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The
Greenback Blues: Something's Gotta Give
By Mike Whitney
19/08/08 "ICH"
--- - In a matter of weeks, the euro has been pounded into
ground-chuck while the dollar has regained much of its former
glory. What gives? The mighty greenback has surged 6% in the
last month alone. Apparently, the early reports of the dollar's
demise have been greatly exaggerated. The euro is caught in the
same recessionary downdraft that is buffeting a number of
currencies, all of which are unwinding at the same time although
unevenly. Currency markets don't move in straight lines. But,
don't be fooled, most paper money is steadily losing value due
to the wild expansion of credit which started at the Federal
Reserve. Investors are moving to cash and hunkering down. Who
can blame them? As the massive equity bubble loses gas, balance
sheets will have to be mended and lending will slow to a crawl.
At present, Germany's slowdown and Spain's housing crash are
drawing most of the attention but, just wait, the spotlight is
shifting fast. Next week it could be shining down on the
America's failing banking system or poor corporate-earnings
reports in the US. Then it will be the dollar marching off to
the gallows.
Europe's troubles have put to rest to idea that other countries
can "decouple" from the US and thrive without help from the US
consumer. That might be true in the long-term, but falling
demand is already visible everywhere. Retail and auto sales are
really taking a thumping and 2009 is shaping up to be even
tougher. It's looking more and more like the Europeon Central
Bank was faked-out by the early signs of inflation and missed
the deflationary sledgehammer that was about to come crashing
down. It was a rookie error by European Central Bank (ECB) chief
Jean Claude Trichet and it should cost him his job. Raising
interest rates while sliding into the jaws of recession is
madness. Now all of Europe is headed for a hard landing and
there's no way to soften the blow. The ECB doesn't have the same
tools as the Fed; Trichet can't simply backstop the whole system
with green paper and T-Bills like Bernanke. He can either slash
rates or take a bleacher-seat and hope for the best.
The UK Telegraph's Ambrose Evans-Pritchard, sums up Europe's
woes in last week's article "ECB Slammed as Europe Crumbles":
"The economies of Germany, France and Italy all contracted in
the first quarter and may now be in full recession, shattering
assumptions that Europe would prove able to shrug off the
effects of the credit crunch....The picture is darkening so fast
in Spain that Prime Minister Jose Luis Zapatero canceled
holidays and called his cabinet back to Madrid yesterday for the
first emergency session of its kind since the Franco
dictatorship.
Growth has turned negative in Ireland, Denmark, Latvia, and
Estonia, while grinding to a halt in Sweden and The Netherlands.
Iceland contracted by a staggering 3.7pc. The grim data from
Eurostat follows a recession warning in Britain, and shock news
that the Japanese economy had shrunk 0.6pc in the second
quarter. Almost the entire bloc of rich Organization for
Economic Co-operation and Development (OECD) countries - still
two thirds of the world economy - are now in the grip of a major
downturn."
Evans-Pritchard's article reads like a chapter from the Book of
Revelation all that's missing is the plague of locusts. The ECB
is in a pickle and will have to allow the economy to cool off so
the credit excesses can work themselves out. It's like a pig
passing through the belly of the boa; it takes time.
As a result, deficits are likely to soar in the south
(particularly Spain, Greece and Italy) while growth in the
industrial north, Germany, will continue to shrink. Spain,
Ireland and England are undergoing the biggest housing meltdown
in history having fallen prey to the same Greenspan-inspired
hanky-panky we've seen in the US. Hundreds of billions of
dollars of low interest loans that were issued to unqualified
mortgage applicants has clogged up the system. Now the bill has
come due and the losses have to be written off. Expect more
blood to come.
The problem is so big that the future of the EU and the euro are
now very much in doubt. Currency traders are expecting the ECB
to lower rates (and weaken the euro) just as the future's market
is wagering that the Fed will raise rates to fight inflation.
But don't bet on it. Interest rates are going down not up,
regardless of the Fed's well-orchestrated PR campaign. Bernanke
is just waiting for Trichet to make his move before he produces
the Fed-scimitar and begins slashing rates. Don't forget, the
Federal Reserve is essentially the board of directors for the
nations banking system. If Bernanke is forced to choose between
the people who depend on the dollar as a reliable store of value
or bailing out the high-stakes gamblers who run the banks; the
Fed chief will choose the banks 100 per cent of the time. In
Vegas, that's called a "sure thing".
The perception that the dollar is getting stronger is an
illusion. Deflation is "dollar positive" because investors who
flee from toxic assets naturally move into cash. But that
doesn't mean they have faith in the dollar; far from it. The
fundamentals for the greenback get worse by the day. Fiscal and
trade deficits are out of control, the national debt is tipping
$10 trillion, foreign investment is drying up, and confidence in
US leadership has never been lower. The dollar is on a time-line
of roughly 6 to 18 months before it's rolled into spools and
sold as toilet paper. Paper currency is a country's IOU; and
foreign central banks are wary of taking checks from a country
that no longer wins wars or has the capacity to pay off its
debts. That's why, for the first time, there's serious talk
about the US losing its triple A rating on government debt; and
it could happen sooner than anyone thinks. Every time the Fed
uses the dollar to prop up the faltering banking system or
provide limitless capital for defunct GSEs like Fannie Mae and
Freddie Mac; the dollar comes under greater pressure. At a
certain point the dollar will crumble and the country will have
to sell off its assets and industries to pay the bills. That's
when the private equity vultures and Sovereign Wealth Funds will
swoop down and scavenge anything of value for pennies on the
dollar.
As the US housing market continues to collapse, trillions of
dollars in equity and credit are disappearing in a deflationary
bonfire. When a $400,000 home--with no down payment and negative
equity--goes into foreclosure; $400,000 vanishes from the
digital-pool of credit and has to be written down as a loss. So
far, much of the losses have not yet been accounted for because
the banks are using their own internal models for determining
the downgraded value of their mortgage-backed assets. Two weeks
ago, Merrill Lynch sold $30 billion of Mortgage-backed junk for
20 cents on the dollar. But they also financed the deal, so they
really only received 5 cents on the dollar. This reflects the
true "market value" of these assets. Naturally, Merrill's sale
sent tremors through Wall Street where banks and other financial
institutions are sitting on trillions of dollars of this garbage
marking it down at a few percentage points every reporting
period rather than doing what Merrill did and putting it all
behind them. As a result, the banks have less capital to lend,
which means economic activity will slow and the country will go
into a deep recession. The point is, that the Federal Reserve
now holds about $400 billion of this junk-paper on their balance
sheets and the US Treasury is planning to take hundreds of
billions more (perhaps as mush as $800 billion more under the
new legislation!) to prop up Fannie Mae and Freddie Mac. The
Bush administration is using the US taxpayer and the credibility
of the dollar as collateral in its plan to bail out the most
reckless, high-stakes Wall Street gamblers and their
multi-trillion dollar ponzi scheme that has blown up in their
face.
So, how does this affect the dollar?
The nation's debts are entirely balanced atop its currency. The
greenback is like a circus strongman holding a barbell
precariously over his head; as the weigh increases, the sweat
begins to appear on his brow and the veins begin to bulge in his
neck and forehead. Finally, the knees buckle and the and the
over-matched weightlifter crashes to the canvas in a heap.
That's the future of the dollar in a nutshell. Its just a matter
of time.
But how does that explain the sudden fall in gold prices; after
all, gold is the logical alternative to paper money, right?
Wrong. Gold is "real money" alright, but it's also a commodity.
And when commodities are smashed by a deflationary tidal
wave--as they have been the last few weeks-- gold will follow
them into the basement. In truth, gold has taken an even worse
pasting than the euro; free-falling from $980 per ounce in
mid-July to $786 at Friday's market close. $194 in a month.
Goldbugs are so fanatically committed to their views about "real
currency" and "fiat money", that any correction in the market is
seen as proof of government manipulation. (Even though they are
right many times) There's plenty of evidence of meddling in the
currency markets, just as one would expect. After all, the
western banking system, led by the Fed, operates as a cartel.
The head honchos are about as committed to free markets as Bush
is to democracy, which isn't saying much. It's all a public
relations ruse that's used to defend a de facto monopoly; the
paper money scam. So, we shouldn't be surprised when foreign
central banks unexplainably purchase $28 billion of US
government securities at the 11th hour (as they did last month)
to conceal our trade imbalance and prop up the waning dollar.
Don't forget, it's their chestnuts they're keeping out of the
fire, too. But, that doesn't mean the Fed has super powers or
that every time gold goes into a tailspin its because the black
helicopters fired invisible lasers into the currency markets.
When the economy is in the grips of deflation; all asset-classes
get dragged down, gold included. Many of the hedge funds and
other big market players are selling their gold positions
recognizing that the commodities boom is over and it's time to
move on. That doesn't mean that gold won't rebound sharply when
Bernanke slashes rates or if Bush blows up some new part of the
globe. It simply means that in the short term, "cash is king".
Pension funds and hedge funds will continue to deleverage to
reduce their credit exposure to put themselves in a better
position to roll over their debt. That means that gold's slide
could last a while. This doesn't look like a conspiracy to me,
but I intend to keep my tin-foil hat firmly strapped-on just in
case.
No one knows where the bottom is for gold, but one thing is
certain; it's future prospects are a lot brighter than the
dollar's. The Bush administration has yet to demonstrate that it
can enforce Dollar Hegemony via military intervention. That is a
very big deal. If the dollar isn't backed by (stolen) Iraqi oil,
then the $6 trillion stockpile of dollars and dollar-denominated
assets that are languishing in foreign central banks and funds,
will continue to dwindle until the dollar's position as "reserve
currency" comes to an end.
That's one doomsday scenario, but there is another. If Bernanke
and Paulson continue to pile all of the nation's credit problems
on top of the greenback; foreign capital will head for the exits
and the dollar will crash. Either way, the troubles are mounting
and something's got to give.
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