by Bill O’Grady, Kaisa Stucke, and Thomas Wash

[Posted: 9:30 AM EST] Today is the 75^th anniversary of the bombing of Pearl Harbor, a monumental event that led to U.S. involvement in WWII and eventually acceptance of the superpower role at Bretton Woods in 1945.

It was another quiet market overnight.  Perhaps the most important overnight news came out of China, which continues to see a drain of foreign reserves.

For the month of November, foreign reserves fell $69.1 bn, putting them at levels last seen in 2011.  We believe much of the drain is due to capital flight.  Reports of Chinese buyers of West Coast real estate have been increasing.[1]  Today’s FT reports that European companies are facing restrictions on repatriating earnings from China.  President-elect Trump has been pressing to declare China a currency manipulator, a status that would trigger an official investigation and consultations with the manipulating nation.  If anything, China is trying to prop up the value of the CNY.  If the currency were allowed to float, given the degree of capital flight, the CNY would likely plummet.  So, there is no doubt that China manipulates its currency; it isn’t alone in this regard.  But, the way China is manipulating the currency is by raising its value, which would discourage its exports.  Trump isn’t incorrect that China has used its currency to increase exports in the past, but that isn’t the case now.

In fact, the CNY has lifted a bit recently, probably on fears that the likelihood of a reaction from Trump would increase if the CNY/USD level breaches 7.0.  However, it appears the primary fear of Chinese officials is that the CNY will weaken further due to money desperately seeking a home outside of China.

As a side note, the primary reserve currency nation needs to have a deep, liquid and open financial system.  China’s financial markets have none of these characteristics.  For those worried about the CNY becoming a reserve currency and replacing the dollar, China’s recent behavior of manipulating its currency and trying to prevent money from leaving the country are simply inconsistent with being the primary reserve currency nation.

Tomorrow, Mario Draghi will hold his regularly scheduled ECB policy meeting along with his press conference.  It is expected that the ECB will extend its QE program beyond March 2017, when it is scheduled to end, but there is the potential he will signal a reduction in the pace of buying during that extension period.  We are seeing some short-covering in the EUR in front of the meeting.

Finally, we want to take note of a recent comment by Stephen Schwarzman at a Goldman Sachs (GS, 231.38) conference yesterday.  Schwarzman, the head of Blackstone (BX, 26.55), says the Trump administration will usher in the most profound regulatory/tax changes he’s seen in his 45 years in finance.

“The changes as a result [of the election] are going to be very substantial in many areas, but particularly in the business community and the financial area. You’re going to have a very substantial reversal in regulations of all types…if you look at the architecture of the financial world, it’s going to change very substantially…this is as big a change happening all at once – I’ve been in finance for, I don’t know, 45 years? This will be the biggest…When you have changes like this that are so profound, it’s going to drive higher GDP. It’s going to make the U.S. a more friendly place for foreign capital. And it’s going to have significantly accelerated growth not just for financial institutions but for the country as a whole…So, this is, like, very important. It’s very important. And it’s not just about some stocks for financial companies, although that would be a nice thing. It’s much bigger and more impactful over a much longer period of time.”

Is Schwarzman right?  We are not sure.  There have been some pretty substantial changes over the past 45 years.  These changes include the end of restrictions on interstate banking, the end of Glass-Steagall, massive industry concentration, Dodd-Frank and a series of massive tax reforms, two under Reagan, one each under Clinton and G.H.W. Bush, etc.  So, Schwarzman is guilty of a bit of hyperbole here.  We think he is saying that, under President Obama and in the wake of the Great Financial Crisis, the financial services industry has been facing a myriad of new regulations that have hurt the profitability of the industry.  Is it reasonable to assume some degree of regulatory relief?  Yes; the cabinet appointments alone would lead to that outcome.  But, will President Trump deliver regulatory changes on the scale of interstate banking or the removal of Glass-Steagall?  It seems hard to believe that anything of that magnitude is on the horizon.

And, it’s important to remember that bringing back Glass-Steagall was part of the GOP platform.  One of the key unknowns for next year and thereafter is who will best represent Trump’s policies—Speaker Paul Ryan or Senior White House Counselor Steve Bannon?  If it’s Ryan, and Trump turns out to be a typical GOP establishment supply-sider, then Schwarzman will be more correct than not (still guilty of hyperbole but not wrong about regulatory relief).  This outcome probably also means that a left-wing populist will win the White House in 2020.  If Trump is a Bannon-style populist, banks will face continued regulatory pressure.  At this point, we don’t know who Trump will actually be; at present, both Ryan and Bannon supporters are projecting their hopes and dreams on the upcoming presidency.  That’s why right-wing populists and supply siders are finding common cause.[2]  However, their policy goals are not consistent.  Bannon’s Trump punishes firms for offshoring and puts up trade barriers.  He badgers firms into increasing employment and wages.  Ryan’s Trump cuts taxes on the upper income brackets and embraces globalization and deregulation.  The visions are not in unison.  If Trump is successful, he will convince the two sides that he is their supporter and weave a policy mix that gives enough to each side to placate both.  That will take a bit of political mastery.

What’s important here is that the financial market, especially the financial sector, is discounting lots of good news.  It remains to be seen how much good news will actually be forthcoming.  Schwarzman’s quote demonstrates that hopes are high.

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[1] https://www.bloomberg.com/news/articles/2016-12-04/vancouver-housing-tax-pushes-chinese-to-1-million-seattle-homes;

http://www.seattletimes.com/business/real-estate/seattle-becomes-no-1-us-market-for-chinese-homebuyers/.

[2] In the spirit of Advent, it’s a bit like Isaiah 65:25.  The wolf and the lamb shall feed together, and the lion shall eat straw like the bullock: and dust shall be the serpent’s meat. They shall not hurt nor destroy in all my holy mountain, saith the LORD.

by Bill O’Grady, Kaisa Stucke, and Thomas Wash

[Posted: 9:30 AM EST] It was mostly quiet overnight with the market’s focus on the aftermath of the Italian referendum.  The most relevant concern is the Italian banking system.  The lead headline in today’s FT is “Monte dei Paschi Warned to Brace for State Bailout after Renzi Defeat.”  Former PM Renzi had cobbled together a bailout plan worth €5.0 bn, contingent on winning the referendum.  With the vote’s failure, this bailout is probably not going to occur.

Under normal circumstances, a banking system crisis is usually addressed by the central bank providing liquidity to prevent a bank run, followed up by some sort of public recapitalization.  In the U.S., the Federal Reserve offered a series of packages (shown on the chart below) that allowed banks to sell assets (loans) to the government in return for liquidity.

In the case of the U.S., the acute problem was liquidity, not solvency.  Thus, the $500+ bn injected into the banking system allowed the U.S. to get through the crisis.  As loan values recovered, the money was returned.  In Italy’s case, the loans are probably bad and so a recapitalization and workout is in order.  However, EU rules require that shareholders and bondholders get “wiped out” first before governments can supply funds.  Monte dei Paschi has €2.0 bn of retail bondholders who, based on EU rules, should suffer losses before taxpayer support.  However, these bondholders should be better thought of as depositors and hitting this class of creditors will be very unpopular politically.  Overall, the Italian banking system is holding €360 bn of bad loans.  If the lira were still around and the Bank of Italy had real power, the banking system would simply be recapitalized by the central bank; the central bank would be backstopped either by taxpayers or by printing money.  The most likely outcome would be the latter, which would lead to higher interest rates and a weaker currency.

However, by joining the Eurozone, this option is no longer available to the Italian banking system.  In fact, EU rules severely constrain the Italian government’s ability to deal with this banking problem in a politically acceptable manner.  One of the key goals of the Five Star Movement, a left-wing populist movement in Italy, is to hold a referendum on exiting the Eurozone.  If EU rules trigger a banking crisis (in other words, if the perception is that rigid German rules force small Italian bondholders to lose money), then the odds of a populist reaction to leave the Eurozone will increase.  We expect the EU to bend the rules to allow the Italian government some leeway in providing support because an Italian exit from the Eurozone would probably be the death knell for the single currency.

In other news, OPEC meets with non-OPEC members over the weekend.  Saudi Arabia has insisted on pledges of a 0.6 mbpd production cut from outside the cartel.  We expect some sort of agreement will be reached but would not expect any real cuts in output.  Already, Russia’s promised cuts of 0.3 mbpd will be “gradual” in the coming months and, since the OPEC deal only runs through June, it is quite possible that Russian production won’t fall at all in H1 2017.  Kazakhstan just opened the Kashagan field and will be reluctant to reduce output; in fact, its production is set to rise by 0.2 mbpd.  On the other hand, Oman, Bahrain and Mexico will all likely see falling output due to falling investment.  Overall, we expect the promised cuts to be made but no material reductions in output are likely.  However, if negotiations fail, the OPEC deal is probably off and oil prices would be vulnerable to a drop to pre-OPEC meeting levels.

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by Bill O’Grady, Kaisa Stucke, and Thomas Wash

[Posted: 9:30 AM EST] Italians rejected former PM Renzi’s plans for government restructuring.  This outcome was actually expected by pollsters, although the level of the rejection, at 60%, was at the highest end of expectations.  As he promised, Renzi resigned.  The president of Italy will now give time for the parties in parliament to form a government.  If one cannot be formed, new elections will be held.  The new elections are the wild card in this situation.

Market reaction was swift but short-lived.  The EUR fell initially, but has since recovered.

This is a three day, three-minute chart of the EUR/USD exchange rate.  The currency plunged when the results were announced, but has recovered all of its losses.  The pattern that has been emerging is that markets react negatively to political news then recover.  What has changed is that the recovery is occurring at a faster pace.  Markets recovered fairly quickly to Brexit, with equities returning to previous values within a few weeks.  With the Trump election, recovery came in about a day.  With Renzi, it was a few hours.  The underlying themes of equity bullishness and bond bearishness remain.

Economic growth is improving.  Q3 GDP was strong; Q4 is running near 3%.

The Atlanta FRB’s GDPNow forecast has fallen a bit but is still running above consensus.  In looking at the components, we are seeing some easing of consumption and a worsening trade situation bringing the forecast down from its recent peak of 3.6%.  On the other hand, equipment investment and homebuilding are adding to growth.  The bottom line is that the economy looks like it is putting in two solid quarters of growth.  The FOMC will likely take a more hawkish view toward policy given the improving economic situation.

The other big weekend news was President-elect Trump’s call with the leader of Taiwan, Tsai Ing-wen.  Trump tore up a delicate balance with this call.  Here is a quick historical background.  In the early 1970s, the U.S. was losing the war in Vietnam.  The U.S.S.R. was threatening both Europe and China.  American intelligence concluded that the Soviets could not fight a two-front war, one in Europe and another against China.  If the U.S. wanted to cheaply keep the Soviets from acting in Europe, it needed to force the U.S.S.R. to keep defending the Sino-Russian border.  To do this, Nixon went to China and “sold off” Taiwan.  Up until that point, the official policy of the U.S. was that the Nationalist government on the island of Taiwan was the official government of China, including the mainland.  This was obviously fiction.  Nixon decided trading that fiction to keep the Soviets occupied was a good policy.  In fact, it probably was.

Many policies and procedures can become hardened into practice even though the initial reason for the change wasn’t necessarily thought to be long-term in nature.[1]  For China, getting recognition as the legitimate government of China in return for keeping up hostilities against the U.S.S.R. was a good deal.  It meant a lot to China, which didn’t have the military power to take the island (it probably still doesn’t).  Not only did Nixon end the threat to Europe, but the U.S. got listening posts in China to help spy on the Soviet Union.

However, the relationship between China and the U.S. has changed.  China has been freeriding the U.S. hegemonic role for decades (China isn’t alone in this practice, either).  Trump’s decision to take the call, which was apparently calculated,[2] is sending a signal to China that the outlines of the China/U.S. relationship are going to be renegotiated.  China won’t be happy about that.  That’s too bad.  The point here is don’t focus on Taiwan; it’s not all that important.  The key point is that the relationship between China and the U.S. is going to be reworked.  We don’t know exactly how, but a nation dependent on foreign trade and facing a crisis of capital flight isn’t in a real strong bargaining position.[3]

That doesn’t mean we won’t have more volatility in our future.  It’s important to remember that Trump ran on a campaign to change the way the economy and political and geopolitical systems work.  The warning to China, along with the warning to U.S. firms on outsourcing, should be seen in the same framework.  The most obvious outcome to all of this is probably higher inflation.

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[1] The Guru and the Cat story is a famous allegorical example.  See: https://seekingtheessence.wordpress.com/2006/09/09/the-guru-the-cat/.

[2] See: https://www.washingtonpost.com/politics/trumps-taiwan-phone-call-was-weeks-in-the-planning-say-people-who-were-involved/2016/12/04/f8be4b0c-ba4e-11e6-94ac-3d324840106c_story.html?hpid=hp_hp-top-table-main_trump-taiwan-835pm:homepage/story&utm_term=.a42045bde6cb.

[3] And, those Treasuries that China holds?  Couldn’t it “dump” them?  Yes, into a falling market and the Fed could simply return to QE temporarily to absorb the shock.  Also, where does China put that $1.19 trillion of liquidity after it sells the Treasuries?  There is no other market in the world that could absorb that cash.  It’s important to remember that China bought those bonds as a form of vendor financing to maintain employment in China.  Thus, dumping them isn’t really a threat.  In fact, the rise of capital flight represents a much bigger risk to China.

by Bill O’Grady, Kaisa Stucke, and Thomas Wash

[Posted: 9:30 AM EST] Happy employment data day!  We cover the report in more detail below but, in a nutshell, the big surprise was a drop in the unemployment rate to 4.6%, the lowest since August 2007.  The unemployment rate fell due to a 266k drop in the labor force, meaning the employment/ population ratio remained steady at 59.7%.  Despite the apparent tightening of the labor market, wage growth remains stagnant, with the growth rate of hourly earnings for non-supervisory workers holding steady at 2.4%.  Over the past three business cycles, an unemployment rate this low has coincided with wage growth near 4%.  Market reaction has been modest; the data won’t change the likelihood of a Fed rate hike later this month.

Two major political events will occur this weekend in Europe.  First, the Italians are holding a referendum on streamlining government.  PM Renzi has staked his political future on securing a “yes” outcome.  At present, that looks like a bad move on his part.  Although Italian law makes it illegal to poll two weeks before an election, polling has suggested that the referendum will probably be defeated.  However, polling firms have not enjoyed much success lately and it would be consistent for them to be wrong here.  We do note that polls have indicated strong opposition in southern Italy, which tends to have low turnout.  We are expecting a rejection of the referendum and Renzi’s resignation, but we do caution that 2016 has been nothing but surprises so an unexpected outcome is still possible.

If the referendum fails and Renzi resigns, the odds of early elections will rise.  Both the Five Star Movement party and the Northern League are calling for a referendum on EMU membership.  Italian support for the Eurozone and the EU isn’t very strong and there is good evidence to suggest that the Italian economy needs a steadily weakening currency to function.  For example, using the leading indicators (LEI) as a proxy for growth, the average yearly change in Italy’s LEI prior to 1999 (the onset of the EMU) was 3.2% per year.  Since joining the Eurozone, LEI growth is a mere 0.2%.  The chart below shows the lira/DM exchange rate.

The Italian lira steadily weakened against the D-mark until the rate was fixed in the single currency.  Since Italy lost its ability to depreciate its currency against the D-mark, its economy has stagnated.  Thus, pressure to exit the single currency makes sense; on the other hand the chaos that action would bring would be immense.  If the referendum on Sunday fails and Italy moves toward exiting the Eurozone, Germany will face a difficult choice.  The Merkel government will either need to accommodate Italy’s needs by expanding consumption and running current account deficits within the Eurozone or watch the single currency break apart.  Although Sunday, by itself, won’t determine this outcome, it isn’t a far stretch to see this scenario developing.

The other vote is for a mostly ceremonial position of president of Austria.  Norbert Hofer, a right-wing populist who narrowly lost a similar election earlier this year that was thrown out due to voting irregularities, is trying for a second time to win this post.  Current polling has the race too close to call.  If Hofer wins, it would be the first right-wing government in Austria since 1945.  It would also claim yet another nation for the populists.

Finally, the French will vote for a new leader next spring.  The current president, François Hollande, will not run for another term.  This is the first time in postwar history that a French president has not run for another term.  It is likely that Manuel Valls, the current PM, will represent the Socialists against François Fillon from the conservative parties and Marine Le Pen from the National Front.  The final round will be held in May of next year.  Hollande’s approval ratings have been abysmal and he probably would not have survived the primary.  Current polls suggest that Fillon will face Le Pen for the presidency after the first round (in France, the first round eliminates all but the top two vote gatherers who then run in the final election).  Fillon is running as a right-wing supply side candidate, while Le Pen is a right-wing populist.

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by Bill O’Grady, Kaisa Stucke, and Thomas Wash

[Posted: 9:30 AM EST] The reason for yesterday’s price strength is based on hopes that OPEC will cut output.  Here are some of the details from the agreement:

We have compared the quota arrangements to Bloomberg’s October estimate, the OPEC “reference” of November production and what the quota change is in relation to both.  On the table, we have highlighted three nations in yellow.  Indonesia suspended its membership (presently, it’s an oil importer and OPEC is an oil exporter club) and thus has no quota, while Nigeria and Libya were also not given quotas due to local unrest.  The cuts are not inconsequential; compared to the Bloomberg estimate, we have cuts of nearly 1.3 mbpd.  This is somewhat less than advertised, but still significant.  The deal is contingent on output cut pledges of 600 kbpd from non-OPEC members.  According to Bloomberg, about 500 kbpd has been pledged, with Russia cutting 300 kpbd, Mexico 150 kbpd and Oman about 45 kbpd.  Russia says it will cut during H1 2017, so it could be a while before its cuts occur.  It should also be noted that these cuts are not effective until January, therefore we would expect high production levels this month.

So, will oil prices remain firm?  Probably, although we have serious doubts that Russia will cut production at levels anywhere near its pledge.  We look for Iranian and Angolan production to rise from October levels.  On the other hand, we do expect the Gulf States to keep their word and these nations account for 1.011 mbpd of the cuts.  Thus, we will almost certainly see a cut of this amount even if the others fail to meet their obligations.  This means, conservatively, we can expect production of around 33.0 mbpd in January.

Will this reduce the supply overhang?  It will help, but declines of magnitude will only materialize if U.S. output doesn’t lift, which is probably an optimistic assumption.  Dan Yergin, a well-respected oil analyst, suggests that U.S. production will probably rise 0.3 to 0.5 mbpd in 2017 due to higher prices from this agreement.  That would fill about half of the Gulf States’ cuts.  Although optimism is clearly running high right now, in the end, the key unknown is whether this deal will reduce the current oil supply overhang.  We should see some progress but, as we detail below, current prices have already discounted significant inventory reduction in an environment of a strong dollar.

U.S. crude oil inventories fell 0.9 mb compared to market expectations of a 1.5 mb build.

This chart shows current crude oil inventories, both over the long term and the last decade.  We have added the estimated level of lease stocks to maintain the consistency of the data.  As the chart below shows, seasonally, we should see inventories tend to stabilize into the end of November and decline into year’s end.

Based on inventories alone, oil prices are overvalued with the fair value price of $38.80.  Meanwhile, the EUR/WTI model generates a fair value of $39.78.  Together (which is a more sound methodology), fair value is $37.50, meaning that current prices are well above fair value.  Assuming a €/$ exchange rate of 1.060, $50 WTI has discounted oil stocks at 401 mb, about 118 mb below current levels.  Although we expect the oil market to give OPEC the benefit of the doubt, some period of consolidation at these levels would make sense.

The GBP jumped today on reports that Brexit Secretary Davis is considering paying the EU for access to the single market.  Fears that firms would be prevented from accessing the single market for finance has pressured the U.K. currency; however, if the May government can maintain access to the EU, much of the negative economic impact from Brexit would be mitigated.  As we have noted before, the GBP is deeply undervalued on a parity basis so this news should be supportive for the currency.

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by Bill O’Grady, Kaisa Stucke, and Thomas Wash

[Posted: 9:30 AM EST] The big overnight news came from the OPEC meeting, where the latest is that the cartel has agreed to reduce production by a reported 1.2 mbpd.  There are also reports that OPEC expects non-OPEC producers to cut output by an additional 0.6 mbpd.  We still don’t have details on the cuts.  According to reports, it seems that the Saudis did “blink” in that they are apparently allowing Iran to operate without a quota.  If this is the case, it is a major shift by the kingdom and suggests power is shifting to the Tehran-Baghdad-Moscow axis.  Regarding the non-OPEC cuts, Russian cuts are said to be at least 0.2 mbpd to maybe 0.4 mbpd.  However, we seriously doubt Russia will actually cut anything and we really don’t expect other non-OPEC producers to do anything either.

This is a three-day tick chart for nearest oil futures.  The jump today is obvious.

So, what happens now?  Here are a few thoughts:

Financial markets, by design, discount the future.  Using our inventory/dollar oil price model, assuming a €/$ exchange rate at today’s levels of 1.0637 and oil prices of $48.20 (about where we are today), this price is discounting U.S. commercial crude stockpiles[1] of 421 mb, or a decline of about 100 mb from current levels.  So, assuming 3.0 mb draw per week, it will take about 33 weeks to reach this level…or assuming 2.0 mb draw per week, we are about a year ahead of ourselves.  This price reaction is probably overdone.  Now, it is possible that the dollar could weaken.  A euro at 1.1475 would justify current oil prices assuming constant inventory levels.  However, for the near term, we would not expect the dollar to weaken.

We may see the Brent-WTI spread widen.  Much of the OPEC supply is priced at Brent.  However, higher oil prices will start to spur U.S. production which, at current spread levels, will tend to raise U.S. inventories.  The WTI price will need to fall relative to Brent to support U.S. exports.

Rising U.S. oil production could be bearish for natural gas prices.  As oil production rises in the U.S., associated natural gas output will rise, too.  This factor will tend to boost natural gas supply and, in the absence of stronger demand, natural gas prices would be dampened.

Overall, we are somewhat surprised by the OPEC news, although the “devil remains in the details.”  In other words, until we see an actual roster of production quotas, this is all jawboning.  The fact that the Saudis appear to have caved increases the likelihood of an agreement.  As we discussed above, there is a lot of optimism already in the market that will require a significant decline in inventories.  At the same time, the very fact that OPEC is trying to support prices is positive for oil and, at least for a while, traders will probably give the cartel the benefit of the doubt.  Interestingly enough, OPEC cuts will probably give market share to non-OPEC output over time.

In yesterday’s GDP data, we note that profit margins have improved.

This chart shows corporate profits for the economy as a percentage of GDP on a before- and after-tax basis.  Note that margins have rebounded over the past two quarters, which is something of a surprise.  Since 1980, the spread between before- and after-tax profits have averaged about 2.6%.  If tax reform is successful, this spread could narrow further and lift after-tax profits.

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[1] Adding back in pipeline oil.

by Bill O’Grady, Kaisa Stucke, and Thomas Wash

[Posted: 9:30 AM EST] On the eve of the OPEC meeting, the cartel is struggling to come to an agreement, with Iraq and Iran still insisting on a production freeze above their current levels of output.  Russia has decided not to send a delegate.  If a deal of substance is going to be made, it will require unilateral cuts from Saudi Arabia.  Because oil demand is price inelastic in the short run (which means that a 1% rise in price will lead to a <1% fall in demand), revenue would rise to all producers; however, for Saudi Arabia, any rise in revenue would be less than its rivals.  It also runs the risk that non-OPEC producers, mainly U.S. shale producers, will lift output and fill any reductions OPEC makes.  Although the odds of a substantial deal are low, we would not be shocked by some sort of face-saving agreement in which non-specific cuts are promised.  Unfortunately for the cartel, a deal lacking substance will probably fail to lift the market because the stronger dollar is working against higher oil prices.

Current oil prices are more consistent with a EUR/USD exchange rate closer to $1.100.  For the most part, oil prices have ignored the impact of Trump’s election.  It seems rather obvious that OPEC hopes have allowed oil prices to levitate in the face of a stronger dollar.  But, a disappointing OPEC outcome runs the risk that oil will fall to around $37 per barrel.

It appears that Park Geun-hye, the president of South Korea, is preparing to resign from office.  Her administration has been rocked by a scandal where a Rasputin-like figure appears to have used her relationship with the president for personal gain.  It is unclear whether the legislature will accept her resignation or press for impeachment.  Resignation would probably not be immediate, whereas impeachment would remove her from office more quickly.  Park has been facing massive protest rallies against her government as the scandal worsens.  What is concerning about this outcome is that as the South Korean government is distracted with internal strife, the geopolitical situation in the Far East is becoming increasingly unstable.  The president-elect has officially killed TPP, raising the impression that the next government is ending the “pivot” to Asia, and, as we noted in our recent WGR series, the Philippines has moved toward China.  It isn’t out of the question that the mercurial leader of North Korea, Kim Jong-un, could view this as an opportunity to “make some noise,” which could be anything from nuclear blackmail to military action against the South.  We don’t think Kim will necessarily do anything rash, but the odds have increased.  It behooves the South Korean leadership to act quickly to address the presidential question because the longer the turmoil lasts, the greater the odds are that North Korea takes the opportunity to create problems.

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