Britannia Radio

Wednesday, 20 May 2009 What happens when green shoots sink deeper roots and flower... Watch out... The greenback's headed for the toaster oven... The spooky "progress" of the US budget deficit... Thomas E. Woods on Obama's magic bubble deflator... Deficits Threaten US Dollar Supremacy by Bill Bonner Baltimore, Maryland Everything is happening...just as we thought it would. Stocks are rising. And people think they see better times coming. Whoa...this is eerie! Following the great crash of '07-'09 cometh the rebound. Hesitant, cautious at first... Then, people begin to believe it. They begin to see the "green shoots" of a revival. Stock prices rise. The green shoots sink deeper roots and flower. Pretty soon, people think they are knee-high in clover. Confidence is rising. Consumers, house-holders, investors - all think the worst is over. And if the worst is over, better times must be coming. If better times are coming, prices should be rising. And investors should be making money. And businesses should be expanding. It's all happening as forecast. Except that businesses aren't expanding. The underlying economy is not really getting better. It's actually getting weaker. But we'll talk about that another day. Today...we issue a warning: watch out, the greenback is going into the toaster oven... Yesterday, the dollar held steady at $1.36. Meanwhile, the Dow gave up 29 points...after a strong day yesterday. Oil rose over $60. And gold gained $5 to $926. First, here's what Nouriel Roubini had to say in the New York Times: "We may now be entering the Asian century, dominated by a rising China and its currency," Roubini contends. "This decline of the dollar might take more than a decade, but it could happen even sooner if we do not get our financial house in order. The United States must rein in spending and borrowing, and pursue growth that is not based on asset and credit bubbles. For the last two decades America has been spending more than its income, increasing its foreign liabilities and amassing debts that have become unsustainable." Yes, it could take more than a decade. But investors could take a big loss any day. All it would take would be a sudden move by China...or a shocking inflation figure in the US...or a Treasury bond auction that doesn't go as planned. Everyone is watching the United States...carefully. And foreigners hold trillions' worth of dollar-based assets outside the US. These are dollars that people hold, not to pay their bills or buy gasoline, but as a speculation. They're speculating the greenback will hold its value as well or better than the other things they might do with their money. Europeans hedge their bets against the euro - with dollars. Asians hedge their bets against falling stock prices. Russians hedge their bets against the ruble. Latin Americans hedge their bets against their own pesos, bolivars and cordobas. Everybody likes dollars because they are the most trusted money in the world. For the last 50 years, nothing could compete with the dollar. (Even though the dollar lost value against a number of other currencies over long periods of time.) These foreign holders are already nervous. They've seen the mess the US has gotten itself into. They read the headlines. They watch the news. They know that the US is running a budget deficit this year equal to four times the biggest budget deficit ever - a record set just last year. It is as if a runner broke the record in the 100-yard dash...and then ran the course four times faster a year later. This is not progress. This is spooky. The Chinese already let the US know they were worried. "We trust you to protect the value of our assets," they said to the American Treasury secretary. And as long as they trust the US to keep its promises and protect its money, they'll continue to hold US dollar investments - notably, US Treasury bonds. But just wait until the US loses their trust. In a matter of minutes, China could dump enough US dollars to set off alarms all over the world. All of a sudden dollar holders would rush for the exits - each one trying to get out before the others. In minutes, the dollar market could collapse...taking down US Treasury bonds with it. Our Pittsburgh correspondent thinks he sees this happening soon. "Bye Bye US Dollar!!!" writes Byron King. "We'll go to bed one night and wake up the next morning and the dollar will be toast... "Wow... Have we in the US screwed ourselves, or what? The rest of the world has to be watching us and laughing up its sleeve. A big, muscle- bound superpower with a declining industrial base, sitting around navel-gazing about how much more of our industry we'll dismantle; how much of our energy production we'll curtail... Meet the future..." And now over to Ian, with some more news from Charm City: "Rejoice!" says Ian in today's 5 Minute Forecast. "The credit crisis is over." "Sort of...maybe. "Most of the complicated lending spreads that define a crisis in credit have returned to normal levels. For starters today, the mighty 'TED spread.' "Kind of a mouthful of a chart, eh? In simple terms, the TED spread is the difference, in percentage points, between how much it costs the banks to borrow dollars and how much it costs the U.S. government to do the same. The lower the spread, the more freely money is being lent around the country. "The spread is now at its lowest level since August 2007. "Alan Greenspan's favored Libor-OIS spread is back to pre-crisis levels. This complicated affair of interbank lending compared to overnight index swaps was at 87 when Lehman died, peaked at 364 on Oct. 10 and this morning is barely 52. "Our point? While the crises in employment, housing, banks, stocks and life in general still seem as pertinent as ever, the credit crisis is a thing of the past...for now, at least." Each weekday, Addison brings readers The 5 Min Forecast, an executive series e-letter that provides a quick and dirty analysis of daily economic and financial developments - in five minutes or less. The 5 is free to subscribers of our paid publications, including the newly revamped Richebächer Letter. In the latest issue, you'll learn about the seven "super shields" that you can use to safeguard yourself against further losses. Check it out here. Now back to Bill, also in Baltimore: *** Friend and colleague Byron King sent the following article from the Financial Times: "Brazil and China eye plan to axe dollar," the article begins. "Brazil and China will work towards using their own currencies in trade transactions rather than the US dollar, according to Brazil's central bank and aides to Luiz Inácio Lula da Silva, Brazil's president. "The move follows recent Chinese challenges to the status of the dollar as the world's leading international currency. "Mr Lula da Silva, who is visiting Beijing this week, and Hu Jintao, China's president, first discussed the idea of replacing the dollar with the renminbi and the real as trade currencies when they met at the G20 summit in London last month. "An official at Brazil's central bank stressed that talks were at an early stage. He also said that what was under discussion was not a currency swap of the kind China recently agreed with Argentina and which the US had agreed with several countries, including Brazil. "Currency swaps are not necessarily trade related," the official said. "The funds can be drawn down for any use. What we are talking about now is Brazil paying for Chinese goods with reals and China paying for Brazilian goods with renminbi." "Mr Zhou recently proposed replacing the US dollar as the world's leading currency with a new international reserve currency, possibly in the form of special drawing rights (SDRs), a unit of account used by the International Monetary Fund. "In an essay posted on the People's Bank of China's website, Mr Zhou said the goal would be to create a reserve currency 'that is disconnected from individual nations.'" Until tomorrow, Bill Bonner The Daily Reckoning ----------------------- Special Offer ------------------------- Use a 2,309 Year-Old Strategy to Make Huge Gains What you're about to see requires no special knowledge. It doesn't involve anything complex or technical. It's easy to do - and the gains can roll in fast. No matter if the markets go up, fall down, or slide sideways. Because the strategy you're about to discover works like gangbusters...each and every day. --------------------------------------------------------------- The Daily Reckoning PRESENTS: Although most of our long-suffering DR readers know where the bubbles come from (hint: it's not a stork), the vast majority of Americans believe that bubbles just appear...and we need government to identify and destroy them. Thomas E. Woods, Jr. explores, below... Obama's Magic Bubble Deflator by Thomas E. Woods, Jr. Auburn, Alabama In case you've ever wondered what it must have been like to read Pravda, reading the American media's treatment of the financial crisis and our wise leaders' expert management of it all has given everyone a wonderful opportunity. For instance, check out this headline from a piece from several days ago on Politico: "Obama Would Regulate New 'Bubbles.'" Yes, you read that right. "Bubbles" just occur spontaneously. They have no cause or explanation. We need government to identify and destroy them. Sometimes I wish our overlords would get their stories straight. First, Alan Greenspan - whom the New York Times once described, in its typical toadying, totalitarian fashion, as "the infallible maestro of our financial system" - told us it was impossible to tell if a bubble existed at any given time. Now we have Barack Obama insisting that not only can we detect bubbles, but we can also deflate them with sufficient dispatch to prevent them from causing any serious economic disturbances. How are we peons to decide between the competing views of our infallible maestro on the one hand and the man who would be FDR on the other? I shouldn't be so cynical. It is not for us to question how our overlords intend to distinguish between genuine growth in some industry on the one hand and bubble conditions on the other. Just to be safe they may have to quash all rapid growth wherever it occurs. Perhaps they can cut off credit to an entire sector of the economy, or levy industry-specific taxation. (Anyone who thinks this type of discretion and micromanagement might be exercised with political motivations in mind, or for any purpose other than the common good, is almost surely a good candidate for surveillance in our progressive commonwealth.) "Our present crisis was caused by excessive “leverage” you see – though we won’t bother asking where major economic actors managed to get all this credit in the first place. That might lead people to ask hard questions about the Fed yet again..." In their quest to free us from economic instability, our betters may find it necessary to institute new rules. It is our job to accept these new rules with docility and thanks. These rules might have to be kind of sweeping, perhaps on the order of nobody may do anything. In liberal times that could perhaps be modified to nobody may do anything without asking permission. True, we could then wind up with a lengthy debate about whether asking permission itself counted as doing something, such that we'd need to ask permission in order to ask permission, in an endless regress. We'd then be back to the original nobody may do anything, which is probably the safest place to be anyway. Or perhaps our rulers could shut down the electrical grid from time to time. I'd like to see those greedy fat cats inflate a bubble without any electricity! Now the possibility that the government itself could be the primary culprit in the generation of asset bubbles is of course not merely rejected; the very idea cannot even be entertained. The great progressive institutions of government and central banking the causes rather than the solutions to our problems? Impossible! Everyone knows Bad Things happen in the economy because of wicked speculators and grasping businessmen. If someone were to ask whether the Federal Reserve's creation of $8 billion out of thin air every week on average for four solid years might have had a tiny bit to do with the housing bubble, well, we'd have to remind such a cynic that the Fed was created in order to give us macroeconomic stability. Our present crisis was caused by excessive "leverage," you see - though we won't bother asking where major economic actors managed to get all this credit in the first place. That might lead people to ask hard questions about the Fed yet again, and as we've seen, the Fed is our Wonderful, Stabilizing Friend. It is true that Anna Schwartz, the famous monetarist (and not an Austrian economist), recently observed that asset bubbles cannot form without loose monetary policy by the central bank to fund them. "If you investigate individually the manias that the market has so dubbed over the years, in every case, it was expansive monetary policy that generated the boom in an asset. The particular asset varied from one boom to another. But the basic underlying propagator was too-easy monetary policy and too-low interest rates that induced ordinary people to say, well, it's so cheap to acquire whatever is the object of desire in an asset boom, and go ahead and acquire that object. And then of course if monetary policy tightens, the boom collapses." (Schwartz also rejects former Fed chairman Alan Greenspan's "attempt to exculpate himself" for the housing bubble.) Schwartz is here echoing what Austrian economist Ludwig von Mises said decades earlier. A sudden drive for a particular kind of investment will raise the prices of complementary factors of production as well as the interest rate itself. In order for a mania-driven boom to persist, there would have to be an increasing supply of credit in order to fund it, since investments in that sector would grow steadily more costly over time. That could not occur in the absence of credit expansion. The dot-com and housing bubbles can both be explained by artificial credit expansion, say such economists. If we are to believe these economists, the best way to prevent future asset bubbles would be to stop the Fed from creating so much money out of thin air in the first place. Better still, we should abolish the Fed altogether, since in the view of these economists it is entirely superfluous to a market economy. Again, though, our trust should be in princes. After all, Austin Goolsbee, an economic adviser to the president, assures us that Obama will be on the lookout for both bubbles and busts. The president, Politico notes, is "...prepared to intervene to make sure that kind of red-hot growth doesn't occur. And he's willing to do it with added government regulation if needed to prevent any one sector of the economy from getting out of balance - the way the dot-com boom did in the 1990s and the real-estate market did earlier this decade." See, those things just happened! No cause. They just happened. And government will protect us from them. Mark Zandi, a former economic adviser to John McCain, adds that "policymakers always intervene in a downturn. So it is necessary for policy makers to take action against bubbles. You've got to be symmetrical in your policy." What we need, says Zandi, is a "systemic regulator" who will decide whether or not bubbles exist and then take appropriate action. (See how much different a McCain administration would have been on the economy?) Naysayers may point out that the Fed's own economists denied that a housing bubble existed, and that, as we observed earlier, Greenspan himself believes it's impossible to detect bubbles at all. But surely one more regulator, a big, giant, super-duper regulator, should be able to get things right. Some people say the market is the best regulator. After all, the free market doesn't pump up the money supply and push interest rates down to levels that promote unsustainable bubbles. The free market punishes reckless risk takers, while it is government that bails them out (and thereby encourages them to take greater risks in the future). It was the Fed, not the free market, from which the "Greenspan put" - the implicit promise to bail out major Wall Street players - emerged. The Financial Times warned that these guarantees were encouraging dangerously risky investments. The free market makes no such guarantees, and thereby cultivates a more cautious class of entrepreneur. But enough with these naysayers. I for one welcome our new overlords. Every American citizen could stand to learn from that model of filial piety, Britney Spears, who urged, "I think we should just trust our president in every decision he makes and should just support that, you know, and be faithful in what happens." Amen. Thomas E. Woods, Jr. for The Daily Reckoning