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Finding Gold’s True Value (part two)

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Finding Gold’s True Value (part two)

Posted on 22 January 2014 by MoneyMorning

An interview with Paul van Eeden, founder of Cranberry Capital

Yesterday, we published part one of an interview from our US sister publication, The Daily Reckoning America, with Paul van Eeden. He explained to you how he discovers gold’s intrinsic value; the key, according to him, is using his ‘Actual Money Supply’ measure, which he described yesterday. (If you missed Part One of the interview, you can read it on our website, right here.) Below, the conversation continues…

The Daily Reckoning: Today, we’re here again with Mr. van Eeden.

Paul, thanks for joining us.

Paul van Eeden: Thank you for having me again…

The Daily Reckoning: Since the Fed’s started inflating its balance sheet by trillions, there have been many calls, especially here in the DR, that, eventually, gold will have to shoot into the stratosphere. Why, in your opinion, has this ‘gold to the moon’ scenario not played out?

Paul van Eeden: That’s a very complicated question. One of the reasons is that the people who were expecting the gold price to go up dramatically were looking almost exclusively at the Federal Reserve balance sheet. They looked at the tremendous expansion of the Federal Reserve balance sheet and they said, ‘Well, if the Federal Reserve balance sheet goes from $500 billion to $3 trillion, what’s that – a sixfold increase? – then that should imply a sixfold increase in the value of gold.’

Well, no, it doesn’t. Because you have to look at how that money flows into the economy and into the ‘Actual Money Supply’ that’s available to the economy.

See, the Federal Reserve balance sheet counts deposits that commercial banks have at the Federal Reserve Bank. When the Federal Reserve creates money, they typically do so by buying US government Treasuries in the open market. So let’s say the Fed goes and buys $1 billion worth of US government Treasuries. The counterparty to the Fed is a bank. There’s a select group of banks that can be counterparties to the Fed.

So the bank is selling a government Treasury to the Fed, and the Fed pays the bank. But the money that the Fed pays doesn’t actually go into the bank’s general bank account, where it can spend it; it goes into that bank’s account at the Federal Reserve Bank. That money the bank has on deposit with the Federal Reserve is unavailable to the bank. The bank cannot draw on that money. It cannot spend that money. The only thing the bank can do is use that money as a reserve asset when it does its reserve asset calculations. That’s it. It cannot withdraw it ever.

The only way that money gets out of the Federal Reserve account is if the Fed sells any Treasury or debt instrument back to the bank. The bank can now use that money in its deposit account at the Fed to pay for that Treasury; that’s how the money comes out of the money supply.

So the creation and destruction of money, the mechanism by which the Fed is creating and destroying this money, is intimately tied to the commercial bank accounts at the Federal Reserve, called reserve accounts. But because that money cannot be spent by the bank or by you or by me or by anybody, that money isn’t functionally in the money supply.

Let’s say that an investment company has $1 billion worth of government Treasuries, and they want to sell these Treasuries. So the Federal Reserve buys $1 billion worth of Treasuries from the bank, that money gets into the reserve account; the bank buys a Treasury from an entity, from the investment company and pays the investment company. That money that was created by the Fed wasn’t created and went straight to into the economy; it got stuck there in the reserve accounts. So you cannot look at the increase in the reserve account balances and make an extrapolation or make a deduction as to what that means to the money supply. You have to actually count the money supply to see what impact it has, and that data is on my website. I update it every week.

So what went wrong for these guys is they looked at the Federal Reserve Bank balance sheet and they said, ‘My God, look at the money printing. This is massive, this is hyperinflation, this is Armageddon.’ But it wasn’t, because it wasn’t in the money supply. What the Fed was doing was actually changing the structure of Federal Reserve Bank balance sheets, and they were creating the ability for banks to create money in the economy.

The Daily Reckoning: So just to reiterate, the potential is there for the money supply to increase, but going off of your Actual Money Supply measure, which you explained yesterday, you just don’t buy the hyperinflation story.

Paul van Eeden: Right. But the banks cannot create the money if the demand for the money isn’t there or if the match between credit demand and creditworthiness isn’t there. So the other part you have to understand and think about is when the Federal Reserve prints money, as I said, it goes into the reserve bank account.

The entity that actually creates the money supply is not the Federal Reserve Bank. It’s the normal commercial banks. It’s when you take out a car loan, that creation of the loan is the creation of money. When you pay back a car loan, that’s deflation, that’s destruction of money. That’s how the money supply increases and decreases. So all the Federal Reserve Bank did was enable the banks to create a whole bunch of money. But the rate at which the banks actually created the money depended on the economic demand for that money. And we can measure what the increase in the money supply is very accurately. So while everybody was talking about this massive hyperinflation and the gold price going to $2,000, $3,000, $5,000 an ounce, I was looking at the money supply and saying there’s no basis for that.

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The Federal Reserve Takes its Foot off The Accelerator

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The Federal Reserve Takes its Foot off The Accelerator

Posted on 02 January 2014 by Dan Denning

The taper has come and gone and the world still turns. Imagine that. The Federal Reserve’s decision to reduce its monthly bond purchases by $10 billion wasn’t a show stopper on Wall Street. It was a show starter.

The Dow Jones Industrials climbed almost three hundred points and nearly 2%. The S&P 500 went back over 1800. Not to be outdone, the ASX/200 sighed with relief and climbed over 2% to close above 5,200 again. What’s more, the gold price fell 3.4% in US dollar terms to a three-year low.

The reporting about the taper shows you how muddled investor thinking has become. For example, one local newspaper reported that since markets rallied after the taper announcement, it suggested that the US economic recovery would not ‘derail’ financial markets. Let’s leave aside the question of whether there really is a US recovery. Since when would a recovery in the economy ever derail stock markets?

If the economy were getting better, why would stocks ever get worse? This is the mental conundrum Fed followers are in. Stimulus in the form of quantitative easing, which is good for stocks (especially financial stocks) can only last as long as the economy (where the rest of us live) is bad. Thus, bad news for Main Street is better news for Wall Street.

What a relief it must have been for traders to realise that good news for Main Street (even if it’s made up) isn’t bad news for Wall Street. That’s what the reaction seemed to indicate. Or, perhaps investors had already priced in the taper and it was more a case of, ‘buy the rumour, sell the fact’. Another possibility is that traders are hell bent on buying stocks because it’s a cyclical bull market and any reason will do (or none is necessary). But check out the chart below.

New Highs on Narrow Breadth

Click to enlarge

The black line on the chart shows the number of stocks on the S&P 100 in a bullish point-and-figure pattern. The red line is the index itself. The right scale measures the bullish percent figure. The left scale measures the level of the index. What does it tell you?

Well, the S&P itself has climbed 50% in the last two years. But it hasn’t been a smooth ride. During that run, the bullish percent index has dropped to nearly 50 two times. When it reaches that number it means half the stocks are in a bullish point and figure pattern and half are bearish. Why is this important?

You can take this chart as a measure of the market’s real health. It’s both a measure of breadth and momentum. Most of the time, those measures are correlated with the trends in the underlying index. Except for now.

Look closely and you’ll see that this month, the index has made new highs even as breadth deteriorates. Fewer stocks out of the 100 are in bullish patterns. Yet the index keeps climbing. Breadth is deteriorating. This is a classic sign of a market with narrower leadership. More liquidity is piling into a smaller band of blue chip stocks. This creates self-fulfilling rallies. But they are not broad rallies. And that makes them fragile. How fragile? Now look at the chart below.

QE Pumps up American and Japanese stocks

Click to enlarge

The S&P 500 is up 165% from the low on March 9, 2009. And yes, I cherry picked that low. It’s what makes the gain so impressive. The 2009 lows were put in because the Federal Reserve committed to providing Wall Street firms with cheap credit to turn into trading profits. It has worked a treat.

By comparison, Japanese stocks didn’t really get going until the Bank of Japan pledged to double the monetary base in November 2012. It was a late start. But the red line shows it’s been an impressive game of catch up. As I wrote recently, a US dollar rally against the euro could make European shares the next cab off the rank in terms of QE-driven rallies (especially if money comes out of overvalued US stocks and into cheaper European stocks).

Australian stocks, as measured by the All Ordinaries, are up a respectable 63% since the 2009 lows. But without an ambitious plan of money printing from the RBA, local shares can’t compete with their blue-chip brethren overseas. And even if the RBA does print (unlikely), the weaker Aussie dollar and lower interest rates will erode Australia’s recent reputation as high-yield haven for foreign capital.

Fragile things break easily. All it takes is a wayward bump. The trouble with a bump like that is that you never see it coming until it’s too late. Stocks could fall by 15-20% in a matter of weeks, both in America and here in Australia. Be ready for that.

And keep your wits about you. The big takeaway from the Fed’s language recently is that it would keep interest rates low ‘well past the time’ US unemployment hits 6.5%. Interest rates are effectively dead as a tool for conducting monetary policy. That leaves asset purchases.

But when the Federal Reserve purchases government bonds or mortgage backed securities, it doesn’t stimulate the economy in the same way an interest rate cut might. It only stimulates financial markets, which is why they’re making new highs. More importantly, as my mate Greg Canavan pointed out, QE pushes stock prices higher by pushing the equity risk premium lower.

It’s a dangerous game that always results in investors taking too much risk. They take too much risk because price signals no longer communicate the real level of risk you’re taking in buying an asset or security. Investors become speculators and rush headlong into an increasingly narrow class of assets: stocks and financial stocks especially.

Poor old Janet Yellen has her work cut out of for her. Ben Bernanke will leave on a high. But the Yellen Fed will have only one tool left to address the next crisis: bigger asset purchases. You can view this week’s taper as the Federal Reserve taking its foot off the accelerator for a moment. But Yellen has a lead foot. There’s danger on the road ahead.

Best Regards,

Dan Denning+,
Contributing Editor, Money Morning

Ed Note: This article is an edited extract of an update originally published in The Denning Report.

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The Federal Reserve Must Inflate

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The Federal Reserve Must Inflate

Posted on 04 December 2013 by MoneyMorning

The Federal Reserve is busy doing everything in its considerable power to get credit (that is, debt) growing again so that we can get back to what it considers to be ‘normal’.

But the problem is that the recent past was not normal. You may have already seen this next chart. It shows total debt in the US as a percent of GDP:

Source: Hoisington Investment Management Company
Click to enlarge

Somewhere right around 1980, things really changed, and debt began climbing far faster than GDP. And that, right there, is the long and the short of why any attempt to continue the behaviour that got us to this point is certain to fail.

It is simply not possible to grow your debts faster than your income forever. However, that’s been the practice since 1980, and current politicians and Federal Reserve officials developed their opinions about ‘how the world works’ during the 33-year period between 1980 and 2013.

Put bluntly, they want to get us back on that same track, and as soon as possible. The reason? Because every major power centre, be that in DC or on Wall Street, tuned their thinking, systems, and sense of entitlement, during that period.

And, frankly, a huge number of financial firms and political careers will melt away if and when that credit expansion finally stops. And stop it will; that’s just a mathematical certainty.

Total Credit Market Debt (TCMD) is a measure of all the various forms of debt in the US. That includes corporate, state, federal, and household borrowing. So student loans are in there, as are auto loans, mortgages, and municipal and federal debt.

It’s pretty much everything debt-related. What it does not include, though, are any unfunded obligations, entitlements, or other types of liabilities. So the Social Security shortfalls are not in there, nor are the underfunded pensions at the state or corporate levels. TCMD is just debt, plain and simple.

As you can see in this next chart, since 1970, TCMD has been growing almost exponentially.

Source: Mises.org
Click to enlarge

That tiny little wiggle happened in 2008–2009, and it apparently nearly brought down the entire global financial system. That little deviation was practically too much all on its own for the markets to handle.

Now debts are climbing again at a quite nice pace. That’s mainly due to the Federal Reserve monetizing US federal debt just to keep things patched together. As an aside, based on this chart, we’d expect the Fed to not end their QE efforts until and unless households and corporations once more engage in robust borrowing. The system apparently needs borrowing to keep growing exponentially, or it risks collapse.

One could ask why credit can’t just keep growing. But there are many reasons to believe that the future will not resemble the past. Let’s start in 1980, when credit growth really took off. This period also happens to be the happy time that the Fed is trying (desperately) to recreate.

Between 1980 and 2013, total credit grew by an astonishing 8 percent per year, compounded. I say ‘astonishing’ because anything growing by 8 percent per year will fully double every 9 years.

So let’s run the math experiment and ask what will happen if the Federal Reserve is successful and total credit grows for the next 30 years at exactly the same rate it did over the prior 30. That’s all. This is nothing fancy, and it is simply the same rate of growth that everybody got accustomed to while they were figuring out ‘how the world works’.

What happens to the current $57 trillion in TCMD as it advances by 8 percent per year for 30 years? It mushrooms into a silly number: $573 trillion. That is, an 8 percent growth paradigm gives us a 10-fold increase in total credit in just 30 years:

Source: Mises.org
Click to enlarge

For perspective, the GDP of the entire globe was just $85 trillion in 2012. Even if we advance global GDP by some hefty number, like 4 percent per year for the next 30 years, under an 8 percent growth regime, US credit would be twice as large as global GDP in 2043.

If that comparison didn’t do it for you, then just ask yourself: Why, exactly, would US corporations, households, and government borrow more than $500 trillion over the next 30 years?

The total mortgage market is currently $10 trillion, so might the plan include developing an additional 50 more US residential real estate markets?

So perhaps the situation moderates a bit, and instead of growing at 8 percent, credit market debt grows at just half that rate. So what happens if credit just grows by 4 percent per year? That gets us to $185 trillion, or another $128 trillion higher than today – a more than 3x increase. Again: for what will we borrow (only) $128 trillion for, over the next 30 years?

When I run these numbers, I am entirely confident that the rate of growth in debt between 1980 and 2013 will not be recreated between 2013 and 2043. But, I’ve been assuming that dollars remain valuable.

If dollars were to lose 90 percent or more of their value (say, perhaps due to our central bank creating too many of them), then it’s entirely possible to achieve any sorts of fantastical numbers one wishes to see.

For the Fed to achieve anything even close to the historical rate of credit growth, the dollar will have to lose a lot of value. This may in fact be the Fed’s grand plan, and it’s entirely about keeping the financial system primed with sufficient new credit to prevent it from imploding.

Chris Martenson
Contributing Writer, Money Morning

Note: This originally appeared at Mises.org

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It Won’t Be Long Until Mainstream Economists Change Their Tune

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It Won’t Be Long Until Mainstream Economists Change Their Tune

Posted on 02 December 2013 by Vern Gowdie

The rationale for low interest rates and QE (money printing) is to achieve a lower unemployment rate and higher inflation. Well according to the recent Federal Open Market Committee (FOMC) they have so far failed to achieve their dual mandate. See the following extract from the FOMC 29-30 October 2013 meeting, with my emphasis added:

‘Although the incoming data suggested that growth in the second half might prove somewhat weaker than many of them had previously anticipated, participants broadly continued to project the pace of economic activity to pick up.

‘Participants generally expected that the data would prove consistent with the Committee’s outlook for ongoing improvement in labor market conditions and would thus warrant trimming the pace of purchases in coming months.’

The Federal Reserve acknowledges that growth is weaker, but is still sticking to the line that it will taper. Forever the optimists.

Two senior US Federal Reserve Bank economists, William English and David Wilcox, recently reinforced this message when they addressed the Annual IMF Research Conference. The papers they presented at the conference dealt with life after the Fed tapers – not if but when.

This was a clear signal (as opposed to Bernanke’s rather on/off signal) to the market that the Fed is set to reduce the level of monthly money creation from $85 Billion to a slightly lesser number. Prepping the market for a potential (and I stress potential) change in ‘medication’ is part of the new Janet Yellen communication strategy.

The other message from the Fed was ZIRP (zero interest rate policy) is here to stay until at least 2017. Remember ZIRP was a ‘short term’ measure introduced by the Fed in December 2008 to kick-start the US economy.

This is No Ordinary Recession

Money creation and low interest rates have worked a charm for all post Second World War recessions. But what the Fed and other central bankers (we’ll come to Europe shortly) are finding out is this is no ordinary recession  caused by a slump in the business cycle. This is an economic funk caused by a collapse in the credit cycle.

The Great Depression and Japan post-1990 are the only recent examples of a credit cycle slump…and neither of these make for pleasant bedtime reading.

Professor Paul Krugman (the Nobel Laureate economist and the Fed’s mainstream economic cheerleader) argues ZIRP and QE should be maintained because the US is mired in ‘depression’ conditions. The fact Krugman has acknowledged the depressive state of the US economy is a major departure on his previously stated position. Here are some excerpts from his column and my interpretations:

Krugman: ‘…if our (US) economy has a persistent tendency toward depression, we’re going to be living under the looking-glass rules of depression economics – in which virtue is vice and prudence is folly, in which attempts to save more (including attempts to reduce budget deficits) make everyone worse off – for a long time.’

GFW: To me this is The Great Credit Contraction at work. The more the economy and markets deflate, the greater the tendency to save and therefore the depression cycle continues to feed upon itself.

Krugman: ‘…evidence suggests that we have become an economy whose normal state is one of mild depression, whose brief episodes of prosperity occur only thanks to bubbles and unsustainable borrowing…’

GFW: No kidding Sherlock. The longer this goes on, the less mild the depression will be. The authorities creating bubbles based on unsustainable borrowings is not prosperity; it is lunacy.

Krugman: ‘Why might this be happening? One answer could be slowing population growth…’

GFW: Perhaps. But it could also be people have debt fatigue in addition to rising living costs and higher taxes from over-indebted governments.

Krugman: ‘Another important factor [for the mild depression] may be persistent trade deficits…’

GFW: This sounds like a call to arms for the currency war I mentioned last week.

In my opinion The Great Credit Contraction (GCC) has confounded many an economist. Deflating the credit bubble is deflating the economy.

The longer the GCC continues to tighten its grip on the global economy, the more I expect mainstream economic commentators to follow the lead of that other famous economist John Maynard Keynes, when he once said, ‘When the facts change, I change my mind. What do you do, sir?’

Vern Gowdie+
Chairman, Gowdie Family Wealth

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Why Dividend Stocks Are Still the Best Way to Profit from Low Interest Rates

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Why Dividend Stocks Are Still the Best Way to Profit from Low Interest Rates

Posted on 10 September 2013 by Kris Sayce

If you read enough of the mainstream financial press you’ve probably started to think that the dividend rally is over.

But we say that’s wrong.

In fact, our view is that many dividend-paying companies have barely started with paying out dividends.

And we’re not just saying that either, we’ve got proof.

We call it ‘Dividend Gaming’. We wrote to you about it a few months ago. Based on what we see in today’s market it’s as strong now as it was then…

Yesterday we explained that the US Federal Reserve had no intention of raising interest rates.

The Fed was just trying to manage market expectations by neither openly fuelling a stock bubble nor causing a crash.

The Fed’s goal is to see a steady rise in asset prices so everyone will feel happy! Just as some schools insist every kid gets a ribbon on Sports Day, the Fed wants everyone to win in stocks.

But while the Fed is being cagey, the Bank of England isn’t. It has let the market know exactly where it stands: rates will stay low for at least three more years…

Proof That Low Interest Rates Boost Stocks

Bloomberg News reports:

Carney, who became governor [of the Bank of England] on July 1, introduced forward guidance in August saying the BOE plans to hold its benchmark rate at 0.5 percent until unemployment falls to 7 percent from its current 7.8 percent. The bank doesn’t see that happening for another three years.

It’s as clear as day. Central banks want interest rates to stay low and they’ll do all they can to achieve it.

We don’t understand why so many people can’t see this. Look, we’re not saying it’s the right policy. And we’re not saying the central banks will achieve all their goals…because they won’t.

But it will do one thing: it will force investors to take bigger risks in order to boost their income.

The Bloomberg News article notes:

There is evidence that Britons are being driven to the stock market for returns. Investor sentiment on U.K. stocks is at its highest in six months, and equities are now the second-most-popular asset class after property…The U.K. benchmark FTSE 100 Index (UKX) has climbed more than 10 percent this year.

The evidence is there for all investors to see – stock prices have gone up. It’s that simple. And if interest rates stay low, odds are stock prices will keep going up.

That’s why the main US and UK indices are trading near record highs…while Australian stocks still need to climb 40% to take out the old high. But stay patient, because in our view it won’t be long before Aussie investors can celebrate a new record high too…

It May be Crazy, but it Works

Earlier we mentioned something we call ‘Dividend Gaming’. This is where companies use dividends as a way to attract investors.

They’ll use a number of tactics, all of them legal. The idea is to increase the dividend payout ratio as much as possible. One of the stocks we recommended three months ago in Australian Small-Cap Investigator has done just that.

It has increased its payout ratio from below 70% of profits to above 75% of profits.

It’s not the only company to do this. Other companies are taking ‘Dividend Gaming’ to another level. They’re paying out higher dividends to attract investors, and then getting some of the money back by issuing new shares.

Investors will go for that if they believe the company can use the money to grow the business and pay out higher dividends in the future.

Now, we know what you’re thinking. It doesn’t make sense if companies are paying out dividends and then raising capital. Investors are no better off. We get that. We understand it.

But tell that to the market. Because right now, crazy or not, the market loves companies that can pay higher dividends…and so do we.

Follow the Money into Dividend Stocks

Remember, we’re not saying we support low interest rate policies.

All we’re saying is that this is how things are right now. And if you want any chance of getting ahead and growing your wealth you’ve got no choice but to follow the money flow.

And right now money is flowing into dividend stocks…especially stocks that have shown a willingness to pay out higher dividends.

So, folks can carry on claiming that the dividend rally is over and recommend selling stocks. They can even say the market is too risky.

But we’ll put opinion to one side and stick with the evidence. The evidence tells us the dividend rally isn’t over. Foreign central banks have committed to keeping rates low and odds are the Reserve Bank of Australia will keep rates low too…and maybe cut them further.

If they do, everything is moving into place for investors to continue the surge into dividend stocks…and that means higher stock prices.

Nothing has happened to make us change our view that the Aussie market is heading towards 7,000 points in 2015. If you can handle the risk and you’re after a better-than-the-bank income stream, it’s still a great time to buy Aussie dividend stocks.


From the Port Phillip Publishing Library

Special Report: GET OUT AND STAY OUT

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No Profit in the Federal Reserve Divination

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No Profit in the Federal Reserve Divination

Posted on 12 August 2013 by Dan Denning

It is beneficial to your health to tune out the noise and clutter that passes for information in the financial markets.

A good example is trying to divine the importance of words uttered by US Federal Reserve Chairman Ben Bernanke. With China showing no signs of a stock-market-boosting stimulus plan, the punters will hang on the lips of the Federal Reserve chairman for clues about ‘tapering’.

But let me ask you this, do you think your investment plan can benefit from trying to guess what Bernanke is going to do next? Is there any advantage to be gained by correctly guessing his internal emotional state? If not, then why bother?

The most important words ever penned by Ben Bernanke with regard to deflation and the effectiveness of quantitative easing to ‘stimulate’ aggregate demand were penned in a paper he published with Vincent Reinhart and Brian Sack in 2004. It’s called Monetary Policy Alternatives at the Zero Bound: An Empirical Assessment.

I encourage you not to read it. It’s absolutely insane. More importantly, in confirms that Bernanke has been reduced to trying to influence investor expectations through communication. This is what happens when you can’t pull the interest rate lever. You have to try talk therapy. The fact that Bernanke et al. dedicate so much of their paper to it is evidence of how deep down the rabbit hole they are in their monetary thinking. But let me show you some specific quotations, with my emphasis added:

‘Given that the ability to commit to precisely specified rules is limited, central bankers have found it useful in practice to supplement their actions with talk, communicating regularly with the public about the outlook for the economy and for policy. Even in normal times, such communication can be helpful in achieving a closer alignment between the policy expectations of the public and the plans of the central bank. If the central bank places a cost on being seen to renege on earlier statements, communication in advance may also enhance the central bank’s ability to commit to certain policies or courses of action…

‘Although communication is always important, its importance may be elevated when the policy rate is constrained by the ZLB. In particular, even with the overnight rate at zero, the central bank may be able to impart additional stimulus to the economy by persuading the public that the policy rate will remain low for a longer period than was previously expected. One means of doing so would be to shade interest-rate expectations downward is by making a commitment to the public to follow a policy of extended monetary ease. This commitment, if credible and not previously expected, should lower longer-term rates, support other asset prices, and boost aggregate demand.

‘Shaping investor expectations through communication does appear to be a viable strategy, as suggested by Eggertsson and Woodford (2003a,b). By persuading the public that the policy rate will remain low for a longer period than expected, central bankers can reduce long-term rates and provide some impetus to the economy, even if the short-term rate is close to zero. However, for credibility to be maintained, the central bank’s commitments must be consistent with the public’s understanding of the policymakers’ objectives and outlook for the economy.’

This is by far the clearest explanation – in his own words – of how Bernanke thinks the Fed can promote growth through words and QE. It’s quite impressive how much time and thought he put into using words to influence expectations once rate cuts were no longer a policy tool. The zero bound – where official interest rates were effectively zero in nominal terms and actually negative in real terms – was a long way away back then.

The Federal Reserve’s goal with QE is to keep 30-year mortgage rates low in the US by targeting the yield on 10-year Treasury notes. The 30-year mortgage rate is derived from the 10-year yield. As you can see from the chart above, 10-year yields were above 4% for most of 2004. That’s 400 basis points above zero.

When the rate cutting began in earnest in 2008, 10-year yields dove. Quantitative easing has since pushed them down to historic lows. But as you can see, the recent rise in yields is formidable. This is not an indication of Ben Bernanke’s success, where he allows rates to rise. It’s the markets repudiation of his attempt to rig the price of the most important security in the world.

Why does all this matter? The US Federal government is just one of many governments that cannot afford to service its outstanding debt at higher interest rates. If the bull market in government bonds that began in the early 1980s is over, then rates will head higher as bond prices fall, whether Bernanke likes it or not.

In fact, Ben Bernanke can talk until he’s blue in the face. Market participants will have rendered their verdict. QE is every bit as bogus as the actions of China’s communists to produce growth by command. It’s an exercise in intellectual arrogance with real world costs to savers. Its end is just beginning.

Dan Denning+
Editor, The Denning Report

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From the Archives…

Should You Still Buy Stocks Here? Yes, but…
09-08-2013 – Kris Sayce

The Secret to China’s $7 Billion Milk Market
08-08-2013 – Nick Hubble

RBA (Retirees Below Average)
07-08-2013 – Vern Gowdie

Have Australian Stocks Broken Free from China?
06-08-2013 – Kris Sayce

When Should You Sell Your ‘Loser’ Stocks?
05-08-2013 – Kris Sayce

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Why it’s Deflation…Not Inflation, that’s Heading Our Way

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Why it’s Deflation…Not Inflation, that’s Heading Our Way

Posted on 25 July 2013 by Vern Gowdie

I don’t think the Fed can get interest rates up very much, because the economy is weak, inflation rates are low. If we were to tighten policy, the economy would tank. - Ben Bernanke’s response to a question from the House Financial Services Committee hearing held on Wednesday 17 July 2013

After increasing the money supply at a rate of 33% per year for the past five years, the best US Federal Reserve chairman, Dr Ben Bernanke can manage to achieve is ‘the economy is weak.

The sheer volume of newly minted dollars has financial experts and gold bugs searching the horizon for evidence of inflation and even hyperinflation. The theory is, ‘Surely with this much money being added to the system, higher inflation must soon appear on the horizon?’

Conventional wisdom suggests inflation should be a by-product of the central bankers’ efforts with the printing press.

However, the fact is we aren’t in conventional times. Therefore the world as we know (or think we know) it may not act in its usual ‘Pavlovian’ way.

The following chart on UK inflation rates dating back to 1265 shows persistent inflation is only a 20th century phenomena.

Prior to 1900, the UK and other developed economies experienced the ebb and flow that happens when humans interact in a buying and selling process.

Supply, demand, greed, fear and a host of other variables drive our decision-making process. This in turn moves the economy in certain directions – positively and negatively.

Source: Credit Suisse

The negative period in the early 1900′s was a result of ‘The Panic of 1907′. This severe downturn gave the authorities and big banking interests an excuse to set up a central bank.

Lesson number one for the rich and powerful is ‘never let a good disaster go to waste’. They sold the central bank concept to the public as a tool to stabilise the economy.

Ever since then, central bankers have ‘controlled’ the economy. But the value of a dollar has been anything but stable. Inflation has all but vaporised the buying power of a dollar issued a century ago.

Due to central bank meddling intervention, inflation is all we have known for the past century. Little wonder we expect inflation – especially when the Fed now prints more money in a year than it did for the previous century.

Yet in spite of all we think we know about the economy, ‘inflation rates are low.‘ The following graph confirms Bernanke’s testimony.

The core personal consumption expenditures deflator (an indicator the US Fed watches closely) is at a fifty year low with just a 1% year-over-year change.

Bernanke is fervently following the manual written by those who went before him. However, it’s not producing the outcomes they achieved.

A hundred years is a long time for an experiment (and that’s what central banking is) to show consistent and reasonably predictable results. However, they can only repeat the results if the lab conditions are the same each and every time.

And that’s the subtle but key missing piece of the puzzle that most people have overlooked – the lab conditions aren’t the same.

  • World population quadrupled in the past century – finite resources mean this is unlikely to happen in the next century.
  • Population growth in the western world has stabilised compared to the growth rates of the past century.
  • Household balance sheets are dripping in red ink – capacity for more personal debt is declining.
  • Compared to a century ago, government welfare, healthcare and warfare obligations are ‘through the roof’. A sustained period of consumption (producing higher tax revenues) won’t rescue heavily indebted and over-obligated governments this time.

For the time-being the days of excess consumption are in the past.

The following chart (dating back to 1965) shows over the past five years there has been a 90% correlation between what consumers earn and what they spend.

Compare this to the 2002 to 2007 period (the credit bubble period) when there was next to no correlation between earnings and expenditure.

Why was that? This was when consumers treated their home as an ATM – using home equity loans to fund consumption.

The next chart on Mortgage Equity Withdrawals (MEW) shows the debt feeding frenzy that occurred from 2002-2007. Since the GFC hit it has been all downhill. The consumer focus has been on living within their means and repaying (or, defaulting on) debt.

Inflation is the by-product of money creation plus credit.

In the past five years the Fed has produced around US$2.5 trillion of new money. Over the same time, the private sector has cut debt levels by US$4 trillion.

There are a couple of other telltale signs of inflation that are pointing in the wrong direction. Commodities prices have trended down for the past two years, and the Baltic Dry Index (an indicator of global shipping activity) is down to levels last seen during the GFC.

The Great Credit Contraction is producing the equal and opposite effect of The Great Credit Expansion. The inner tube of the global economy has a puncture – more air is escaping then the central bankers can pump in.

When a tyre loses pressure it is DEFLATING.

But the deflationary outlook isn’t unique to the US. Look at this chart from a recent Societe Generale report:

Here is an edited version of the commentary accompanying the chart (emphasis mine):

Perhaps, though, the most decisive macro factor for all markets will be any slide into deflation in China…. The recent Q2 GDP data contains the surprising fact that China’s implicit GDP deflator had slowed to only 0.5% yoy – noticeably weaker than the CPI data… The fact that China is on the verge of outright deflation may prove more important than even Fed tapering.

But don’t worry. Bernanke has it all under ‘control’ – after all isn’t that what central bankers believe?

How’s this for supreme confidence. When asked how the Fed will exit its QE (quick & easy) money experiment he said:

We know how to exit. We know how to do it without inflation… We have all the tools we need to exit without any concern about inflation.

The only tools Ben has at his disposal are the other board members sitting around the Fed’s boardroom table.

Four years of money printing have done nothing but damage the integrity of markets. By distorting interest rates they have forced investors into high risk investments paying low returns. Let’s face it, for the average punter a few percent from anything looks a whole lot better than 0.25% in the bank.

The longer this experiment is allowed to continue (and Fed hubris means it will be for longer than anyone expects), the greater the dislocation in markets. When GFC Mk II hits, consumers will retreat even further into the cave of cautious spending and debt reduction or default.

The irony is the Fed’s money printing has increased the odds of a deflationary outcome.

A century of central bank meddling in markets has produced another type of inflation – in the form of central banker egos and belief in their abilities.

The pending market upheaval will hopefully deflate these puffed up theorists.

Vern Gowdie
Editor, Gowdie Family Wealth

Join Money Morning on Google+

From the Archives…

Why Invest ‘Hard’ When You Can Invest ‘Easy’?
19-07-2013 – Kris Sayce

Read This Before You Buy Another Stock or Bond…
18-07-2013 – Murray Dawes

Could Uranium be the Best Investment in 2013?
17-07-2013 – Dr Alex Cowie

Asteroid Mining and the Commercialisation of Space
16-07-2013 – Sam Volkering

Why the Australian Share Market is Heading Even Higher
15-07-2013 – Kris Sayce

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No End to QE to See

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No End to QE to See

Posted on 11 July 2013 by Greg Canavan

Federal Reserve Chairman, Ben Bernanke said this in a recent Bloomberg article:

“If you draw the conclusion that I just said that our policies — that our purchases will end in the middle of next year, you’ve drawn the wrong conclusion, because our purchases are tied to what happens in the economy,” he said. “If the economy does not improve along the lines that we expect, we will provide additional support.”

The market isn’t listening to what Bernanke says…it’s panicking. Just about everything got hit as a result. Equities, bonds, commodities, precious metals, all were slammed as the US dollar rallied. The Aussie dollar collapsed 2 cents…that’s a massive move in FX land.

The speculators got it wrong. They positioned for a soothing Bernanke statement. But they just got more of the same. That is, if the economy moves into a sustainable expansion, we cut out the asset purchases…if it falters, we’ll ramp them up.

That sounds pretty straightforward, but it led to a massive unwind of leveraged bets in anticipation of the beginning of the end of easy money.

Is it really though? The ‘end’ of QE might just be the thing that ensures it remains a part of the financial lexicon for years to come.


Well, bond yields are on the rise. The US 10-year bond yield, a benchmark for the global cost of credit, traded around 1.6% at the start of May. Following another sharp sell-off overnight, it’s now at 2.33%, the highest level in over a year.

In general, global market interest rates follow the lead of the US 10-year Treasury bond. So rising rates represent a tightening of monetary conditions in financial markets. Which means the US economy, for years heavily dependent on easy money, will come under pressure soon as higher interest rates begin to bite.

And if the US economy comes under renewed pressure, Bernanke won’t cut QE anytime soon. So no end to QE…long live QE!

But what if the US economy really is recovering? And what if this recovery DOES end QE sometime next year and then interest rates move back to normal in subsequent years?

Years of zero interest rates have robbed the system of real savings. In its place, the level of total debt has ballooned to keep up the façade of healthy and sustainable growth. And in the meantime, the structure (industry, incomes, employment, profits taxes etc) of the economy grows around this ongoing provision of cheap and easy money.

If you try to take it away, the economy will fall in a heap. That shouldn’t be a big deal but we’re talking about the world’s largest economy, and consumer of last resort here. The US’ ongoing propensity to consume more than it produces is made possible by easier and easier money.

As money becomes cheaper, debt levels grow to fund consumption. The whole economic structure of the world economy grew out of this falling US interest rate/rising debt/excess consumption model.

You think we’re going to get out of it easily? You think the Fed can all of a sudden put an end to this multi-decade trend without major problems?

Throw in the world’s second largest economic zone, (Europe) which is in the throes of its own painful structural adjustment…and the world’s second largest economy, China, which is about to experience what it’s like when a credit bubble goes bust, and…well, Houston, we have a problem.

So if QE can’t really end, where to from here?

If confidence in the Fed and Bernanke is receding, then liquidity will soon follow. One of the most beneficial impacts of QE is that it instils confidence. Confidence creates liquidity which creates asset price inflation.

In the Q&A following the press conference, someone asked about sharply rising bond yields over the past few weeks, and how that reconciles with the Fed’s view that it’s the stock of assets it holds on its balance sheet that determines yields.

Bernanke responded ‘we were puzzled by that‘, and then tried to explain it away by citing other factors like potential optimism about the outlook for the economy (optimism not shared by any other asset class, by the way).

When you admit to being puzzled by the effects of the largest monetary experiment in history, which you implemented, it’s a confidence drainer. And with confidence goes liquidity.

Greg Canavan+
Editor, The Daily Reckoning Australia

[Ed Note: To read more of Greg's in depth macro-economic analysis, click here to subscribe to the free daily e-letter The Daily Reckoning.]

From the Archives…

The Power of Low Interest Rates Coming to the Aussie Market
5-07-2013 – Kris Sayce

S+P 500 Downtrend Looms? Counting Down The Days…
4-07-2013 – Murray Dawes

Here’s Your Six-Point Stock Buying Checklist
3-07-2013 – Kris Sayce

Are the Credit Rating Agencies at it Again?
2-07-2013 – Kris Sayce

Why This Could be Another Great Year for Australian Stocks…
1-07-2013 – Kris Sayce

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The US Economy Butterfly Effect

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The US Economy Butterfly Effect

Posted on 20 June 2013 by Murray Dawes

The Bernank has spoken. All hail the Bernank. 

According to Ben Bernanke, Chairman of the US Federal Reserve, the US is doing swimmingly and he will be able to start lowering Quantitative Easing (QE) towards the end of the year. 

The key news points that came out of the press conference, as reported on ZeroHedge, were:








Credit markets reacted swiftly to the news and sold off aggressively. US 10 year Treasury rates increased by 16 or so basis points to a yield of 2.36%. That’s the highest level in over a year. Stocks plummeted, with the S+P 500 falling by 22 points or 1.4% to 1629.

How markets react over the next few days will be very interesting to watch. If the initial knee jerk reaction to sell gathers steam and the S+P 500 falls below the last couple of weeks’ low of 1598 my conviction levels will increase dramatically that further large falls are in the offing…

I have to say I’m surprised by Bernanke’s comments that the US economy is healing and will be strong enough within the next few months to withstand a tapering of QE. It doesn’t really stack up against the flow of soggy data we’ve seen in recent weeks.

As you can see in the chart below the current flow of macro data is far from rosy:

US Macro Data Still Weak

Source: ZeroHedge.com

I can’t see how Bernanke could justify tapering based on a strengthening in the US economy. My view is that the Fed is scared stiff it has created a monster by blowing so many bubbles all over the world. So they have decided that the sooner they take some steam out of the markets the better.

I’m sure their main aim is to ensure they don’t create a crash, but instead engineer a slow deflation from lofty levels.
The first act in this saga involved hinting loud and clear to the market that tapering was on the table as an option.

The hugely volatile swings we saw across all markets as a result, with carry trade unwinds leading to a large rise in rates and massive currency swings, are sure to have frightened the hell out of them.

Watch These Two Countries

The carry trade has become an incredibly crowded trade. It has been the catalyst for the big rallies we’ve seen over the past year. The mere hint that this game was going to become riskier saw punters heading for the door. And we know what happens when everyone wants out at the same time.

The interesting things to watch from here are the reactions in Japan and China. Japan’s bond markets have been under increasing pressure due to the crazy money printing policies of the Bank of Japan.

They have somehow managed to keep rates below the 1% threshold after intervening in the markets the last time that level was tested a few weeks ago.

But a large rise in US rates will necessarily place upward pressure on Japanese rates as investors switch out of JGB’s and into US bonds.

You also need to watch China closely from here due to the large cracks appearing in their shadow banking system.

We’re starting to see the initial signs of stress in the Shibor (Shanghai Interbank offer rate) with the rate spiking towards 10% recently.

Shibor Rate Spikes

Source: Shibor.org

The Shibor is the Chinese equivalent of the Libor (London interbank offered rate) which is the rate banks charge each other for overnight loans. It’s an important rate which shows signs of stress within the banking system when it shoots higher.

An article in the Age on Tuesday by Ambrose Evans-Pritchard has caused quite a stir. It arrived in my inbox from multiple sources.

The opening line says, ‘China’s shadow banking system is out of control and under mounting stress as borrowers struggle to roll over short-term debts, Fitch Ratings has warned.

Apparently Bank Everbright (unfortunate name really…) defaulted on an interbank loan a couple of weeks ago amid the big spikes in the Shibor that you can see in the chart above. I’m sure they’re not feeling so bright after all. According to the article:

Fitch warned that wealth products worth $US2 trillion of lending are in reality a "hidden second balance sheet" for banks, allowing them to circumvent loan curbs and dodge efforts by regulators to halt the excesses.

This niche is the epicentre of risk. Half the loans must be rolled over every three months, and another 25 per cent in less than six months. This has echoes of Northern Rock, Lehman Brothers and others that came to grief in the West on short-term liabilities when the wholesale capital markets froze.

The other very interesting point made in the article was the potential for an exodus of hot money out of China once the US Fed starts tightening monetary conditions.

In the article it states that China’s security journal said ‘foreign withdrawals from Chinese equity funds were the highest since early 2008 in the week up to June 5, and withdrawals from Hong Kong funds were the most in a decade.

So with US rates spiking higher on the fear of a withdrawal of monetary morphine by the US Federal Reserve, we may see the unintended consequences of their actions unravelling fragile markets all over the globe.

Murray Dawes
Editor, Slipstream Trader

Join me on Google Plus

From the Port Phillip Publishing Library

Special Report: The Sixth Revolution Has Just Begun

Daily Reckoning: The Holden Moment

Money Morning: Beware The Federal Reserve’s Deadly Game of Poker

Pursuit of Happiness: Calming a Property Market Storm

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Beware The Federal Reserve’s Deadly Game of Poker

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Beware The Federal Reserve’s Deadly Game of Poker

Posted on 19 June 2013 by Dr. Alex Cowie

There are three rules that I live by: never get less than twelve hours sleep, never get involved with a woman with a tattoo of a dagger on her body, and never play cards with a guy who has the same first name as a city.

Solid advice there from ‘Coach Finstock’ in that highbrow movie classic Teenwolf.

But, sorry Coach, we must persist with ‘playing cards with a guy who has the same first name as a city’.

You see, for five years now, I’ve been playing cards against ‘Washington Ben’ – though you may know him as Ben Bernanke, the Chairman of the Federal Reserve. ‘Washington Ben’ has been king of the casino, running the whole show – and sometimes in our favour. Anyone in the markets has had no choice but to play him.

He’s made damn sure many years of ‘poker nights’ with the boys turned out as useful as my formal financial qualifications. Because bluffs, double bluffs, and forced tells regarding the Fed’s next move have the power to bulldoze fundamentals and turn all global markets on a dime.

And the bulldozer is at a crossroads. Never have I seen the markets more anxious than they are today, waiting, and furtively twitching, in readiness for 4.30am AEST on Thursday morning.

This is when ‘Washington Ben’ delivers a press conference where he’s set to play his most important hand in years…

After starting quantitative easing almost half a decade ago in October 2008, Washington Ben has recently tested the water with talk about ‘tapering’ the current $85 billion in monthly asset purchases.

That’s all. He hasn’t said it’s definite.

And he hasn’t said ‘stop’ either, just ‘taper’.

The online dictionary defines ‘taper’ as ‘making gradually smaller at one end’. So this could imply dropping QE from $85 billion to $80 billion per month for all we know.

But even just a suggestion of a possible and gradual reduction in QE has sent markets worldwide into a hissy fit. If Washington Ben wanted to know how dependent the casino was on his QE, well now it’s clear as day that it’s totally addicted.

As soon as he mumbled the word taper, money flew out of emerging markets, pulling down their stock markets as it left. The Emerging Markets ETF, which covers stocks in the BRIC countries (Brazil, Russia, India and China) along with South Korea, Taiwan and South Africa, crashed 12% in a few weeks.

But the big market moves also hit the US Federal Reserve where it hurts too. Bond yields have spiked. The 10-year bond yield for example has jumped from 1.6% to 2.2% in the blink of an eye. That doesn’t sound like much I know, but it’s a serious move and takes the yield to a twelve month high.

What Will the US Federal Reserve Do?

The last thing the Federal Reserve wants is for yields to suddenly spike. Their whole recovery thesis is about low rates encouraging borrowing. Rising rates would knock the insipid US recovery on the head pretty fast; there would be no natural economic growth to seamlessly transition to as QE finished.

Frankly I don’t envy Washington Ben. There’s no way to gently wind down QE without the market throwing its teddy out of the pram, in the same way that there’s no way of nicely asking our dear Prime Minister to quietly move on and seek alternative employment.

So for what it’s worth, odds are Washington Ben will back-peddle on the tapering talk for now. The US economy is just too weak, and the Fed knows it.

At the end of last year their stated target for unemployment was 6.5%. At last count, the actual figure jumped from 7.5% to 7.6% as more job hunters came back into the market. So on the unemployment front alone (which has been Washington Ben’s main focus) the Fed has a reason to stop using the word ‘taper’.

The other focus is inflation. The low official inflation rate gives the Fed scope to keep QE going. The headline rate is 1.4%, when their informal target is 2%.

The inflation measure the Fed bang on about more is the ‘Personal Consumption Expenditures Index’. This is now down to just 1.1%. If they believe their own data, then domestic inflation gives them no reason to take their foot off the gas today.

I’d say there is good reason for Washington Ben and his cronies to keep juicing the casino for time being, but who knows what they’ll do. It’s not all up to Ben of course. It’s voted on by twelve people. Eight of them are pro-QE, and the rest are anti-QE or neutral. The vote should be a foregone conclusion.

But what happens behind closed doors isn’t half as important to the market as what Washington Ben says at the press conference afterwards. That matters more because sound-bites travel faster than the official minutes which the Fed won’t release for three weeks.

We can only hope that he articulates the Fed’s plans better than at last month’s press conference when he mixed his messages and left the market as confused as a goat on Astroturf.

So leading up to Thursday morning, expect a bumpy ride. Traders have been jumping at imaginary bogeymen in recent days. An article in the Financial Times on Monday suggesting tapering was enough to send the markets plunging.

Last week it was a story in the Wall Street Journal from a journo (with rumoured close ties to the Fed) who said tapering was off, sending the markets soaring. It’s a total farce.

Rumblings from the China Bears Grows Louder

That’s not the only reason to expect a bumpy ride on Thursday. The Bank of England has a press conference soon after, and just before lunch the monthly Purchasing Managers Index for China (HSBC flash) comes out. China in particular has the scope to hit our market if the news is bad.

My mate and colleague Greg Canavan, of Sound Money Sound Investments, has been banging the China-bear drum again recently. His view of the market was pretty chilling when we had a chat the other day.

It’s not all about China, but his overall view of global markets is that they’re about to crash. Look out for Greg’s new video on the subject tomorrow.

Maybe a negative, or plain unrevealing, press conference from Washington Ben tomorrow could be the trigger for what Greg sees coming?

After all, you got to know when to hold ‘em, and know when to fold ‘em…

Dr Alex Cowie
Editor, Diggers & Drillers

Join me on Google+

From the Port Phillip Publishing Library

Special Report: The Sixth Revolution Has Just Begun

Daily Reckoning: The Pressure is Building in China’s Economy

Money Morning: Why Thursday Could Be a Key Day for Silver…

Pursuit of Happiness: Calming a Property Market Storm

Diggers and Drillers:
Why You Should Invest in Junior Mining Stocks Now

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How to Protect Your Portfolio from Central Bankers’ Mind Games

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How to Protect Your Portfolio from Central Bankers’ Mind Games

Posted on 18 June 2013 by John Stepek

Sir Mervyn King has an oft-quoted story about central banking. He talks about Diego Maradona scoring a particular goal.

He looked like he was going to move left, so the defenders reacted. Then he looked like he’d move right, so they reacted to that. And in the end, he scored by simply running in a straight line down the middle of the pitch.

I’m sure someone who’s actually interested in football could give you a much more compelling rendition of that story, so my apologies to any fans out there.

But the outgoing Bank of England governor’s point is that a big part of a central banker’s job is to manage expectations. What the market thinks you’ll do is at least as important as what you actually do.

So the big question for this week is: what does Ben Bernanke want us all to think?

Ben Bernanke Tries to Do a Maradona

The big central bank story this week is the meeting of the Federal Reserve’s policy making team on Wednesday. Fed chief Bernanke will make a statement afterwards, and investors will be hanging on his every word.

Why does this matter so much? Well, in case you hadn’t noticed, the big slump in most stock and bond markets around the world is down to fears that the Federal Reserve is going to turn the money taps off by ending its quantitative easing (QE) programme.

At the start of this year, we’d hit a ‘Goldilocks’ moment. Growth wasn’t strong enough to justify stopping QE. But it was good enough to justify rising stock markets.

But then Bernanke and other Fed members opened their mouths and hinted that it might be time to start thinking about possibly winding things down, depending on how the economic data panned out.

It’s important to understand: all the Federal Reserve has done is suggested that it might pull back if the US economy looks like it’s recovering. It’s still manning the monetary pumps. There’s still $85bn being shoved into the markets every month.

Yet the suggestion it would end has been enough to inspire a correction in most markets (that’s a 10% fall), and send others into a bear market (a 20% or more fall).

So is Bernanke pulling a Maradona? Is he faking this move to tighten things up, just to keep markets on their toes?

The Federal Reserve Has Every Excuse to Keep the Money Flowing

The truth is, I find it hard to believe that the Federal Reserve will start tightening monetary policy as early as markets are worried that it will.

Bernanke is probably the most famous student of the Great Depression on the planet. It’s his view that the problem both back then and in Japan is that the central banks didn’t do enough. Any time it looked as though they were going to succeed, they pulled out too early.

He’s not going to take that risk, and he doesn’t have to. The Fed has all the excuses it needs to keep monetary policy slack.

Inflation – at least by official measures, which is all that counts for Fed policy – is really not a problem in the US. With commodity prices under pressure, you could even make an argument that deflation is a threat.

I don’t want to get into a debate over the merits or otherwise of deflation here (though I’d argue that falling commodity prices are a good thing, and not to be countered by monetary policy). The point is, Bernanke is under no pressure to withdraw QE.

So having given over-exuberant investors a sobering reminder of the abyss we are all tightrope-walking over, I suspect the Fed will extend some words of comfort at its meeting this week. And if that’s the case, then markets would probably bounce.

But we can’t be sure. This is the problem with expectations management. Maybe the Federal Reserve doesn’t think investors are scared enough yet. Or maybe now that investors have had a wake-up call, it’ll take more than a few soothing words to get them to stop fleeing risky assets.

So what can you do? Simple. Don’t get sucked into this central bank game-playing. Warren Buffett once said that the market is a voting machine in the short-term, and a weighing machine in the long run.

So from day to day, it’s all about how investor mood swings and fads affect where money is flowing to. But in the longer term, quality and value will out – buy decent companies and assets at relatively cheap prices, and you’ll make money.

John Stepek
Contributing Writer, Money Morning

Join The Daily Reckoning on Google+

From the Archives…

Don’t Make Investing a Chore… Invest in an Innovative Business
14-06-2013 – Kris Sayce

The Technology Revolution Begins in Four Days…
13-06-2013 – Kris Sayce

Zero G for the Australian Dollar is a Shot in the Arm for Miners
12-06-2013 – Dr Alex Cowie

There’s More to Technology Than Facebook and Spying
11-06-2013 – Sam Volkering

Four Great Australian Technological Achievements
10-06-2013 – Sam Volkering

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Bernankenstein’s Financial Monster

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Bernankenstein’s Financial Monster

Posted on 07 June 2013 by Vern Gowdie

Just when you think central bankers are as clueless as our Treasurer, they go and surprise you. The release of minutes from the latest US Federal Reserve Advisory Panel meeting was a bit of a revelation.

The Federal Reserve’s ‘mad scientists’ appear to realize they have created a financial monster. Call it Bernankenstein’s Monster if you like. Take this extract (bold emphasis is mine):

‘There is also concern about the possibility of a breakout of inflation, although current inflation risk is not considered unmanageable, and of an unsustainable bubble in equity and fixed-income markets given current prices.’

Concern about an ‘unsustainable bubble‘? Given the Federal Reserve’s previous track record of creating bubbles (housing rings a bell), all they can muster is ‘concern’. What about fear and alarm?

Here’s another bit of genius from the minutes:

‘Uncertainty exists about how markets will reestablish normal valuations when the Fed withdraws from the market. It will likely be difficult to unwind policy accommodation, and the end of monetary easing may be painful for consumers and businesses. Given the Federal Reserve’s balance sheet increase of approximately $2.5 trillion since 2008, the Fed may now be perceived as integral to the housing finance system.’

‘Reestablish normal valuations?’  Is this Fed code for the fact we now have abnormal valuations? The minutes insinuate the ‘mad scientists’ know they have stuffed it up.

The Experiment Has Gone Too Far Now

And as for the idea that the withdrawal of stimulus ‘may be‘ painful, please spare us the ‘may be’. The market is a highly dependent ‘junkie’. When the Federal Reserve turns off the ‘juice’ (voluntarily or involuntarily), a world of hurt waits.

Haruhiko Kuroda (Bank of Japan Governor) can’t afford to be as contemplative as the Fed. He is a modern day kamikaze – if he thinks of the inevitable outcome, he would never have signed up in the first place. Kuroda is zeroing in on the battleship called ‘deflation’.

A lot of others have moved into Kuroda’s slipstream and had a free ride on the devaluing yen and rising Nikkei. But poor old Kuroda has run into severe turbulence. This is tossing the markets around like a single seater in a cyclone.

Uncertainty and volatility are the hallmarks of Japan’s experiment in printing their way to inflation. The Nikkei’s wild swings (of up to 500 points in a day) illustrate investor nervousness.
According to Wikipedia ‘about 14% of kamikaze attacks managed to hit a ship‘. I think Kuroda’s odds of achieving his mission are even lower.

Central banks believe (publicly at least) asset bubbles can rescue the global economy. History doesn’t just tell us, it shouts at us; asset bubbles don’t fix anything.

The pain of the bust far outweighs the euphoria of the bubble. Time and again this is the lesson central bankers never learn.

Andy Xie, from Caixin Online summed it up:

‘Japan and the United States are using asset bubbles to revive their economies. They are struggling to manage the speed of bubble expansion or contraction. This dancing on a pinhead brings big uncertainty to the global economy. When they fail, a global recession may follow.’

Welcome to the Real World  

Central bankers tell you they are busy conducting an ‘experiment’. But the economy isn’t a scientific research project. They can’t control it. The global economy is a complex and unpredictable ecosystem. Its evolution is a function of the decisions the seven billion people who inhabit the earth make every day.

A handful of bureaucrats and academics with computer models can’t control this ecosystem, any more than marine scientists can control the ocean.

Acknowledging this fact is a step towards understanding the gravity of the situation. Otherwise, these crackpot scientists will blow the lab sky high.

We only have to look back a dozen years to see how their previous experiments (of lesser intensity) have failed.

US fund manager John Hussmann made this observation in his latest report:

‘… the last two 50% market declines – both the 2001-2002 plunge and the 2008-2009 plunge – occurred in environments of aggressive, persistent Federal Reserve easing.’

The significant share market losses suffered during the ‘tech wreck’ and ‘GFC’ occurred when the Fed was aggressively intervening (meddling) in the economy. The Fed’s tampering only makes a bad situation worse.

If we look further back in time, Hussmann discovered:

‘…the maximum drawdown (loss) of the S&P 500, confined to periods of favorable (meddling) monetary conditions since 1940, would have been a 55% loss. This compares with a 33% loss during unfavorable (non-meddling) monetary conditions.

According to Hussman the market collapses ‘were preceded by overvalued, overbought, overbullish euphoria‘. This is what asset bubbles do. The animal spirits run strong – the need for greed drives values well above rational levels.

Anyone with a passing interest in the financial world knows the current level of meddling is without precedent. So if all the previous periods of ‘Fed intervention’ resulted in 50+% losses, what pain is in store for this market?

The following charts show the current level of disconnect between the market and the economy.

The first chart tracks US economic activity. In 2008/09 (the grey shaded area represents a recession) all measures of economic activity fell into a crater.

The important take from this graph is 2010 onwards. After the economy ‘recovered’ from its initial GFC shock, it has steadily declined. This is in spite of the US Fed spending trillions (over the past four years) ‘stimulating’ the economy. The Great Credit Contraction is proving far more powerful than the printing press.

This next chart compares the performance of the S&P 500 index with the level of margin debt (borrowing to invest) in the US. Talk about a mirror reflection. 

While the economy (Main Street) is tanking, Wall Street is gearing up and milking the experiment for all it’s worth.

The next wave down in this Secular Bearmarket will be gut wrenching. It’ll make the previous two corrections look like gentle slippery slides.

Interest rates are destined to go lower, but being in a cash bunker is still the best place to observe the inevitable detonation of this experiment.

Vern Gowdie
Contributing Editor, Money Morning

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From the Archives…

Keep One Eye on Resource Stocks and the Other on the NASDAQ
31-05-2013 – Kris Sayce

Getting in on the ’99 Cent Craze’ with Crowdfunding
30-05-2013 – Sam Volkering

Buyer Beware: Japanese Government Bonds are Moving
29-05-2013 – Murray Dawes

The Best Contrarian Play on Gold I’ve Ever Seen…
28-05-2013 – Dr Alex Cowie

A Revolution in the Share Market is Coming…
27-05-2013 – Kris Sayce

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ABN Amro Predicts Gold Price Collapse‏

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ABN Amro Predicts Gold Price Collapse‏

Posted on 30 April 2013 by MoneyMorning

ABN Amro, the Dutch state-owned banking giant, recently revised its global macro and gold outlook, forecasting a $1,300 gold price by the end of this year.

Moreover, the bank forecasts $1,000 gold by December 2014, and $800 gold in 2015. Why?

‘The authorities — especially in Europe — have acted to reduce systemic risks and inflation is going down rather than up. . . Other assets will become increasingly more attractive as the growth outlook improves.’

Wait, hang on; they lost me with the ‘all is well in Europe’ argument.

Across the continent, the dominoes are falling far faster than Angela Merkel, the European Central Bank, and even the IMF can stand them back up again.

Slovenia is now in need of a banking sector bailout. Even according to the OECD’s latest economic survey of the country, ‘Slovenia is facing a severe banking crisis’.

This, amid continually rising debts and record high unemployment in the region.

To put this in context, the number of unemployed in Spain now exceeds the entire population of Madrid…representing about 13% of the entire Spanish population and 27% of the nation’s workforce.

ABN Amro’s reports go on:

Systemic risks to the financial system and the global economy have declined notably, despite the bailout of Cyprus.

Er, ‘despite the bailout of Cyprus…’ You mean the one involving outright confiscation of people’s money? The one where the Russians wagged their fingers at the EU for acting like the Soviet Union?

Sure, despite the bailout of Cyprus, everything’s dandy. And other than that, Mrs. Lincoln, how did you enjoy the show?

ABN continues: ‘Another blow [to the gold price] will come when the Fed’s first rate hike (that we expect in early 2015) comes into view.

USA Still on the Road to Bankruptcy

Now, bear in mind that US debt already exceeds 100% of GDP.

Even using the US government’s own ridiculous budget projections (which assume 3.5% REAL GDP growth) Uncle Sam will still accumulate over $5 trillion in debt over the next decade.

But here’s the thing — the current $16.75 trillion of US debt has an average maturity of just 65 months. This means that the US government will be on the hook to repay a huge chunk of its debt within the next 5 1/2 years.

So in addition to issuing $5 trillion (optimistically) in new debt, they’ll also have to re-issue trillions more in existing debt.

Someone is going to have to mop up all that debt. The question is…who?

The Chinese are actually REDUCING their Treasury exposure as a percentage of total US debt (see chart). This is consistent with their objective to strengthen the renminbi.

The story is the same with Japan at the moment, whose nominal US debt holdings have actually been decreasing.

The US Social Security trust fund is also a major holder of US debt. Yet, according to the Washington Post, roughly 10,000 people EACH DAY become eligible to receive Social Security pension benefits.

Given the increased outflows and high level of US unemployment (fewer people paying into the system), it’s doubtful that the Social Security trust fund will have sufficient cash to bail out the Federal government.

This leaves the US Federal Reserve as the lone player to mop up all this debt. There simply are no other options; the US government will default in all likelihood, unless the Fed continues debauching the currency to buy Treasuries.

This will drive even more money into real assets, pushing prices higher…especially gold.

Simon Black
Contributing Editor, Money Morning

Publisher’s Note: This article originally appeared in Sovereign Man: Notes from the Field

From the Archives…

The Market Rebounds, but We’re Still Not Selling…
26-04-2013 – Kris Sayce

Is This the Last Hurrah for the Australian Dollar?
25-04-2013 – Murray Dawes

Here’s Proof the Silver Bullion Market is Alive and Well
24-04-2013 – Dr. Alex Cowie

Stand By for the Recession Rally in Resource Stocks: Take Two
23-04-2013 – Dr. Alex Cowie

A New Take on Hard Asset Investing
22-04-2013 – Kris Sayce

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Addictive and Irreversible: Destructive Policies Worldwide

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Addictive and Irreversible: Destructive Policies Worldwide

Posted on 26 April 2013 by MoneyMorning

After months of being under central bank-administered anaesthesia, many investors are pondering outside the repeated mantra of, ‘Money printing equals higher stocks.’

The question they’re asking now? How, exactly, swapping overvalued shares back and forth will create wealth for everybody — including those unfortunate enough to be buying late?

Masking symptoms of troubled economies with oceans of fresh money is not a good prescription for ‘wealth creation’.

But the Federal Reserve and other central banks have gone down that road, and there is no going back, even after the uglier symptoms of inflation emerge.

In the wake of the chaotic break in gold futures market, all gold mining stocks have been smashed. After two dreadful years, it looked like a final, cathartic purge. I haven’t seen sentiment and price moves like this since the depths of the 2008 crash.

Let’s examine the question of whether or not the gold bull market is over…

After spending much time re-examining gold’s fundamental drivers, my own assumptions and the views of a few dozen top analysts, I’ve come to the following conclusion: Ignore Wall Street’s clueless, half-baked opinions of the gold futures market.

Most of the banks’ opinions, including Goldman Sachs’ famous ‘short gold’ report, are based on an extremely speculative forecast: that the global economy can thrive after central banks stop printing. This cannot happen.

The only drivers of the US economy in recent years — rebounded stocks, housing and autos — owe their strength almost entirely to the Fed’s policy. Take away the policy, and all three would collapse. So the Fed simply cannot remove the policy. If it attempts to remove easy money, and the economy crashes, it will reinstate printing in a heartbeat.
The fundamental facts have not changed, so the underpinnings of gold’s bull market are intact.

The Number You Need to Know

The number you need to remember is zero.

Zero is where central banks will peg interest rates for several years into the future. Zero is also the number of times in recorded history that the “QE/ZIRP” policies in place worldwide have boosted any economy to ‘escape velocity’ (as economists say).

Such radical policies always result in destruction of the currency being printed. In other words, stagflation — not sustained economic recovery. Japan will discover that history rhymes once its financial market sugar high wears off. It offers a preview for the US.

As inflation expectations rise — the great hope of Bank of Japan governor Kuroda — Japanese investors will discover that money printing schemes are addictive, with no practical exit.

Here’s why: Once consumers buy tomorrow’s products today (ahead of expected price rises), what will they buy when tomorrow arrives? When tomorrow arrives, the howls for another round of printing will be louder than ever! We keep bringing up this question because thus far, there is no indication that any policymakers know (or admit) that Japan’s new policy is addictive and irreversible.

The real world isn’t nearly so simple and easily modelled as the professors running central banks believe. Trying to ‘boost inflation expectations’ will only trap central banks into permanent cycles of easing — both in the US and Japan. And the bigger government debts get, the harder it will be for central banks to tighten policy.

Raising interest rates a few years from now would result in interest expenses consuming an unacceptable amount of government tax revenue; so higher short-term interest rates — which would really put the brakes on gold prices — will not happen.

Finally, zero happens to be the number of fiat currencies in history that held their value.
The [US] dollar’s value isn’t going to zero anytime soon, but debasement continues, and stopping the growth federal entitlement spending — the real driver of federal budget deficits — is politically impossible.

The guardians of the paper dollar’s sanctity, rather than preserving its value with positive real interest rates and balanced budgets, are aggressively pushing it toward its ultimate destination: zero.

I’m waiting to see a strong rebuttal from the defenders of the paper money system. Thus far, I haven’t seen any cases for a strong dollar — a case that proves central banks have not trapped themselves into permanent cycles of easy money.

The gold bull market lives on…

Dan Amoss
Contributing Writer, Money Morning

Join Money Morning on Google+

From the Archives…

Why Waste Your Time on Gold When You Can Invest in Dividend Stocks?
19-04-2013 – Kris Sayce

A Trader’s Eye View of Gold’s Frightening Collapse
18-04-2013 – Murray Dawes

Why You Should Buy ‘Dirty, Grimy’ Gold Stocks
17-04-2013 – Dr. Alex Cowie

Why this Historic Fall in the Gold Price Equates to a Historic Opportunity
16-04-2013 – Dr. Alex Cowie

Beware the ‘Safety Bubble’, But Don’t Sell Dividend Stocks Yet
15-04-2013 – Kris Sayce

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Bernanke Gets Skewered by Stockman

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Bernanke Gets Skewered by Stockman

Posted on 11 April 2013 by Byron King

Did you see the Sunday Times on March 31? The Sunday Review section — the part with opinion-forming editorials and columns, etc. — had a banner headline declaring ‘Sundown in America’. This was the intro to a 2,600-word article by David Stockman, former budget director for US President Ronald Reagan.

If you didn’t see the Stockman article, perhaps you saw summaries in other media. That is, we now have an economic ‘boom, bust, doom & gloom’ story with legs — and of course it drips with the holy water of top billing in the Old Gray Lady. The subject is now legitimate.

It’s respectable. Hey, I read about it in The New York Times!

Stockman Carpet Bombs the ‘State-Wrecked’ System

Basically, in his Times article (a summary of his new book, The Great Deformation: The Corruption of Capitalism in America), Stockman carpet-bombs the structure of American monetary and fiscal management (mismanagement, actually), using the term state-wrecked — an obvious play on the word shipwrecked.

True to his name, Stockman enters the corral like an angry sheriff, shooting at bad guys with blazing guns. ‘The United States is broke — fiscally, morally, intellectually,’ he writes. ‘The Fed has incited a global currency war…that will soon overwhelm it. When the latest bubble pops, there will be nothing to stop the collapse.’

No sugar and spice from Stockman. Indeed, his article reads like the past 12 years of Daily Reckoning emails from Agora Financial. There are 50 shades of Bill Bonner’s gray musings about kinky abuse of the economy, by all manner of politicians and world-improvers.

Plus, Stockman channels other AF writing, concerning how screwed up is the US Federal Reserve (Fed) and how our government has wrecked the almighty US dollar.

One of Stockman’s key targets is the modern Fed. He skewers current Fed Chairman Ben Bernanke and previous Chairman Alan Greenspan (a ‘lapsed hero’), while allowing for the good — tight money — work of former chairmen William Martin and Paul Volker.

While I’m thinking about it, Stockman missed an easy layup by failing to mention the mess aided and abetted by Arthur Burns.

The 1998 bailout of Long-Term Capital Management by the Fed was ‘unforgiveable’, states Stockman. A decade later, the 2008 Wall Street bailout was ‘the single most shameful chapter in American financial history’.

On this last point, according to Stockman, ‘the White House, Congress and the Fed, under Mr. Bush and then President Obama, made a series of desperate, reckless maneuvers that were not only unnecessary but ruinous.

‘Graver Than Watergate’

Stockman plumbs the depths of history. He gets political, starting in 1933, and rips President Franklin Roosevelt for seizing the nation’s gold. It’s a sentence that ought to be a book.

Then Stockman jumps four decades, to ‘one perfidious weekend at Camp David, Md., in 1971,’ when then-President Richard Nixon ‘essentially defaulted on the nation’s debt obligations by finally ending the convertibility of gold to the dollar.’

When Nixon closed the gold window of the US Treasury, it was ‘arguably a sin graver than Watergate.’

Stop the presses! When someone indicates that something was worse than Watergate — and does so in the pages of the Times, no less — we are approaching the orbit of a forbidden planet. So what was Nixon’s even higher crime?

Per Stockman, Nixon’s move, with the country’s gold, ‘meant the end of national financial discipline and the start of a four-decade spree during which we have lived high on the hog’. In essence, lacking the discipline of a gold-backed dollar, the US has undergone ‘an internal leveraged buyout.’

Stockman’s points make eminent good sense to anyone who’s been reading Agora Financial pubs for more than, say, a few months. After all, once you’ve been infected by a true case of gold fever, you carry the bug forever. Proudly. Gold Pride!

Still, to the liberal masses and hard-core Keynesian disciples out there — especially to that execrable, formulaic, one-size-fits-all political shill Paul Krugman — the Stockman message soars past like a stealth bomber in the night. Whoosh!

Stockman’s Gallery of Rogue Presidents

By my count, Stockman pillories FDR, as well as presidents Kennedy, Johnson, Nixon, Carter, Reagan (for whom Stockman worked), Bush I, Clinton, Bush II and Obama. On the other hand, Stockman offers a kind reference to the ‘balanced-budget policies’ of President Calvin Coolidge and more kind words about Eisenhower.

Stockman manages to avoid direct discussion of presidents Truman, Ford and Carter — although with respect to the last two chief executives, he distinctly recalls the bad days of the late 1970s. (As do I, by the way.)

The result of decades’ worth of loose money and undisciplined spending, according to Stockman, is that ‘Americans stopped saving and consumed everything they earned and all they could borrow.’

Meanwhile, states Stockman, China and Japan have ‘accumulated huge dollar reserves, transforming their central banks into a string of monetary roach motels where sovereign debt goes in but never comes out. We’ve been living on borrowed time — and spending Asians’ borrowed dimes.

In a sidebar that should be familiar to energy investors, Stockman slams the so-called ‘green energy’ movement. He summarizes the recent green efforts by the Obama administration as ‘mainly a nearly $1 billion giveaway to crony capitalists, like the venture capitalist John Doerr and the self-proclaimed outer-space visionary Elon Musk, to make new toys for the affluent.’ Bingo!

Where Does This Go?

Stockman paints a dire picture. He indicts the current US political system, declaring that the US ‘Main Street economy is failing while Washington is piling a soaring debt burden on our descendants, unable to rein in either the warfare state or the welfare state or raise the taxes needed to pay the nation’s bills.

Betraying utter pessimism, Stockman offers a selection of all-but-unattainable solutions that could, possibly, surprise even the most libertarian of readers.

For example, per Stockman, the US needs a ‘drastic deflation of the realm of politics and the abolition of incumbency itself,’ including ‘sweeping constitutional surgery: amendments to give the president and members of Congress a single six-year term, with no re-election; providing 100% public financing for candidates; strictly limiting the duration of campaigns (say, to eight weeks); and prohibiting, for life, lobbying by anyone who has been on a legislative or executive payroll.’

Of course, US governance could revert to colouring within the lines of that old Constitution, too — with those enumerated powers and such. Fat chance, right?

Will any of this happen? No way. Not when the captain, crew and most of the passengers on this ship are partying hard while the iceberg tears a hole in the bottom of the hull.

Of course, The New York Times has run many an article, over many years, about government overspending, national debt, gold and much more. The Times is a big, important newspaper for a reason. It influences people and moves markets.

But with this recent feature article in the Times, Stockman has now brought to the surface a set of formerly ‘unspeakable’ — at least amongst that crowd — monetary, fiscal and political points.

The dollar is dying, spending is out of control, debt is unmanageable and the economy is rotten through and through. (So other than the incident with the man and the gun, Mrs. Lincoln, how did you and the president enjoy the play?)

Editorialists of the world — and even the less-dense politicians — will now have to address the issues that Stockman has raised. Doubtless, they’ll move mountains to obfuscate the issues. But the door has opened to thinking about the unthinkable.

In terms of investment — certainly for our purposes here — Stockman is waving bright signal flags for a revival in the fortunes of gold, silver and other hard assets. His description of the decline of the dollar is a ringing endorsement for real stuff, like platinum, copper, oil and other things on which the world runs.

Plus, it’s fun to watch Krugman get all apoplectic as his entire worldview takes a hit.

Byron King
Contributing Editor, Money Morning

Join Money Morning on Google+

From the Archives…

Only Lunatics Need Apply for This Stock Market Rally
5-04-2013 – Kris Sayce

The Run-on Effect of Aussie Housing on the Australian Stock Market
4-04-2013 – Murray Dawes

Good News in China’s Economy? Put This Date in Your Diary…
3-04-2013 – Dr Alex Cowie

‘Gold Only Rises During the Bad Times’ and other Fairy Tales
2-04-2013 – Dr Alex Cowie 

On Gold — Billionaire Investor Eric Sprott Says : ‘I’m in Alex Cowie’s Camp’
1-04-2013 – Dr. Alex Cowie

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Why Crime Pays for ‘Too-Big-to-Fail’ Banks

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Why Crime Pays for ‘Too-Big-to-Fail’ Banks

Posted on 04 April 2013 by Shah Gilani

You need to know the truth about banks.

Why? Because they rob you.

Why? Because they can.

It’s the Willie Sutton bank robber quote in reverse. Willie was asked, ‘Why do you rob banks?’

He famously answered, while in handcuffs, ‘Because that’s where the money is.’

But, banks can’t keep robbing the public if they keep shooting themselves in their feet. That’s where central banks come in.

They are the real kingpins keeping their robber minions in pinstripes — instead of prison stripes.

Estimates now are that US banks — the too big to fail ones — will end up paying more than $100 billion in fines, settlement costs, to buy back bad mortgages, to right some of the past wrongs related to the mortgage crisis they caused.

It could end up being more. But they’re all still in business. They’re able to digest these ‘costs of doing business’, and get bigger. And the banks are making enough profits to want to ‘reward shareholders’ by raising their dividend payouts and buying back their stock.

‘The Cost of Doing Business’

Then there’s the LIBOR mess. Banks colluded to manipulate the London Interbank Offered Rate. LIBOR is referred to by the British Bankers’ Association (an outfit populated by bankers as a kind of trade group that oversees LIBOR dissemination), as ‘the world’s most important number’.

There have been some settlements already. Three giant European banks — Royal Bank of Scotland, UBS, and Barclays — have ponied up almost $3 billion to settle matters regarding their involvement.

How much will the big American banks have to pay to settle their end of the scheming manipulation?

Nobody knows. But estimates I’ve seen range from $7.8 billion (I have no idea how the analyst came up with that figure… Thin air?) to more than $125 billion.

The point is that no one knows how much it will cost banks because it’s impossible to calculate how so many people, businesses, municipal governments, and anybody who paid interest based on LIBOR, was adversely affected.

The banks will pay whatever they have to in order to get these matters settled. They’ll all still be in business and able to digest these ‘costs of doing business’. They’ll get bigger, and make enough profits to want to ‘reward shareholders’ by raising their dividend payouts and buying back their stock.

But the hits keep coming folks.

Now the banks are being investigated for collusion, price fixing, restraint of trade, and just flat out being the criminal enterprises that they are. And for all their hard work in keeping credit default swap (CDS) trading off exchanges — where prices would be transparent and honest.

Then again, who cares about that little corner of the market for that little product? It’s only estimated to be in the tens of trillions of dollars. They are weapons of financial mass destruction in the shaky hands of speculating shysters.

Okay, that’s a hyperbole. There is a place for CDS, it’s just not where it is now — which is everywhere.

How much will it cost banks? $1 billion? $10 billion? $100 million billion?

Who cares?

The banks will pay whatever they have to. They’ll all still be in business. They’re able to digest these ‘costs of doing business’. They’ll get bigger, and make enough profits to want to ‘reward shareholders’ by raising their dividend payouts and buying back their stock.

Get the Picture?

Banks have become protected criminal enterprises.

They couldn’t do what they do without two things…

Make that one thing, because the one thing really encompasses the two things. I was going to say with they operate under the auspices of their cronies in government — and the Federal Reserve or central banks everywhere. But forget the government stooges. They are beholden to the Federal Reserve and central, which they long ago sold their souls to.

Without central banks to bail out the banks they would fail. And they should. But they can’t because they are too big to fail — and too big to jail.

Now that’s a business model!

Oh, and why are governments around the world (case in point: the United States) able to run mega-deficits?

That would be because they’re in bed with their cuddly central banker colluders, so they can print money to buy their never-ending, always-spewing bills, notes, and bonds that finance political pandering to the voters to stay in power.

They couldn’t do it without central banks.

Shah Gilani
Contributing Editor, Money Morning

Join Money Morning on Google+

From the Archives…

Why Dividend Stocks May Not Stay This Cheap for Long
29-03-2013 – Kris Sayce

Respect the Market Trend, but Don’t Expect it to Last
28-03-2013 – Murray Dawes

Silver ‘$100 Within Two Years’
27-03-2013 – Dr. Alex Cowie

11 Billion Reasons to Expect a 200% Move in Gold Stocks Within Months
26-03-2013 – Dr. Alex Cowie

You Want Proof the Stock Market’s Heading Up? Try This…
25-03-2013 – Kris Sayce

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Coming Soon: The Next Breakout For Gold

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Coming Soon: The Next Breakout For Gold

Posted on 03 April 2013 by MoneyMorning

For years, the Federal Reserve has herded investors away from cash and bonds. It wants to keep investors bullish on stocks, hoping higher stock prices will create a wealth effect.

Along with stories of new highs in the Dow, newspapers are running stories on the Federal Reserve’s role in pushing up prices. The Fed’s support for the stock market, freshly baked in early 2010, is now a stale theme.

By the time a theme is constantly in the front page of the newspaper, it’s already played out. Newspapers reflect investors’ existing investment stance; front-page stories don’t feature investments that are ignored or cheap.

If you look beyond the sound bites and groupthink, you’ll find few investors that really believe in this market. Many fully invested stockholders plan to sell on the first sign the run is over.

Meanwhile, the buying pressure needed to push the market even higher from here must come from retail investors who’ve sworn off stocks after two crashes since the year 2000. It’s possible, but not likely. And even if possible, ‘greater fools’ rushing into the market at the top would hardly lead to a wealth effect.

The US Fed Creating a Disaster

Investors’ psychology of noncommitment — ‘I don’t really believe in the sustainability of this bull market, but I’ll hold stocks because there is no alternative’ — sets the market up for a steady drift higher, punctuated by sharp crashes. If the Federal Reserve wants to sustain the artificial stimulus gains in the market, it must respond to each crash with promises of more easy money.

History shows the Fed excels at creating bubbles, yet is completely inept at controlling conditions when bubbles pop. At the end of this mission to create a wealth effect, stocks may be a little higher, but the economy won’t be healthy, and faith in the dollar’s integrity will be shattered.

Investors have yet to flock to gold and silver as safe havens from currency chaos. But with central banks stuck in a permanent cycle of quantitative easing, investors will eventually think through the implications and position themselves accordingly.

George Topping, a gold mining analyst from Stifel Nicolaus, published a chart showing the US adjusted monetary base and the gold price. In the first two shaded areas of the chart, the Federal Reserve’s QE programs inflated the monetary base, and gold rose in lock step:

The third shaded area is the latest round of QE. The monetary base is rising as fast as ever, yet gold prices have fallen. This phenomenon is unlikely to last. The monetary base will keep growing, which will continue increasing the value of gold versus paper.

Gold and Silver Will Go Higher

It’s only a matter of time before the market recognizes that there will be no exit from quantitative easing and there will be no shrinkage of the monetary base. When that happens, gold and silver will break out of their long consolidations.

In its note, Stifel mentions that savers in Argentina, where confidence in the currency is collapsing, are rushing to buy up physical supplies of gold:

‘Argentine citizens are reported to have increased gold purchases in order to protect their savings (versus current inflation of 26%). The only gold trader in Argentina, Banco de la Ciudad de Buenos Aires, is apparently in talks to buy gold directly from miners as scrap supplies diminish.’

Buying directly from miners? If that is the case, it shows how quickly physical gold can disappear from the open market once a bankrupt government uses its central bank to finance its budget. In the USA, based on the status quo policies and political math, we are heading in that direction.

Dan Amoss
Contributing Editor, Money Morning

Join Money Morning on Google+

From the Archives…

Why Dividend Stocks May Not Stay This Cheap for Long
29-03-2013 – Kris Sayce

Respect the Market Trend, but Don’t Expect it to Last
28-03-2013 – Murray Dawes

Silver ‘$100 Within Two Years’
27-03-2013 – Dr. Alex Cowie

11 Billion Reasons to Expect a 200% Move in Gold Stocks Within Months
26-03-2013 – Dr. Alex Cowie

You Want Proof the Stock Market’s Heading Up? Try This…
25-03-2013 – Kris Sayce

Comments (0)

The British Pound Gets Pounded

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The British Pound Gets Pounded

Posted on 22 February 2013 by MoneyMorning

As the global currency war intensifies, the majority of attention has been paid to the fall of the Japanese yen against the U.S. dollar over the past few months. The implosion has given cover to the sad performance of another once mighty currency: the British pound sterling.

But in many ways the travails of the pound is far more instructive to those pondering the fate of the U.S. currency.

Japan has a unique economic and demographic profile which makes it a poor stalking horse. Newly elected Prime Minister Shinzo Abe and the Bank of Japan have clearly and forcefully committed Japan to a policy of inflation at any cost.

Even in a world of serial money printers their plans stand out as exceptional. Britain, on the other hand, is charting a more conventional course to the same destination.

Pound Sterling Fading to the Margin

The UK government, under conservative Prime Minister David Cameron and Chancellor of the Exchequer George Osborne, has succeeded in bringing marginal discipline to their budgetary imbalances.

From 2009 to 2012, British government expenditures rose a total of just 1.6%, which was far below the official pace of inflation. (In contrast, U.S. federal spending grew by 7.9% over that time period).

Since 2009 the British have kept their debt-to-GDP ratio lower than America’s and have cut into that metric at a faster rate.

But while the British are conservative when compared to their American cousins, they are hardly austere when compared to Germany (which continues to have a nearly balanced budget and extremely low debt to GDP). Paul Krugman blames Britain’s lackluster economic performance on their misguided experiment with austerity.

The monetary side of the equation also puts the UK within the spectrum of its peers. Ever since the Great Recession began in 2008 the Bank of England, led by outgoing Governor Mervyn King, has been far more stimulative than the European Central Bankers in Frankfurt (but not quite as much as the Federal Reserve or the Bank of Japan).

In contrast to the permanent and ongoing bond-buying quantitative easing programs underway in the U.S. and Japan, the Bank of England has engaged in such measures only selectively.

Given the relatively moderate approach pursued by the British, the poor performance of their currency may be hard to fathom. The deciding factor may be that the Pound Sterling is not nearly as vital to investors, or as integrated into the global economy, as the U.S. dollar or the euro.

The greenback, being the world’s reserve currency, has always benefited from demand that is independent of its economic fundamentals. The euro benefits from the size of the euro zone and the legacy of German banking discipline. The pound enjoys no such privileges and as a result foreign central banks do not feel as pressured to prop it up.

As a result, over the past few years the pound has been…pounded. Since July 2008, the currency is down 26.7% against the U.S. dollar, and in recent months it has started falling faster than all other developed currencies except for the Abe-pummeled yen. Since October 1, 2012 the pound has fallen by 4% against the dollar and 8% against the euro.

Central Banker Syndrome

The pound’s health is made more suspect by the extreme challenges faced by the Bank of England (BoE) as it tries to stimulate the most admittedly inflation prone economy among the major Western nations.

Unlike the Federal Reserve, which is tasked by statute to combat both inflation and unemployment, the BoE has only a single mandate: to keep inflation contained. On that score it has been failing habitually.

Inflation in the UK economy has been north of its 2% target for the past five years (the current official rate is 2.7%). In its most recent inflation projections, Mr. King admitted that it will stay that way for years to come, and that it may exceed 3% this year and next.

With its currency weakening and inflation accelerating, the mandate of the BoE would clearly indicate that the time has come for monetary tightening.

However, like all central bankers, Mr. King, and his successor, the Canadian Mark Carney, will not be bound by such triflings as statutory mandates and past promises.

In his press conference last week, Mr. King spoke of ‘looking past’ current inflation figures to a time when he expects inflation will moderate. When the choice is between inflation and the political pain of economic contraction, bankers (at least those who don’t speak German) will choose inflation every time.

While the American media has poked fun at the Bank of England’s backtracking, they somehow do not understand that the Federal Reserve would be doing the same if not for the advantages given by the dollar’s reserve status.

The Fed Steering the US to Stagflation – or Worse

Our ability to monetize the vast majority of the annual government deficit while exporting our inflation through half trillion dollar trade deficits and the overseas sale of hundreds of billions of Treasury bonds annually means that we do not yet face the pressures bearing down on the Bank of England.

For now at least Cameron is sticking to his guns and making the politically difficult case to voters that today’s hard choices will yield benefits down the road. This puts all the pressure on the Bank of England to satisfy the calls for stimulus. The Federal Reserve is fortunate in that the Obama Administration shares none of Cameron’s fiscal determination.

But already the Fed has done plenty of backing off from its prior promises. Just a few months ago Ben Bernanke announced specific inflation and unemployment triggers that would apparently put monetary policy on automatic pilot.

But just last week, Fed Vice Chairman Janet Yellen announced that those goalposts (6.5% unemployment and 2.5% inflation) should not be considered ‘triggers’ but as thresholds past which the Fed ‘may consider’ tightening.

When U.S. prices start to rise in earnest, look for the denials and rationalizations to come in torrents. The Fed will never acknowledge high inflation no matter what the data, nor will it ever take any steps to combat it. The simple reason is that it will be unable to do so without bringing on the economic contraction that is so terrifying to the British.

However, as British inflation accelerates, the pressure on the Bank of England to change course will intensify. As monetary stimulus continues to take its toll on the pound, price pressures will mount, even as the economy continues to stagnate.

In other words, it is charting a course to stagflation. Perversely, this will put even more pressure on the BoE to ease. However, more cheap money will not stimulate the economy but merely cripple it further by fueling the inflationary fire.

At some point the British will have to admit that stimulus doesn’t work. To break the inflationary spiral and rescue the ailing pound, the BoE will be forced to aggressively raise rates, at which point the British government will have no choice but to slash spending more deeply than would have been the case had they taken their medicine sooner.

However, if the BoE refuses to tighten even in the face of much higher official inflation, the pound may deteriorate further and the UK might be left with the embarrassing choice of adopting the euro.

As far as the United States is concerned, the U.K. is the canary in the coal mine. What they are going through now, and what they may be about to go through, we will surely experience in the years ahead.

The only difference is that the leeway afforded to us by our special status simply gives us more rope to hang ourselves. When the noose finally tightens, the fall will be that much more painful.

Peter Schiff
Contributing Writer, Money Morning

Publisher’s Note: This article originally appeared in Money Morning (USA). Peter Schiff is the author of the new book The Real Crash: America’s Coming Bankruptcy – How to Save Yourself and Your Country.

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From the Archives…

Four Things to Look Out for When Buying Gold Stocks
15-02-2013 – Kris Sayce

Here’s One Way to Eke More Gains from this Rising Stock Market
14-02-2013 – Kris Sayce

When Will the Inflationary Stock Boost End?
13-02-2013 – Murray Dawes

Gold Stocks: Back Up the Truck
12-02-2013 – Dr. Alex Cowie

The Next Surge in the Gold Price Looms: It’s Time to Buy Gold Now
11-02-2013 – Dr. Alex Cowie

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How Germany’s Request for Gold Could Affect the US Dollar

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How Germany’s Request for Gold Could Affect the US Dollar

Posted on 08 February 2013 by MoneyMorning

The financial world was shocked by a demand from Germany’s Bundesbank to repatriate a large portion of its gold reserves held abroad. By 2020, Germany wants 50% of its total gold reserves back in Frankfurt – including 300 tons from the Federal Reserve.

The Bundesbank’s announcement comes just three months after the Fed refused to submit to an audit of its holdings on Germany’s behalf. One cannot help but wonder if the refusal triggered the demand.

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Here’s Why We’re Still Buying This Stock Market

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Here’s Why We’re Still Buying This Stock Market

Posted on 31 January 2013 by Kris Sayce


The Financial Times ran the headline, ‘US growth hit by surprise setback’.

The article notes:

‘The US economy shrank 0.1 per cent at an annualised rate in the fourth quarter of 2012, the first contraction in three years, rattling financial markets and highlighting the danger of across-the-board federal spending cuts due in March.’

But was it really a surprise?

We don’t think so. The US S&P 500 index fell 0.39%. That’s barely a blip when you look at the big picture. The index is up almost 900 points – more than doubling – since the 2009 low.

Of course, we’re not saying stock markets will keep going up. Nothing goes up forever. But we do wonder: has the market finally weaned itself off central bankers to focus on company fundamentals?

If it has, then there could be more good news ahead for stocks

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The Four Central Bank Lies to Look Out for in 2013…

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The Four Central Bank Lies to Look Out for in 2013…

Posted on 11 January 2013 by Bengt Saelensminde

The world’s powerful central banks are playing a very dangerous game. Trying to manage inflation expectations while pursuing downright inflationary policies has caused, and is set to cause, a great deal of volatility in the market this year.

But as I said on Monday, there’s good money to be made for those who can stay a couple of steps ahead of the central planners.

Today I want to show you how central banks will try to pull the wool over your eyes this year. And what you can do to make sure you stay ahead of them.

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investing money 220

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My Investing Resolution for 2013: Profit With the Rulers of the Universe

Posted on 10 January 2013 by Bengt Saelensminde

How are we to invest our money in 2013? Well, we can start with recognising a simple fact – we can no longer rely on the old rules of investing.

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Bernanke’s Excuse for Mass Looting

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Bernanke’s Excuse for Mass Looting

Posted on 22 December 2012 by MoneyMorning

Bernanke said that to remedy the unemployment problem he will continue the Fed’s program of asset purchases. Specifically, the Fed will continue to buy and hold mortgage-backed securities (yes, they are still sloshing around the banking system) and US Treasury securities – $40 billion-plus per month. Plus, he will keep the federal funds rates at near zero.

The great change, he said, is the intense focus on the policy objective of unemployment. The committee sees no inflation threat, so it might as well turn its attention to the labor markets. The Fed loves the unemployed, you see, and wants to help them.

But here’s the disconnect. What the devil does buying bad debt from zombie banks have to do with getting people jobs? The relationship between assets purchases and policy goals is murky at best.

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Diggers and Drillers

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