WWI, the blockade was “far.”*

A “far” blockade would work for the US against China because China faces some of the same vulnerabilities as Wilhelmine Germany, namely, a dependence on raw material imports, most notably an inability to feed itself, and sea lines of communication that are very vulnerable to being severed by myriad means.

China is acutely aware of its dependence on food imports, especially animal feed inputs. The “iron rice bowl” is a thing of the past: as China has developed, so has its consumption of mean protein, and its people’s expectation of it. Xi has prioritized making China self-sufficient in food–a sure tell that he realizes the vulnerability. But this will take a long time under the most ideal circumstances, and is unlikely to occur in any event, especially given how China has ravaged its soil and waters in the past decades, and the disaster that generally results when autocrats attempt to force increased agricultural production.

Imposing and maintaining a blockade of China will require primarily submarines, aircraft, and surface vessels armed with long range precision munitions. And also mines. Lots of mines. Mines are a relatively cheap, low casualty risk, highly leveraged way of blockade and area denial. A large fraction of Japanese merchant shipping was sunk by mines laid by subs and aircraft in WWII. The mining of Haiphong in Vietnam was probably more decisive than the Operation Linebacker bombing campaign. Mining the waters around Chinese ports would have a devastating impact.

PGMs will also be vital in deterring any attempt by the Chinese People’s Liberation Army Navy’s (a name that cracks me up) to break out of a US (and Japan, and Australia, etc.) cordon sanitaire around the South China Sea–or destroying it if it tries. They will also be the primary means by which the United States can strike long-range Chinese weapons that pose a threat to the ships of the US and its allies, and the land bases (on Guam, in Japan and in the Philippines) on which they will rely.

The networking of sensors and platforms, and the deployment of offensive weapons on virtually every US Navy platform, will serve to make a US judo move of denying access to an access denier very effective–if it is backed with adequate means. This will require lots of long range, precision munitions to work–so ramping up their production, stocks, and production capacity of such weapons should be the priority.

But although networking platforms and the employment of precision weapons greatly leverages US capabilities to implement this strategy, the fundamental fact is that the US has too few platforms. The USN is now at a mere 297 hulls, and the current Biden budget proposal will shrink that to 291. The Navy has not submitted a shipbuilding proposal, and the brass are pushing to decommission 11 ships. Navy construction capacity is woefully inadequate. The capacity to build the fleet’s backbone–Burke class destroyers–is limited to 2 per year. The DDG(X) is still a pipe dream. The first Constellation class frigate has just been laid down. Most importantly, production of Virginia class submarines (the most potent threat to China, as their absolute freak out over the AUKUS nuke sub deal shows) is limited to two per year, and US submarine construction capacity will be challenged by the necessity of also building new Columbia class SSBNs to replace the aging Ohios.

So it is not just ammunition–it is platforms to fire it from. And on that score the United States is at best treading water, and may actually be slipping under.

Yes. Ukraine is a wake-up call–although one that should have been unnecessary. But just because the Ukrainians are suffering a WWI-esque shell shortage does not mean that the United States should prioritize artillery ammunition to fight a major land war. Adapting capability to likely adversaries and strategies dictates a focus on long range sea- and air-launched anti-ship and land attack weapons, and crucially the means to employ them. Which means more hulls and more airframes.

These take a long time to build. The time is now to start producing the weapons, and to expanding the capacity to produce the things that can deploy them. Right now we are unduly dependent on hoping the Lord looks kindly on our praise (if we would even give it today), because there just isn’t enough of the right kind of ammunition to pass to fight the most likely and most dangerous conflicts.

*This strategy cuts against the US grain. It frequently takes a long time to implement and take effect. In WWI it took 4 years for the British blockade to bring German to the brink of starvation. In the Civil War, the blockade was also extremely important, but also took years to affect the military situation. The strangulation of Japan by US submarines and mines was also decisive, but took a good two years to have a real impact.

In WWII Churchill wanted to employ the classic British strategy against Germany. This drove the Americans (not to mention Stalin) nuts: they wanted to charge onto the Continent ASAP. Strategic patience is not an American virtue. But it will be a necessity if the US does get involved in a shooting war with China. In such a war, time would be on the US’s side, precisely because what has made China powerful has also made it vulnerable.

The Termite Years: Ideologues Eating the American Military From the Inside

Progressivism is destroying the United States military and putting the nation’s security at a grave risk.

I could probably write a book on the subject–a long book–but two examples provide chilling illustrations of the general thesis.

The first is the military’s obsession with climate change:

Secretary of the Navy Carlos Del Toro said he sees fighting climate change as a top priority for the Navy as the Biden administration proposes shrinking the fleet by two ships and worries grow about how the U.S. Navy stacks up to China’s.

“As the Secretary of the Navy, I can tell you that I have made climate one of my top priorities since the first day I came into office,” Del Toro said March 1 in remarks at the University of the Bahamas.

And this:

“We view the climate crisis much the same way as damage control efforts on a stricken ship. This is an all-hands-on-deck moment,” he added.

An all-hands-on-deck moment? Well, that’s exactly the problem. At the rate of decline in the ship count in the United States Navy, there won’t be any decks for the hands to stand on.

The Navy’s job is not to save the world environment, let alone save it from a highly speculative (and arguably chimerical) danger–as if it can do anything about it anyways. The Navy’s job is to secure control of the seas, and deny that control to its enemies. That requires ships and trained sailors and officers and logistical support and munitions.

All of those things have been eroding relentlessly in recent years, and the Biden administration wants to accelerate the decline:

This year, the Biden budget called for the decommissioning of 11 ships and the construction of just nine ships, for a net loss of two vessels. That budget proposal was met with skepticism from members of Congress, which has acted in the last two years to spare the Navy from cuts to the fleet proposed by the Biden administration.

All hands should be on deck to stop and reverse those troubling and extremely dangerous trends.

But no, we have a gasbag SecNav blathering about greenhouse gasses:

“There is not a trade-off between addressing climate security and our core mission of being the most capable and ready Navy-Marine Corps team,” he said. “The exact opposite is true. Embracing climate-focused technologies and adopting a climate-informed posture strengthens our capability to stand by our partners and allies.”

Del Toro said worrying about climate change would lead to new technologies that the Navy can use to create a “virtuous cycle of energy efficiency, cost savings, maritime dominance and climate security.”

This are merely unsupported assertions–and wildly implausible ones to boot. Just how does “embracing climate-focused technologies and adopting a climate-informed posture strengthens our capability to stand by our partners and allies”? Just how will “embracing climate-focused technologies and adopting a climate-informed posture” improve our ability to win a naval conflict against China in the western Pacific?

And anyone who says “there is not a trade-off” is either a liar or an idiot–or more likely both. There is always a trade-off. Every dollar spent on climate unicorns is a dollar that doesn’t go to a ship or a sailor or a missile.

The other example is DEI in the military, especially at the academies.

It’s bad–really bad–at all the academies. When I attended the Superintendent’s call at my USNA reunion a few years ago it was diversity this and diversity that. That was clearly the Supe’s overriding concern (other than bragging about managing COVID, especially the issue of disposing of all the extra trash from packaging of the meals that Mids were forced to eat in their rooms–Bravo Zulu, dude!).

Navy is bad, but I think Air Force is the worst. USAFA has embraced CRT and is all in on the trans agenda.

A diversity and inclusion training by the United States Air Force Academy in Colorado instructs cadets to use words that “include all genders” and to refrain from saying things like “mom” and “dad.”

The slide presentation titled, “Diversity & Inclusion: What it is, why we care, & what we can do,” advises cadets to use “person-centered” and gender-neutral language when describing individuals.

“Some families are headed by single parents, grandparents, foster parents, two moms, two dads, etc.: consider ‘parent or caregiver’ instead of ‘mom and dad,'” the presentation states. “Use words that include all genders​: ‘Folks’ or ‘Y’all’ instead of ‘guys’; ‘partner’ vs. ‘boyfriend or girlfriend.’”

When confronted about this, Superintendent LG Richard Clark executed a classic motte-and-bailey maneuver:

“The recent briefing on diversity and inclusion is being taken out of context and misrepresented; the slide in question was not intended to stand alone,” Clark said. “First and foremost, the briefing centered on respect for others and the warfighting imperative of leveraging diverse perspectives to solve our nation’s most difficult national security problems. Our strategic competitors are doing the opposite. Our American diversity is a strategic advantage and opens the door to creative solutions, providing a competitive edge in air, space, and cyberspace.”

“The slide on ‘inclusive language’ was intended to demonstrate how respect for others should be used to build inclusive teams, producing more effective warfighting units,” Clark continued. “Understanding a person’s context shows respect. Until you know a person’s situation, we should not make assumptions about them.”

Clark smoothly retreats from the bailey (don’t say “mom or dad”) to take refuge in the motte of vacuous blather that asserts rather than proves the warfighting utility of these endeavors: “The slide on ‘inclusive language’ was intended to demonstrate how respect for others should be used to build inclusive teams, producing more effective warfighting units.”

These assertions–del Toro’s and Clark’s–unsupported by any evidence are characteristic of justifications of these progressive policies. Clark is especially prone to asserting things like “diversity is a strategic advantage and opens the door to creative solutions” but alas he is not alone. And saying it doesn’t make it true.

If diversity–as used by Clark and others–is so effective at creating “strategic advantages,” why was the really, really “diverse” Austro-Hungarian army the worst (by far) among major combatants in WWI, rather than the best?

The fact is the del Toro and Clark and far too many in the civilian and uniformed hierarchy are unduly focused on progressive political agendas that not only fail to contribute to America’s war fighting capability, but are positively antithetical to it. If del Toro is so intent on going to battle stations, how about doing so to fix, say, the Navy’s utterly dysfunctional procurement process? Or the serious recruiting issues the service faces? Instead he establishes as a priority something that the Navy can’t do jack shit about–except, perhaps, by devastating the world’s largest emitter of greenhouse gases. The capability to do so, alas, is eroding by the day.

The lapsing of the Soviet threat allowed the military and the civilians who control it to indulge their ideological fancies, and to use the military as a laboratory for social experimentation, in contravention of its real purpose. The post-Cold War reverie is clearly over. The military is insufficiently prepared for a return of peer competition, and the unmilitary priorities of the likes of del Toro and Clark will undermine the nation’s ability to restore the capabilities that have atrophied so dramatically over the past 30 years.

Churchill lamented the 1930s as the “locust years” when feckless politicians and military officials failed to recognize rising threats and consequently failed to prepare against Hitler’s Germany. Today the United States is experiencing something worse: termite years, where destructive ideologies are eating at the American military from the inside.

SVB’s Execs Were Rats, But They Were Just Navigating the Regulatory Maze to the Government Cheese

A brief follow-up on SVB (which kinds of sounds like a venereal disease, which is kind of apropos I guess).

During the GFC I wrote about how bank capital requirements were like price controls. A regulator can never set the “right” prices–in this case, the shadow costs of assets with different risks. It will underprice some risks, and overprice others. Banks will hold too many of the assets where risk is underpriced, and too little of the assets where the risk is overpriced.

Bank capital requirements focus primarily on credit risk, rather than interest rate risk. SVB incurred very little if any capital charge to hold Treasuries and agency debt, because they are viewed as “safe” from a credit risk perspective. But they did allow SVB (and other banks) to take on interest rate risk.

Very low or zero capital charges on Treasuries fall into the there-are-no-coincidences-comrade category. The government wants to encourage holding of Treasuries and agencies. Big deficits to finance, after all. As Niall Ferguson, Charlie Calomiris, and others have pointed out, governments regulate and structure banking systems first and foremost to facilitate government finance, not private capital markets.

Related to this is the issue of stress tests. The relaxation of regulation passed in 2018 meant that banks of SVB’s size no longer had to undergo stress tests. But the recent government stress tests would not have really stressed SVB: they only tested for a 200 basis point increase in interest rates, not the 400+ increase we have experienced. So SVB would have passed anyways.

In the immediate aftermath of the GFC I expressed skepticism about stress tests. I called the Tinker Bell Economics–“We believe! We believe!” That is, they are intended to assure everyone about the safety of the banking system, rather than to actually test the safety of the banking system.

The unstressful interest rate stress scenarios also plays into the idea that the Fed and Treasury don’t want to do anything to dampen banks’ appetite for government bonds.

One last comment. Many historical banking system crises are the result of yield chasing in low interest rate environments. Low yields (a) allows banks to borrow cheap, and (b) induces banks to chase yield by taking on more risk.

We obviously operated for years in a low rate environment, courtesy of the Fed. Yield chasing was an inevitable. SVB chased yield.

In sum, yes, SVB’s execs were rats. But the government designed the maze (capital requirements, low interest rates) and baited it with cheese. So when the government says that they are going to fix the problem, don’t believe them. But believe this: especially given the United States’ huge debt and deficits, any “fixes” will be rigged to protect the Treasury market, and the devil take the hindmost. Which would be you.

More From Our Silicon Valley Betters

To continue the Silicon Valley theme.

Stanford University is Silicon Valley’s brood mare: from scientists and engineers to executive to lawyers, its offspring are legion in the tech sector.

And the Stanford Law School was recently the site of one of the most disgusting displays of political thuggery in recent memory–which is obviously saying something.

Fifth Circuit Court of Appeals Judge Kyle Duncan was supposed to speak at a Federalist Society gathering at the Stanford Law School. But he could not speak, because he was heckled by a group of leftist students. Duncan asked for an administrator to intervene to restore order.

Stanford Law DEI administrator Tirien Steinbach stepped in–and delivered a harangue against Duncan. Free speech? Bah! said Steinbach. You don’t deserve freedom of speech because your speech harms us. (Sticks and stones may break my bones etc. is SO passe.)

But others exercised their right to free speech:

Other questions were less academic. “I fuck men, I can find the prostate,” one student asked, according to Rosenberger. “Why can’t you find the clit?”

Excuse me? Did this conversation occur in a law school or a bath house?

Meanwhile, several other profile-in-courage Stanford administrators stood around with their thumbs up their asses, and did nothing.

The blowback was immediate and intense, and Stanford issued an apology which said that the events transgressed Stanford’s “institutional commitment to freedom of speech.” Duncan graciously–and incorrectly, in my view–accepted. Incorrectly, because it let them off far too easy.

Institutional commitment to freedom of speech? At Stanford? (Or at pretty much any “elite” university for that matter.) Anyone who says this is obviously insane, and needs to be committed to an institution.

An apology is not enough. All of the deans of the law school should be removed, and Steinbach should be fired. The students who engaged in this conduct should be expelled. Pour encourager les autres.

“Whoops, my bad” does. Not. Cut. It. What transpired at Stanford was a crime against the academy and against the legal academy in particular. To prevent its recurrence there–and hopefully elsewhere–draconian measures are necessary.

But they won’t be taken. Because I am sure that the university only admitted error grudgingly because of the avalanche of criticism, not because they agreed that a grievous wrong had been done, and because (as was shown in the 60s, as described by Alan Bloom and Thomas Sowell and others) when it comes down to it university administrators are cowards.

These are the people who presume to rule us. And from the government’s reaction to Silicon Valley’s demand for a bail out, evidently they do. But there will come a point when the ruled will no longer submit.

SVB: Silicone Valley Bust? And Where Is Occupy Silicon Valley?

Bank failures tend to come in waves, and we are experiencing at least a mini-wave now.

Banks fail for three basic reasons: 1. Credit transformation: deterioration in borrower creditworthiness, usually due to an adverse economic shock (e.g., a real estate bust). 2. Maturity transformation: borrowing short, lending long, and then getting hammered when interest rates rise. 3. Liquidity transformation combined with an exogenous liquidity shock, a la Diamond-Dybvig, where idiosyncratic depositor needs for cash lead to withdrawals that exceed liquid assets and therefore trigger fire sales of illiquid assets.

The two most notable failures of late–Silicon Valley Bank and Silvergate–are examples of 2 and 3 respectively.

In some respects, SVB is the most astounding. Not because a bank failed in the old fashioned way, but because it was funded primarily by the deposits of supposed financial sophisticates–and because of the disgusting policy response of the Treasury and the Fed.

SVB took in oodles of cash, especially in the past couple of years. The cashcade was so immense that SVB could not find enough traditional banking business (loans) to soak it up, so they bought lots of Treasuries. And long duration Treasuries to boot.

And then Powell and the Fed applied the boot, jacking up rates. Bonds have cratered in the last year, and took SVB’s balance sheet with it.

Again, an old story. And hardly a harbinger of systemic risk–unless such reckless maturity mismatches are systemic.

SVB was the Banker to the Silicon Valley Stars, notably VCs and tech firms. These firms are the ones who deposited immense sums in exchange for a pittance of return. Case in point, Roku, put almost $500 million–yes, you read that right, 9 figures led with a 5–into SVB!!!

I mean: WTFF? Was the Treasurer a moron? For who other than a moron would hold that much in cash in a single institution? (Roku claims its devices “make your home a smarter.” Maybe they should have hired a smarter treasurer and CFO, or replaced them with one of its devices). Hell, why is a company holding that much in cash period?

A few of these alleged masters of the universe (like Palantir) saw the writing on the wall and yanked their deposits: deposits fell by a quarter on Friday alone, sealing the bank’s doom. Those who were slow to run howled to the high heavens over the weekend that if there was not a bailout there would be a holocaust in the tech sector.

Even though the systemic risk posed by SVB’s failure is nil (or if not, then every bank is systemically important), the Treasury Department and the Fed responded to these howls and guaranteed all the deposits–even though the FDIC’s formal deposit insurance limit is $250,000. You know, .05 percent of Roku’s deposit.

When evaluating this, one cannot ignore the reality that the Democratic Party is completely beholden to Silicon Valley. This is beyond scandalous.

Occupy Silicon Valley, anyone?

Treasury Secretary Janet Yellen insulted our intelligence by assuring us this is not a bailout. Well, it’s not a taxpayer bailout, strictly speaking, because the Treasury is not providing the backstop. Instead, it is being funded by a “special assessment” on solvent banks. Which are owned and funded by people who also pay taxes. And such an “assessment” is a tax in everything but name–because it is a contribution by private entities compelled by the government.

The policy implications of this are disastrous. The whole problem with such bailouts is moral hazard. What is to stop banks from engaging in such reckless behavior as SVB did if they can obtain seemingly unlimited funding from those who know that they will be bailed out if things go pear-shaped?

And the regulatory failure here demonstrates that bank regulation–despite the supposed “reforms” of Frankendodd–can’t even catch or constrain the oldest bet-the-bank strategy in the book. Free banking–no deposit insurance, no bailing out of depositors–couldn’t do worse, and would likely do better.

No, the failure of SVB is not the scandal here. The scandal is the political response to it. This reveals yet again how captured the government is. This time not by Wall Street, but by tech companies and oligarchs that are currently the primary source of Democratic political funding.

A couple of weeks ago the Silvergate story looked juicy, but SVB has put it in the shade. Silvergate also grew dramatically, but on the back of crypto rather than SV tech. It became the main banker for many crypto firms and entrepreneurs. The crypto meltdown did not affect Silvergate directly, but it did crush its depositors, the aforesaid crypto firms and entrepreneurs. They withdrew a lot of funding, and an old fashioned liquidity mismatch did it in.

In traditional banks, deposit funding is “sticky.” Banks that rely on wholesale funding (“hot money”) are more vulnerable to runs. Silvergate’s funding was not traditional sticky deposit funding, nor was it hot money per se. It was money that was pretty cool as long as crypto was cool, and became hot once crypto melted down.

A run started, but the run was precipitated by a liquidity shock. Simple story, really.

Silvergate’s failure was not a scandal. SVB’s failure per se was not a scandal (except to the extent that our vaunted banking regulators failed to prevent the most prosaic type of failure).

Again–the scandal is the politically tainted response that will have baleful consequences in the future, as the response virtually guarantees that there will be more SVBs in the future.

If You Say “Convenience Yield” I Will Not Take You (or Your Research) Seriously

I have a relatively simple way to filter out serious research on commodity prices from the not-so-serious. If you rely on “convenience yield” I will not take you seriously. Alas, based on this filter, the bulk of commodities research is unserious.

For the uninitiated (consider yourself lucky!), convenience yield is an attempt to explain that commodity futures prices are typically at less than “full carry”, i.e., that futures prices are below the spot price plus the cost of carrying inventory (financing plus physical storage costs). Furthermore, convenience yield is invoked to explain the fact that departures from full carry vary systematically with (some measure of) inventories, with big departures associated with small inventories.

These are empirical regularities, and convenience yield is invoked to explain them. The idea dates from Kaldor (1939), who was attempting to explain Working’s earlier (1934) empirical findings from the CBOT wheat market.

The intuition is simple. With true assets (e.g., bonds, stock, currencies), the futures price is depressed by the income (“yield”) on the asset (e.g, the dividend on a stock). So, to explain the depression in commodity futures prices below full-carry values, Kaldor said: stocks “have a yield, qua stocks, by enabling the producer to lay hands on them the moment they are wanted and thus saving the cost and trouble of ordering frequent deliveries, of waiting for deliveries.”

Problem solved!

The problem is not solved, because there are no real microfoundations here. Kaldor merely waved his hands, and analogized a departure from full carry in commodity markets to the depression in the prices of futures on assets caused by the income on these assets.

The problem is that, as Stephen Ross pointed out around 30 years ago in a paper on the Metallgesellschaft episode, commodities are not true assets. True assets are always in positive net supply. Commodities–and in particular commodities at the delivery point of a futures contract–are not always in positive net supply: sometimes there are “stockouts” when all inventories at a particular location are consumed. As Bob Lucas taught me years ago, commodity inventories in positive supply at all times is inefficient, as this would imply that a commodity is produced but never consumed. So stockouts are inevitable in competitive commodity markets.

Thus, the real cause of below-full-carry futures prices is that the zero inventory constraint is periodically binding.

So how to explain positive inventories and less-than-full-carry futures prices? There are two basic explanations: aggregation in space, and aggregation in time.

The best exposition of the former is Brennan, Wright, and Williams, (1997). Working off of earlier theoretical research by Wright and Williams, this article shows that including inventories held outside a delivery point (where spreads are used to measure carry) is misleading. When a delivery point is at an inverse/backwardation/less than full carry while inventories are positive at other locations, it is because the inverse (which measures the benefit of immediate delivery and consumption in the market where the inverse is measured) is smaller than the cost of moving inventories from where they are held to the delivery point.

With respect to the latter, the rigorous theory of storage based on optimal intertemporal allocation subject to a non-negative inventory constraint implies that if inventories at the delivery point are positive, the futures price for delivery on the next day will be at full carry. However, most departures from full carry are typically measured using futures prices for many delivery days if not months into the future. (For example, Working analyzed the May-July and July-September spreads.) These deferred delivery contracts can be below full carry when the one-day price is at full carry if there is a positive probability of a stockout prior to the expiration of the futures contract used to measure the spread.

This explains the Working Supply of Storage relationship even when one uses stocks in the delivery market as the independent variable. The smaller the inventory, the more likely a stockout prior to expiration of the futures contract used to calculate the spread, and hence the bigger the inverse.

This was all discussed thoroughly in my book.

In sum, convenience yield is a fudge factor, justified with hand waving. The attempts to provide microfoundations, such as invoking inventories as a factor of production, as in Ramey (1989), have farcical implications (which I ridicule in my book).

The Working supply of storage curve is an empirical regularity. Convenience yield is not the explanation for this regularity. The real theory of storage, which is based on the non-negative inventory constraint, is.

I plead guilty to using convenience yield in some of my earlier research, in particular my fairly widely cited paper with Victor Ng on industrial metals. By way of justification, I would say that (a) I was a young academic that needed to present our research in a way that conformed with the conventional wisdom (which alas did, as it still does, rely on convenience yield, as illustrated by a slightly earlier paper by Fama and French) (ah the price of publish or perish) , and (b) we also invoked the more rigorous theory of storage.

But I have seen the light: indeed, I saw the light years ago. Academics working in commodities now should also have a Come to Jesus moment, and swear off the concept of convenience yield. At least if you want to be a serious researcher committed to analysis grounded in firm microfoundations–which “convenience yield” is decidedly not.

Christopher Wray: Getting to High Ground Ahead of the Truth Tsunami

This week, FBI Director Christopher Wray matter of factly stated: “the FBI has for quite some time now assessed that the origins of the pandemic are most likely a potential lab incident in Wuhan.”

Now he tells us!

Wray’s remark did not unleash a frenzy of invective, in contrast to the Department of Energy’s earlier expression of the same conclusion. For example, the truly nasty piece of work Colbert screeched that the DoE needed to “stay in its lane.” (Colbert’s is apparently the I-get-to-tell-the-government-to-stay-in-its-lane lane). Colbert has not provided Wray similar instruction. Other media outlets that criticized the DoE have also been notably silent about Wray’s revelation.

Although the admission that this was the FBI’s view is what has been most commented on, what stands out to me is that it has been “for quite some time now.” How long, exactly? And why has the FBI hidden its lamp under a basket for so long?

And crucially: why is it lifting the basket now?

Is this part of a telling-the-truth-slowly strategy on the part of the administration? Is Wray trying to get out ahead of future revelations and keep the FBI’s skirts clean?

Suffice it to say that knowing him, his motivation for saying this now is political, and for purposes of self-preservation, not some commitment to the truth. After all, Wray is a past master at dummying up or evading questions (“sorry, Senator, I can’t answer because I have a plane to catch”).

Wray’s statement, and the DoE’s, is of course vindication to those who argued the possibility, and indeed the likelihood, of a Wuhan lab leak. Though some claimed this was a deliberate leak–part of a Chinese biowar strategy–I and most others who favored the lab leak hypothesis believed it was accidental, while not ruling out that the research itself was military in nature.

Of all of the media- and government-enforced narratives, the one that excoriated and anathematized anyone who advanced this hypothesis was always the most puzzling to me. Why did it matter SO much to the establishment where COVID originated?

Short of a needed (but unlikely to occur) lustration, the best we can do is reason from the clues that we have, starting with (a) who was clearly behind the campaign to discredit this hypothesis?, and (b) cui bono?

The answers to both questions are the same: the CDC, and in particular, Anthony Fauci. The release of Fauci’s emails last year revealed that he, others at CDC, and CDC adjacent scientists and NGOs almost immediately orchestrated a campaign to denigrate this hypothesis and those arguing for it, and advance the natural origins alternative. The Twitter files have subsequently revealed government efforts (including, I might add, the efforts of Wray’s FBI) to censor those even discussing lab leak origins as well as other transgressions of the COVID party line.

The media, of course, quickly snapped to attention, saluted, and relentlessly promoted Fauci’s/the CDC’s narrative.

And how did this benefit Fauci and the CDC? Well, the only razor I’ve shaved with in the last 44 years is Occam’s, and his razor says: because Fauci and the CDC were deeply implicated in the activities of the Wuhan Institute of Virology.

In other words, Fauci et al doth protest too much, which implicates them as surely as Lady Macbeth. (Although the Lady at least had the decency to go mad out of remorse, which Fauci has not, suggesting that he is a sociopath, if not a psychopath.)

(I note that the Democratic Party is also a beneficiary, as it used the discrediting of the lab leak hypothesis as a way of discrediting Trump, who had asserted it.)

Every day that a natural host is not discovered is another strike against the natural origins hypothesis, and gives further weight in support of the leak alternative. Three years with no host identified despite an intense search–and the keen interest of the CCP in finding one–makes the natural origins hypothesis highly incredible.

Unlike Fauci, I am not invested in either hypothesis: I am invested in the truth. I am also heavily invested in antipathy to censorship, especially censorship at the behest of interested actors in government. The suppression of any discussion over the lab leak hypothesis, and the anathematizing of anyone who dared speak it, represents a very dark episode in American history.

And the hits keep on coming. Recent evidence (the Cochrane Report) demonstrating the inefficacy of masks. The accumulating evidence on the lack of efficacy of the mRNA “vaccines”–and the health risks they create. And perhaps most importantly, the accumulation of overwhelming evidence that the costs of lockdowns massively outweighed any benefits.

With regards to the latter, the release of WhatsApp messages from the execrable Matt Hancock, formerly the UK’s Secretary of State for Health and Social Care, and more recently reality show contestant, demonstrates that despite all of the arrogant assertions that those in power were acting in the name of Science, they were actually acting in the name of power. Lockdowns were not a well-intentioned policy error, they were a malign policy forced on the public by loathsome figures like Matt Hancock (and Tony Fauci and Deborah Birx and dozens of others in virtually every country of the world, save Sweden).

I called bullshit on the failures of governments even to evaluate trade-offs with respect to lockdowns from the very time they were first mooted. And “whoops, my bad!” won’t make it all better–as if these disgusting creatures even have the decency to say that: they admit nothing.

What makes it all the more egregious and infuriating is that these same people who were the industrial scale producers of disinformation and misinformation also dared (and continue to dare) to scold us (and punish us) for promoting disinformation.

When in fact, there is a tsunami of evidence showing that those who questioned them from the first were right, and they were wrong.

In light of all this, I think that what Wray is doing is trying to get to high ground ahead of the tsunami hitting land in DC, London, etc. It’s cold comfort, in light of the havoc of the last three years. But revenge is a dish best served cold, and God willing the dish has cooled enough in these past years to make the time of reckoning nigh.

Though I seriously doubt there are enough lampposts.

Magenta-Maned Mental Midget Questions Expertise of Intellectual Colossus, With Hilarious Results

I can always use a good laugh, and noted nitwit Nikole Hannah-Jones has provided one:

Other than being Black, what exactly is Sowell's expertise in slavery or history?

— Ida Bae Wells (@nhannahjones) February 10, 2023

Oh Nikki, where to possibly begin? I suggest you start with Race and Culture: one whole column of the index lists the mentions of the subject of slavery in the book. Then maybe Black Rednecks, White Liberals. (Though that may result in a messy explosion of your magenta-maned head.) And for a bit of self-knowledge, Intellectuals and Race. But in point of fact, analyses of slavery are found throughout Sowell’s massive literary output. (When thinking of him, I am reminded about a quip someone made about Paul Johnson: it’s not the amount he’s written that astonishes, it’s the amount he’s read.)

And not just North American slavery, but slavery around the world. And that’s precisely why he can speak with far more authority and insight on whether slavery in British North American colonies, and later the United States, was somehow unique and makes the U.S. the most fallen of nations, than can Hannah-Jones and her ilk.

And history generally. Again. Look at at his incredible record of scholarship, which includes detailed expositions and analyses of a wide variety of historical issues, such as immigration.

Moreover, Sowell’s approach to history stands in stark contrast to 1619 Project-style leftist “history”: In Sowell, history is a reservoir of facts and data against which theories are tested, whereas in Hannah-Jones’ “work” it is something to be twisted and distorted in order to make political and ideological points.

Thomas Sowell has had a major impact on my life and thinking since I was in college: his Knowledge and Decisions profoundly affected, and continues to affect, how I think about economics, law, and policy. Although somewhat dated because many of its examples were current at the time it was published 43 years ago, the underlying conceptual framework and analyses are timeless: it is astounding at how the intellectual errors that Sowell analyzed back then curse us today–most notably, his theme that there are no solutions, only trade-offs, something that politicians ignore daily, with COVID policy being one of the most egregious examples.

To my mind, Thomas Sowell is the most impressive public intellectual (and intellectual, period) of the past 50 years. The breadth and depth of his scholarship is unsurpassed, and his steadfastness and courage in the face of vicious criticism from lilliputians like Hannah-Jones is truly remarkable. He is a true intellectual: Hannah-Jones and her ilk are intellectualoids, at best. People with intellectual pretensions that far outstrip their abilities, and who pass off agitprop as scholarship. Only idiots think them geniuses.

One of the highlights of my academic career occurred when Sowell wrote an oped defending me against the New York Times’ slanders. No doubt his unfortunately extensive experience with slanders directed at him motivated and informed what he wrote. And the slanders continue, as Hannah-Jones’ ignorant tweet reveals. But sometimes, as in this instance, the slanders are so ridiculous that they elicit only laughter.

Another Year of War in Ukraine: Ring Out the Old, Ring In the Old

Today is the first day of the second year of the Russo-Ukraine War, and there is every indication that 25 February 2024 will mark the first day of the third.

Putin gave one of his increasingly demented speeches on what used to be called Red Army Day. In a nutshell (emphasis on nut) he claimed that this is an existential . . . something . . . against the “collective west,” land of godless pedos. Apparently this is a preemptive war intended to defend Russia against an impending onslaught from Nato.

Which Putin’s own actions give the lie to: according to UK military intelligence, Putin has committed 95 percent of his combat power (such as it is) to fighting Ukraine. Which would leave the rest of Russia’s long borders with godless western pedos completely open to their attack. Not something someone fearing such an attack would do.

Speaking of borders, Putin’s wannabe mini-me, your favorite narcoleptic and mine, Dmitri Medvedev, ranted that it was necessary to push back Russia’s border with Poland by a significant distance. Er, I though math was a big deal in Russia. I guess not. A simple inductive proof demonstrates that this implies that Russia would have to absorb the entire European continent in order to achieve security. Which demonstrates the futility of any attempt to find a end to hostilities based on “addressing Russia’s security concerns.” Their security concerns are unaddressable, except by dissolution of the west.

The rationalizations and projections and aspersions in these speeches don’t really matter. What matters is that they show that Putin will continue to grind on, fighting to the last Russian, to . . . . Who knows? I am reminded of Santayana: “Fanaticism consists of redoubling your efforts when you have forgotten your aim.” The war has become an end in itself, not as Clausewitz famously said, politics carried out by other means.

Fanaticism or no, the prospect is for war without an end in sight. So just how is that going?

Late last year and early this there were repeated warnings of an impending Russian offensive. Some people are still talking about an “impending” offensive.

Wrong. Nothing is impending: the offensive has started. And it is going about as well as previous offensives. Arguably worse, actually. One way to summarize would be Wellington’s remark regarding Waterloo: “They came on in the same old way, and we sent them back in the same old way.“ Though Napoleon made it “the nearest run thing you ever saw” (again in the words of Wellington), on most of the front in Ukraine it is not a near run thing at all.

Why do I say the offensive has started? Several reasons. First, Putin is in a hurry. He has demonstrated his impatience time and again. Second, the evidence on the ground: the frequency and intensity of Russian attacks has increased (even if the results have not). Third, the time of year: in not too long the raputitsa will make maneuver and advance very difficult. Fourth, the Russians have every incentive to try to get ahead of the next wave of equipment (notably tanks and air defenses) that the west is (slowly) supplying to Ukraine.

The main fighting has centered on the town of Bakhmut. The Russians have “succeeded,” at the cost of immense casualties, shoving back Ukrainian positions a few kilometers here, a few hundred meters there.

If Russia takes Bakhmut, so what? Itself it has no real strategic importance. The battle reminds me of say Pork Chop Hill in Korea in 1953. The hill had very little intrinsic military importance. But the Chinese and the Americans invested it with a symbolic importance–we can’t let those other bastards have it!–and hence spent many lives and countless artillery fires to take it. Or fights over useless bits of blasted terrain in Verdun, 1916, Fort Douaumont, for example.

Bakhmut is like that. It has become important because both sides have made it a test of wills and capability.

Even if Russia takes the town, it has no ability to break out and exploit into the Ukrainian rear. Bakhmut is an infantry and artillery battle, and shoving back the Ukrainian front a bit here or there will just shift the location of the next infantry and artillery battle. This is like WWI, where even local gains could not be exploited because of the inherent limitations on movement of the attacking forces.

In WWI the Allies achieved something resembling breakout and exploitation in late-October, early-November 1918 only because the German army had been bled white in its spring offensives and the allies had amassed overwhelming superiority in infantry, artillery, armor and airpower, not least because of the arrival of hundreds of thousands of Americans.

The Germans made gains in their 1918 offensives, but those eventually also culminated far short of objectives due to the inherent limitations of trying to take large areas at speeds dictated by logistics and the pace of horses and men on foot. Nearly the same limitations the ground pounding Russian army faces today.

The Germans were in much better shape in March-May 1918, moreover, than the Russians are now. They could bring hundreds of thousands of relatively fresh, and experienced, troops from the East to spearhead the offensive. The Russians are scraping the bottom of the barrel, throwing the unfit and untrained into futile assaults in which their lifespans are measured in hours, at most.

As I noted near the beginning of the war, one reason for Russian failure then was they attempted to use armor without infantry. Now they are attempting to use infantry without armor–and when they do attempt to use armor, as they did recently at Vuhledar, the result is a bloody shambles. But without armor any possibility of exploitation is nil.

Meaning that stalemate is in prospect indefinitely.

The stalemate has brought about one change in Russian politics: the dogs are no longer fighting under the carpet, but in plain sight. In particular, the ghoulish-looking (and face it, just plain ghoulish) Yevgeny Prigozhin has been attacking publicly the Russian defense establishment. Festernik has taken credit for the gains at Bakhmut and Soledar (such as they are), and claims that the defense ministry and army have caused the slaughter of many Wagner troops by withholding artillery ammunition. Further, the nationalist right has been attacking the military for its incompetence–with good reason.

All is not well in Muscovy, in other words, and in contrast to history, some of the unhappiness is being played out in public.

Objective conditions imply that the internecine struggle will get only worse. It is the product of failure on the battlefield, and no end of such failure is in sight. A new year of war has begun, but it will not be different than the old year. A dreary verdict, but the only one the facts support.