January 2015 ~ TRADING FX

Saturday, January 31, 2015

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Superpower Blunders: Czechoslovakia In 1938

Submitted by Erico Matias Tavares of Sinclair & Co.

Superpower Blunders: Czechoslovakia In 1938

The Czechoslovakia crisis of 1938 marked a pivotal shift in the balance of power in Central Europe, putting the major world superpowers in a collision course. The policies of one superpower in particular made inevitable what was to come less than a year later - World War II.

This episode provides important historical insights on geopolitics, appeasement strategies, buffer zones, ethnic tensions – and unintended consequences.

Background

Czechoslovakia was formed as a sovereign state in October 1918, and eventually became one of the most democratic, prosperous and best administered of all the nations that emerged out of the collapse of the Habsburg Empire after World War I.

In 1930, the country had a population of 15 million, consisting of 6 million Czechs (40% of total), 4 million Slovaks (27%), 3.2 million Germans (21%), and the balance (12%) split between Hungarians, Polish, Ruthenians and foreigners. The large number of minorities arose from the need to give Czechoslovakia defensible and viable frontiers. This was a sensitive issue for the sizeable German speaking population, which had previously attempted to unite with German Austria.

There were four main regions in the country (listed from west to east): Bohemia, Moravia, Slovakia and Ruthenia. The western regions were wealthier. The border districts of Bohemia and Moravia and the domestic portion of Silesia were inhabited primarily by German speakers, a region known as the Sudetenland (a name derived from the Sudetes Mountains, which run along the northern border).

The Sudetens were unhappy with the state of the Czechoslovak union, and not just because of their longing to reunite with whom they perceived to be their cultural brethren. Their region had been the most industrialized of the Habsburg Empire, and suffered disproportionately from the curtailment of markets pursuant to the new territorial division; they were largely at the “giving end” of the country’s agrarian reforms; and the government was primarily controlled by the Czechs.

Their discontentment became even more pronounced after the onset of the world depression in 1929. Hitler’s subsequent rise to power and the perception that his policies were restoring Germany to its former glory only added more fuel to the fire. And before long, tempers were boiling over.

The Sudeten Issue

Only a part of the Sudetens were Nazis, but these were noisy, organized and funded from Berlin. Accordingly, their numbers grew steadily. The Czechoslovak government became alarmed with this development, banning the Nazi Party in 1934. Under Konrad Henlein, however, it merely changed its name to the Sudeten German Party (“SdP”) and promptly became the agent for Hitler’s campaign in the country.

As a result of Henlein’s insistent demands, the government progressively granted more autonomy to the Sudetens, including a proposal for full local administration by 1937. While he evidently could not state this publicly, Henlein’s real intent was to tear apart the Czechoslovak state. Therefore, he kept increasing his demands to the point where he and Hitler knew would became unacceptable, particularly as they undermined the country’s fortified security in the north against Nazi Germany.

On 24 April 1938, the SdP issued the Karlsbader Programm, demanding full autonomy for the Sudetenland and the freedom to profess Nazi ideology. If Henlein’s demands were granted, the region would be able to finally align itself with Nazi Germany.

Czechoslovakia's political crisis was now in full bloom. And the government found little help from its Western counterparts.

Choosing a Lesser Evil

Despite its internal struggles, Czechoslovakia featured impressive military capabilities. Its army consisted of 34 divisions, ranking amongst the better equipped in Europe; it had an excellent fortification system (provided the configuration of its borders remained intact); and it had alliances with France, the Soviet Union, as well as Romania and Yugoslavia under the Little Entente.

After the Anschluss, Nazi Germany’s invasion of Austria, Bohemia was surrounded on three sides. However, Hitler could not safely invade this region as the Czechoslovaks could counter from their fortified base into Bavaria.

As it turned out, Hitler relied on more than just political subversion to break any military stalemate, and from an unlikely source: his major Western European adversaries.

Seemingly fearful that Czechoslovakia could never stand up to Nazi Germany after its invasion of Austria, not even if the Soviets came to its aid, the British government of Neville Chamberlain started putting pressure on key counterparts to reach a political compromise – and particularly on the Czechoslovaks to make concessions to Hitler in exchange for assurances of non-aggression. The idea was to turn the country into a neutral territory like Switzerland, with no significant military alliances and whose peace would be guaranteed by France and Nazi Germany.

In addition to avoiding a direct military confrontation, there was an undertone to Chamberlain’s appeasement overtures towards the Nazis: creating a strong buffer zone against the Soviet Union. In Britain’s assessment of the balance of power in Central Europe, Hitler was perceived as a lesser evil than Stalin. And should Nazi Germany’s influence ever start to get out of bounds, even at the expense of the French, the Brits could counter it by closely aligning themselves with the English-speaking world – including the United States.

The French, Germany’s fiercest adversaries over the previous hundred years, had similar concerns when looking out to the East. The fear of Bolshevism was pervasive in political circles, particularly amongst influential conservatives, who viewed the fall of Czechoslovakia as a way to undermine Stalin’s aspirations in Central Europe. Moreover, sitting behind the fortified Maginot line, the French government did not want to face Nazi Germany alone and increasingly took its lead from the British government.

The Soviets were thus the only significant European power seeing Hitler’s pretensions with great consternation. Right after the Anschluss, they called for consultations to stop Nazi aggression and eliminate the prospect of a major confrontation. They were dismissed outright by the British, who in turn publicly stated that they would not come to the rescue of Czechoslovakia in case of an invasion.

As we shall see, Britain’s role in this whole crisis proved decisive in many more ways than one.

The Munich Agreement

The Czechoslovaks resisted British and French pressure, and on 20 May 1938 a partial mobilization was under way in response to a possible Nazi German invasion. They were right to be cautious. Ten days later, Hitler signed a secret directive for war against Czechoslovakia to begin no later than 1 October of that year.

A new mediator appointed by the British eventually persuaded the Czechoslovak government to agree on a plan acceptable to the Sudetens, in large part because it never wished to sever its ties with Western Europe. Accordingly, on 2 September, nearly all the demands of the Karlsbader Programm were granted.

Intent on obstructing conciliation, however, the SdP held demonstrations that provoked police action on 7 September. The Sudetens broke off negotiations on 13 September, after which violence and disruption ensued. As Czechoslovak troops attempted to restore order, Henlein flew to Germany, and on 15 September issued a proclamation demanding the takeover of the Sudetenland by Germany.

On the same day, Hitler met with Chamberlain and demanded the takeover of the Sudetenland under the threat of war, as he claimed that the Sudetens were being slaughtered. Despite an official British investigation confirming that Sudeten leaders had been behind the unrest, Chamberlain nevertheless referred the demand to the British and French governments, which was promptly accepted.

The Czechoslovaks protested, arguing that Hitler's proposal would eventually leave them at his mercy. In response, Britain and France issued an ultimatum. Chamberlain contended that the Sudetens’ grievances were justified and believed that Hitler's intentions were limited. On 21 September, Czechoslovakia finally capitulated. The next day, however, Hitler added new demands, insisting that the claims of Poland and Hungary also be satisfied.

The capitulation precipitated an outburst of national indignation. In demonstrations and rallies, both Czechs and Slovaks called for a strong military government to defend the integrity of the state. A new cabinet was installed, and on 23 September a decree of general mobilization was issued. The Soviet Union announced its willingness to come to Czechoslovakia’s assistance. The Czechoslovak President, however, refused to go to war without the support of the Western powers.

As all of this was unfolding, the British and French governments took steps to align public opinion with their ultimatum on Czechoslovakia. Accordingly, a war scare with Nazi Germany was built up by grossly exaggerating its military capabilities, reaching full panic mode by 28 September.

On that day, Chamberlain reached out to Hitler for a conference. Hitler met the following day in Munich with the government heads of France, Italy and Britain; all signed what would be known as the Munich Agreement. The Czechoslovak government, which was neither invited nor consulted, capitulated on 30 September and agreed to abide by the agreement.

Czechoslovakia’s Borders After the Munich Agreement

The Munich Agreement stipulated that Czechoslovakia must cede the Sudeten territory to Germany, with its occupation completed by 10 October. An international commission would supervise a general vote to determine the final frontier. Hungary and Poland would also get lands and people. Britain and France promised to join in an international guarantee of the new frontiers against unprovoked aggression. Ominously, Germany and Italy decided not to join this guarantee until the Polish and Hungarian minority problems were settled.

A Plot to Assassinate Hitler

When Hitler signed the secret directive to invade Czechoslovakia, he set in motion a chain of events in his own country which might have changed the course of history. Unfortunately for his compatriots and the rest of the world, Hitler’s diabolic lucky charm was still with him during that time.

In that directive, Hitler clearly stated his “unalterable decision to smash Czechoslovakia by military action in the near future”. In the case of war with Czechoslovakia, whether France intervened or not, all forces should be concentrated on the Czechoslovaks in order to achieve an “impressive success” in the first three days of the invasion. Only then could forces be transferred to the French frontier. All regular forces were to be withdrawn from East Prussia in order to speed up the defeat of the Czechoslovaks. No major provision was made for a war against the Soviets. The deployment of troops would begin on 28 September 1938.

Several Nazi military leaders were in shock, alarmed by the prospect of a quick defeat by exposing so many flanks to foreign aggression. This was also shared by the entire Foreign Ministry, except for Ribbentrop, the Foreign Minister and a Nazi to the core. Hitler was isolated in his mountain retreat, cut off from any outside contacts by his inner circle. This group insisted that the Soviet Union, France and Britain would not fight and that the Czechoslovaks were bluffing.

By August the dissenters were becoming desperate. They reached out to senior foreign allies in order to make Hitler realize the folly of his plan, to no avail. Finally, a conspiracy of major generals and important civil leaders was formed to pursue the three strategies: (i) make Hitler see the truth; (ii) to inform the British of their efforts and ask them to stand firm on the Czechoslovak issue and to tell the German government that Britain would fight if Hitler made war on Czechoslovakia; and (iii) to assassinate Hitler if he nevertheless issued the order to invade.

Although many messages were sent to Britain in the first two weeks of September by senior German officials, the British refused to cooperate. Accordingly, a plan was made to assassinate Hitler as soon as the attack was ordered.

This project was canceled at noon on 28 September when news reached Berlin that Chamberlain was going to Munich to yield to Hitler’s demands. The attack order was to have been given by Hitler at 2:00 P.M. that day.

An Alternative Reality…

Even if Hitler had survived that assassination attempt, a war against Czechoslovakia might not have been as quick as he had planned for.

Germany had 22 partly trained divisions on the Czechoslovak frontier, while the Czechoslovaks had 17 first-line and several other divisions which were superior from every point of view except air support. In addition, they had excellent fortifications and higher morale. By the third week of September, Czechoslovakia had 1 million men and all its divisions under arms. The Germans increased their mobilization to 31 and ultimately to 36 divisions, but this likely still represented a smaller force.

The Soviets had about 100 divisions. While these could not be used directly against Germany, because Poland and Romania would not allow them to pass over their territory, they would have been a threat to ensure the neutrality of Poland and Hungary, effectively isolating Germany. In any case, the Soviet Air Force could help Czechoslovakia directly; the Soviets could have likely overrun East Prussia across the Baltic States and from the Baltic Sea, since it had been almost completely denuded of regular German Army forces.

France, which did not completely mobilize, had the Maginot Line fully manned on a war basis, plus more than 20 infantry divisions and 10 motorized divisions. They might have overrun Germany from the western side.

In air power the Germans had a slight edge in average quality, but in numbers of planes it was far inferior: Germany had 1,500 planes; Czechoslovakia had less than 1,000; France and England together had over 1,000; the Soviet Union may have had around 5,000.

These facts were known to the British government via their foreign diplomats and intelligence operators, and further reinforced by the messages sent by the plotting German generals in their attempts to avoid a military disaster.

… And What Actually Happened

On 5 October, five days after capitulating to the Munich Agreement, the President resigned, realizing that the fall of his country was inevitable. He was correct in his assessment.

The Munich Agreement was violated on every point in favor of Nazi Germany, so that ultimately the German Army merely occupied all the places it wanted. Hungarians and Polish followed suit, and took over large parts of the territory. As a result, Czechoslovakia was shred to pieces. The only democracy in the region collapsed. The Soviet alliance was ended and the Communist Party outlawed. The anti-Nazi refugees from the Sudetenland were rounded up by the Prague government and handed over to the Nazis to be destroyed.

The terms of trade were substantially skewed in favor of Nazi Germany, which absorbed all the resources it could to maintain its rapid militarization. The economy in what was left of the country promptly collapsed, and had to rely on British and French aid to remain minimally viable.

Czechoslovakia had been a major manufacturer of machine guns, tanks and artillery to supply its once impressive army of 34 divisions. Many of these factories would continue producing Czechoslovak weapon designs, adding to the Nazis’ arsenal during World War II. Entire steel and chemical factories were moved out and reassembled in Austria.

***

In the aftermath of the Czechoslovakia crisis, Nazi Germany reigned supreme in Central Europe. Chamberlain must have been pleased because this was exactly what he intended.

And it would not be long before he realized that this had been a blunder of historical proportions.

11:25 AM No Comments

Submitted by Charles Hugh-Smith of OfTwoMinds blog ,

My advice is to focus not on retiring comfortably, but on working comfortably.

You've probably seen articles and adverts discussing how much money you'll need to "retire comfortably." The trick of course is the definition of comfortable. The general idea of comfortable (as I understand it) appears to be an income which enables the retiree to enjoy leisurely vacations on cruise ships, own a well-appointed RV for tooling around the countryside, and spend as much time on the golf links as he/she might want.

Needless to say, Social Security isn't going to fund a comfortable retirement, unless the definition is watching TV with an box of kibble to snack on.

By this definition of retiring comfortably, I reckon I should be able to retire at age 91--assuming I can work another 30 years and the creek don't rise.

Since I earned my first real Corporate America paycheck at 16 in 1970 (summer job for Dole Pineapple), I've logged 45 years of work. Now if I'd been smart and worked for the government, I could have retired 15 years ago with generous pension and healthcare benefits for life.

But alas, I wasn't smart, so here I am, a self-employed numbskull.

The articles and adverts usually suggest piling up a hefty nestegg to fund that comfortable retirement. As near as I can make out, the nestegg should be around $2.6 million--or maybe it's $26 million. Let's just say it's a lot.

This presents retirees without generous government pensions two basic problems. One is making enough money to pay the bills of survival and set aside the two million or whatever the number is to retire comfortably.

The average full-time earned income in the U.S. is around $50,000, depending on how the statistics are massaged. At this income, the worker would need to to save every dime for 40 years to assemble the nestegg. Needless to say, this isn't practical (unless you inherit a trust fund, in which case you don't even have to bother with earned income.)

The magic solution is unearned income, i.e. dividends, interest, capital gains on investments, etc. If the worker aiming for that comfortable retirement socks his/her retirement nestegg in high-yielding investments, the nestegg will grow over time to the sky (i.e. the $2 million needed to retire comfortably.)

This raises the second problem: identifying those magical high-yielding investments that won't suddenly turn to dust when the long-awaited retirement approaches.

In the good old days, plain old savings earned 5.25% annually by federal law. Buying a house was not a way to get rich quick, it was more like a forced savings plan, as over time real estate earned about 1% above the core inflation rate.

But all the safe ways of gaining earned income have been eradicated by the Federal Reserve. As I described in The Fed's Solution to Income Stagnation: Make Everyone a Speculator (January 24, 2014), the status quo "fix" for economic stagnation was to financialize the U.S. economy. What this means on the ground is eliminate safe returns and make everyone a speculator in high-risk, high-yield financial games.

The essence of financialization is turning debt into a tradeable security that can be leveraged into speculative pyramids. If I loan you $100,000 to buy a house, that loan is called a mortgage. The collateral for the mortgage is the property. In the pre-financialization era, I held the mortgage to maturity (30 years) and collected the interest and principal. This trickle of earnings from interest was the entire yield on the loan.

In the securitized economy, I divide the loan into tranches that are sold to investors like stocks and bonds. I can "cash out" my entire gain in the present, and then sell derivatives on the securitized debt as a form of "portfolio insurance" to other buyers.

Clever financiers can pyramid security on security and debt on debt, all collateralized by debt on one property.

This enables the generation of vast profits not from producing goods and services but from financial churning. The more debt I underwrite, the more I can securitize and the more debt instruments I can conjure out of thin air.

The key dynamic of speculative financialization is that pyramiding credit expansions lead to bubbles which eventually pop, wiping out the phantom wealth created by the bubble.

In effect, the central bank/state's policies of low interest rates, easy money and limitless liquidity sought to compensate for the decline of real income by generating speculative income on a vast scale.

The problem is that speculative financialization only benefits speculators with access to nearly free money and the securitization markets--Wall Street financiers, corporate raiders, hedge funds and other financial Elites. These Elites pocketed immense fortunes but very little of this wealth trickled down to households for the simple reason that there is no mechanism for such a transfer except taxes--and this mechanism is controlled by the central state, which is easily influenced by wealth (campaign contributions, lobbying, etc.)

The Federal Reserve's solution to stagnating household income was to make every homeowner into a speculator. The Great Housing Bubble of the 2000s was the perfection of this strategy: as every home in the nation was floating higher in valuation as the result of an enormous credit/financialization bubble, homeowners were granted a form of "free income" via home equity lines of credit (HELOCs) and second mortgages.

That this increase in home equity was a form of phantom wealth that would necessarily vanish was not advertised as being an intrinsic feature of the solution.

In the wake of the implosion of the housing bubble, the Fed sought to repeat the exact same strategy of inflating speculative bubbles in widely held assets: stocks, bonds and real estate.

So anyone assembling a nestegg for retirement is gambling that the bubbles don't all pop before he/she cashes out. If the bubbles keep inflating steadily for another decade, making assets ever-more richly valued and unaffordable to anyone who isn't using leverage to buy them, then maybe I could retire after only 55 years of work at age 71.

But what are the chances that monumental bubbles in stocks, bonds and real estate will continue inflating for another decade? Most gigantic asset bubbles pop after five years of expansion. The current bubbles are in Year 6 of their speculative expansion, and it seems highly unlikely that they will be the only bubbles in the history of humanity to never pop.

If the current bubbles follow the pattern of all other speculative credit-driven bubbles, they will pop, without much warning and with devastating consequences for all those who believed the bubbles couldn't possibly pop. In that case, it looks like I'll need to work another 30 years, logging 75 years of labor before I can retire comfortably at 91.

My advice is to focus not on retiring comfortably, but on working comfortably. Line up work you enjoy that can be performed in old age. That's a much safer bet than counting on the serial bubble-blowing machinery of the Fed to keep inflating speculative bubbles that magically never pop.

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Bill Ackman's Biggest Winners And Losers Of 2014

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Love Bill Ackman or hate him, whether or you think that his outlier "investment" of the year, one which generated nearly half of his P&L in 2014 namely the collusive hostile bid with Valeant on whose balance sheet he piggy-backed in an attempt to acquire Allergan with lots and lots of debt and whose public announcement he front-ran with even more leverage in the form of hundred of millions in call options, was more criminal than the alleged Herbalife pyramid scheme or perfectly legitimate, one thing is beyond dispute - of all the prominent hedge funds, Ackman's Pershing Square was the best performing hedge fund of 2014.

Here are Ackman's biggest winners and losers of the past year.

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The consolidation pattern from 121.84 is still in progress and is likely a triangle pattern. More sideway trading might be seen but downside should be contained by 38.2% retracement of 105.19 to 121.84 at 115.47 Meanwhile, break of 121.84 will confirm larger up trend resumption. However, sustained break of 115.55

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AUD/USD Daily Outlook

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AUD/USD dropped to as low as 0.7718 so far and met mentioned target of 61.8% projection of 0.8910 to 0.8032 from 0.8294 at 0.7751. Intraday bias remains on the downside and current fall would target 100% projection at 0.7416 next. On the upside, break of 0.8024 resistance is needed to

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USD/CAD Daily Outlook

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USD/CAD's rise continues and reaches as high as 1.2676 so far. Intraday bias remains on the upside and current rally should target 200% projection of 1.0181 to 1.1278 from 1.0620 at 1.2814. On the downside, break of 1.2378 minor support is needed to indicate short term topping. Otherwise, outlook will stay bullish in case of retreat.

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Daily Report: Dollar Firm Against Commodity Currencies as Fed Yellen Expressed Optimism on Economy

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While the greenback remains strong against commodity currencies, it's struggle to breakout from recent range against European majors. Fed chair Janet Yellen said yesterday in a private luncheon with Senate Democrats that things are going well for the US economy. However, she thought there's still a ways to go in

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