US Dollar & Gold (Jim Willie)NATURE OF USDOLLAR RALLY
The most common question to cross my desk is why the USDollar is rallying so strongly, given a severe stock decline and really bad economic news. Surely, the answer must go in direct contradiction to any targeted investment in the USEconomy, or to property purchases. Some money, according to one source in Atlanta, seeks safe haven in US$ denomination, like among Russian investors. He made reference to wealthy individuals. The sums total the tens of billion$, maybe a little more, from that region. Their financial markets are in disarray. Even some European investors might seek the safety of the US$ as the euro currency continues to correct downward. Middle East money might seek safety also, as some disorder has entered their markets. So perhaps safe haven might be the objective for as much as a couple $100 billion or more. On the other side, a different source from Toronto tells of numerous multi-billion$ exits of money and investments from the US$-based system. Money is being repatriated as an implosion is expected, or at least a palpable risk is perceived in the United States during continued financial turmoil.
Contrast such numbers with other sources moving in the opposite direction. Up to half the hedge funds are under assault with many liquidations. Hundreds, if not a few thousand, will ultimately fail and die. Once there were 9000 hedge funds with over $1.6 trillion in managed investments. Big numbers are involved, and price changes in numerous commodities have been noted, from copper to crude oil. When their standard spread trades are closed out, enormous sums of money are demanded to buy back USTreasury Bonds that serve as anchor typically in such trades. With $1600 billion under management, spanning from New York City to London and elsewhere, and so much liquidation in big markets, my guess is that several $100 billion are involved into the beleaguered USDollar.
Also, we hear of tens of trillion$ in Credit Default Swap redemption payouts being made. To be sure, they are handled on a net basis. The swap contract payouts pertained to Lehman Brothers, Fannie Mae, and other giant firms. Truly enormous numbers are involved. Confirmation of speculative trade and CDSwap contract closeouts comes from the installed USDollar Swap Facility, designed to meet that demand. The USFed is trying to flood the world with USDollars. They have two major motives, one openly understood, one privately hidden. They are enabling the orderly payout of CDSwap contracts. They are supplying USTBonds in proper volume to cover the many spread trades that are retired. However, the USFed also is attempting ensure the globe is in synch with a reflation initiative, and continued endorsement of the USDollar as global reserve currency. In order to satisfy contracts, USTBonds are thus “ACCEPTED” as valid legal tender, if you will. That preserves the US$ as global reserve currency. When reflation is attempted, all participants lose together, as the USTBonds might lose some value when long-term interest rates rise again.
The safe haven argument has its place, but is grossly overstated in my estimation. Look at ratios in magnitude and the closed spec trades and CDSwap payouts. They seem to vastly overwhelm the safety seek to any US$ haven.
MANIPULATED MEASURES
Evidence has begun to enter the picture that the LIBOR rate is being manipulated, and being pulled down artificially. It is too crucial to be permitted to remain high. The London Interbank Offered Rate is used worldwide to calculate the interest rate on hundreds of billion$ in corporate loans, mortgages, spread trades, countless other loan products, and credit derivatives too. It is a wholesale borrowing rate determined by 16 major banks, published by the British Bankers Assn on a daily basis. The banking system has a vested interest in keeping the LIBOR rate low, and thus to falsify it, in a manner parallel to the Consumer Price Index kept low. A high LIBOR rate means banks lack funds to lend, or distrust each other from either past loans turning bad or new loans having poor prospects. Banks are now apparently making fake LIBOR quotes on the grounds that they wish not to be regarded as a credit risk, from which other banks would then demand a premium in reaction, and their image sure to suffer as well. Their bank stock and bond valuable would also fall. Lies help lift value. LIBOR rates are used to set adjustable rate mortgages across many nations.
Here is where the deception, shenanigans, and chicanery enter the LIBOR picture. Some of the money granted (gifted by Congress via Czar Paulson) to the big US banks in the last few weeks was lent to London banks, in particular by JPMorgan and Citigroup. This is NOT free-flowing lending at work. Money moved with a purpose. London banks are given political cover to say they have money to lend, did not borrow at their firm, but could have, and the rate would have been lower. Thus they submit via the honor system a lowball rate for LIBOR calculation, that has little bearing on reality. Details are shown in the November Hat Trick Letter, already posted.
The 3-month LIBOR chart tells a story. It came down from over 4.8% to 2.25% from brute force and manipulation, and has stabilized near the lower figure. The fact that 30-year fixed mortgage rates are still stuck at or near 6.0% is testimony that LIBOR is not a true reflection of market reality. LIBOR rates have come way down, but ARMortgage rates have not much. Such mortgage rates are still higher than a year ago, despite all the exceptional efforts by the USFed and empty talk of federal loan assistance.
This chart shows the ratio of this short-term LIBOR versus the 3-month USTBill yield, now the commonly used spread trade viewed to reveal government guaranteed bonds versus commercially available borrowed funds. This correctly exhibits the strain to private sector lending, out of step with the government guaranteed bonds. A longstanding ratio range between 1.5x and 2.0x range on yields has been shattered. It now stands at way above 10x, even 15x. Banks distrust each other, and with good reason. Thus the private sector is not benefiting from lower official rates, as EXTREME DISTRESS continues. Banks still hide their crippled assets from their balance sheets, and lie on their earnings statements. The economies are not sharing the benefit of cheaper borrowing costs. Banks, however, struggle to realize the benefit of lower official short-term rates, if they reside outside the den of corruption closely located to the USGovt. Inside that den, banks make money by swapping to the USFed itself.
COMPETITION FOR CAPITAL
One should expect expert economists to object to the devotion of money to failed enterprises, whether big banks or major firms like AIG, or to a major icon industrial giant like General Motors. Instead, they parrot on and on like politicians. Do economists have to preserve votes from the public? The competition for capital will become an important topic of debate before long. Precious funds are already being wasted on failed Wall Street firms, and on undeserved executive bonuses. Deaths for companies are being decided, not by the marketplace, but by a czar. Where will money come from to fund vast wind farms, or new gasoline refineries, or the infrastructure projects once promoted? Where will money come from to fund hybrid vehicle ownership? Too much money is now chasing failure so that jobs are preserved. Too much money is now redeeming failed financial vehicles, giving their elite owners a second chance. Too much money is now supplying labor unions that have essentially strangled their carmaker parent firms. Sure, many labor union agreements were made in full faith, in an era when price inflation was properly recognized. Now labor unions are starting to exert a serious pinch, after years of passing bargaining agreement concessions into retiree benefits. The labor wage for the Detroit 3 carmakers is still an order of magnitude higher than other industrial labor wages, like double. But that is changing.
The greater point is that the USGovt and USFed are together organizing and channeling vast sums of money into unproductive centers of the USEconomy, where failure abounds. Nowhere will money be available for new ideas, when 30% of car loan and home loan applicants are denied even with good credit. The USEconomy is about to suffer major seizures, since success and competence are no longer rewarded. Instead, connection to power and sprawling size are rewarded. US economists are predictably silent, since they are predictably incompetent, compromised, and too closely associated with the elite think tanks. Job loss will accelerate in coming months. Two stories that struck me were 53k job layoffs planned by Citigroup, and 20% of the Sun Microsystems workforce to be laid off. General Motors continues to cut jobs and close plants. The supply chain, including distribution lines inside the country and overseas to the country, is another story altogether. Lack of short-term credit is a major problem, as letters of credit for shippers are often unwanted. My position on economic forecast is still much more tilted toward possible disintegration than just a garden variety recession.
GOLD WINS WITH EITHER OUTCOME
Scenario A: The USEconomy suffers a strong recession. Many distribution lines are interrupted. Job losses continue into the millions. Many retail chains close down. These are already in progress. So imagine for the scenario that they all worsen. Commodity and material prices stabilize, and maybe rise. A big myth is out there, that claims commodity prices are down since the basic demand is down from a recession. That is only partly true. Prices are down predominantly since the USDollar has artificially enjoyed a prop from the financial markets, on liquidity of speculation and redemption of credit derivatives. As those processes slow, the USDollar will seek its proper value. That is much less, like 30% lower to start. Prices will then rise for things like food and gasoline and utility bills. Under this scenario, where the USEconomy suffers mightily, even becomes something of a wasteland, the USDollar might be replaced. Under this destruction scenario, with or without that replacement (forced in shame), gold will be a refuge of stored value, as industry falters and debt collapses further.
Scenario B: The vast Reflation Initiative succeeds. Somewhere the maestros and wizards succeed in engineering a revival of price inflation, as is their newfound goal. The destruction of the USEconomy is averted, except that hidden is the detrimental effect of price inflation. Wages might rise a little, but not enough. Asset prices like in the stock market improve, but not enough to keep pace with inflation. Corporations avert bankruptcy, but their profit margins are still damaged. The ultimate hedge against the systemic price inflation will be gold. This trend will continue, even as credit derivative accidents occur from higher rates, discussed in the upcoming Hat Trick Letter report. Massive price inflation will be the plan, the goal, the intention. INFLATE OR DIE will become the mantra on a global scale. The rise in the gold price, the longstanding time-honored inflation hedge, will be tolerated, as a system ill.
My forecast is that the USDollar will be replaced anyway, especially given the current meetings by major USTBond creditors. The G20 Meeting last weekend was an orchestrated sideshow. It opened Pandora’s Box however, as Germans in attendance have made firm formal rational demands. The movement is afoot to force profound change. A difficult, if not impossible, task comes for foreign bankers. They must separate themselves from the USDollar and USTreasury, its tradable vehicle. If they do not, then their economic and financial systems will be dragged down with the United States. The USFed executed on a gambit in recent weeks. They distributed hundreds of billion$ to foreign central banks. The hidden objective is to force foreigners to engage the great Reflation Initiative when the trigger is pulled, when the corner is turned, when the signal is given. Foreigners so far have taken that bait, but they might have an exit plan, if they are working closely with those who seem in charge: the Germans, Russians, Chinese, and Arabs.
Foreigners will soon realize that it is in the best interest of their nations to use their vast FOREX and USTBond reserves, to bring down their domestic currencies in exchange rate. They must enter the race of being among the initial group to use their USTBonds, to use their USAgency Mortgage Bonds, or suffer huge loss later. China has announced usage of US$-based bonds in a stimulus plan of gigantic proportions, the smart choice. Right now, the USTreasury Bill principal value is artificially high. Right now, the USDollar valuation is artificially high. THUS RECENT TREASURY AUCTIONS HAVE BEEN DISMAL FROM OVERPRICING. Foreigners can only expect their USTBond holdings to fall in value from here. The recent moves by the Saudis, the Iranians, and other nations to expand their gold holdings is another trend certain to gain ground.
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Jim Willie CB, editor of the “HAT TRICK LETTER”