"There is no means of avoiding a final collapse of a boom brought about by credit expansion. The alternative is only whether the crisis should come sooner as a result of a voluntary abandonment of further credit expansion or later as a final and total catastrophe of the currency system involved."
- Ludwig von Mises

Tuesday, November 30, 2010

Fiat Evolution Part III



In Part I, I discussed the emerging US Fiat Model, and in Part II, I described the emerging EU Fiat Model.  But as the current Euro crisis plays out, we may see the EU following in the footsteps of Ben Bernanke - that process is unfolding right now.  The overall theme of this series of posts is that we have entered a new era.  An era of fiction, an era of success without failure, of backstops and bandages.  It is an era of suspended disbelief; of delaying a cruel and unavoidable reckoning of reality.

Things will look as they always have.  Most people will sense something is amiss, but will never fully appreciate the sea change that is occurring.  Policymakers will temporarily succeed in creating an atmosphere of business as usual; that things are OK and we'll get through it.  They will temporarily succeed, but long term, their failure is certain.

The Sovereign Bond Markets are Dead; Long Live the Sovereign Bond Markets!

Historically, sovereign bond markets have been a source of funding for government activities.  This remains true for the individual EU member states, but not for the US Federal Government.  Unlike the EU member states, the US issues its own free floating currency and denominates its debt in its own currency.  So if the US needs money, it prints it, or in modern times, a keyboard stroke credits an account.

But the US maintains a bond market to control the amount of money and influence the cost of money in the global financial system.  By having the world reserve currency, the US must continually create money to keep up with the growing world economy.  This has been described as the "exorbitant privilege," that is, to a degree, the US can export its inflation and get a free lunch in the process.  Other countries can not do this.

The Primary Dealers which are the Commercial Banks (which ares also shareholders in the Federal Reserve System) always make sure that US Government debt is purchased.  They pick up any slack, so to speak.  Thus, and I want to make this clear, there will never be a failed US Government auction!  So not only does the debt not finance US Government spending, but the system is created so that the debt is always sold.  Always.

As I mentioned in Part I of this series, QE2 is really a replacement of a normal, healthy, functioning private banking sector and a normal, healthy, functioning sovereign bond market.  The US never really relied on foreign bondholders such as China to finance it's debt. (See my post Part I)  Furthermore, the interest the Federal Reserve now accumulates from Treasury purchases is mostly returned to the government.  The US government is essentially receiving an interest free "loan."  This is turn affects all interest rates, so in a way, yes there is a free lunch.  But that too will end. I will explain below.

The EU, on the other hand, is in shackles.  Each country needs to go to the sovereign bond market as a begger.  And if the sovereign bond market doesn't like the way the government is managing its budget, the interest rates soar.  And so, we have seen Greece and Ireland backstopped by the IMF, EU, and ECB.  There will be more.  Portugal is likely next, and Spain isn't too far behind.

Thus, the Sovereign Bond Market in the Western World at least, is dead, but it is also still "functioning."  It is a walking zombie, or a comatose patient on life support.  It is dead in the US because without the Federal Reserve buying up Treasuries from the Primary Dealers, there would be a failed auction.  The Federal Reserve is now the largest holder of US debt.  Fiat money in the US has now evolved into a complete fiction.  The housing industry, and soon to be state budgets, will all be supported by a fictional monetary system controlled by the Fed.  Price discovery?  Please....  There is no such thing.  Jim Rickards recently addressed this:



The Sovereign Bond Market is just about dead in the EU, because without the IMF, EU, and ECB, there would be a flood of government insolvencies and European-wide Banking collapses.  The ECB has been actively trying to keep rates low by buying up government debt by, you guessed it, creating money out of thin air.

And so, Sovereign Bond Markets are a fiction.  They are on artificial life support and will remain so until the system collapses.  And no one is admitting this!!!  Here's an example of a typical politician/economist's rhetoric :  Greek Finance Minister George Papconstantinou recently said that the extension of the repayment period of IMF/EU loan funding would allow Greece to go to the international markets for funding next year.  What is he smoking?!!!  Greece's debt to GDP percentage will be much WORSE next year.  Does he believe that Greece will get an interest rate below 9%?  And I'm being optimistic with the 9% figure.

If your GDP grows less than the interest on your debt, you are INSOLVENT, or soon to be.  Think about it.  If your debt is growing at 6% (if you're lucky), but your GDP is growing at 2% (if your're lucky) how do you think that story will end?  Do these economists own calculators?  Do they understand the laws of mathematics?  But this isn't a Greek thing, it affects Ireland, Portugal, and soon Spain, and maybe even France.

The US and Modern Monetary Theory - Avoiding the Laws of Thermodynamics

There are many out there that smugly preach that the US will never have a failed auction, and thus, things are just peachy. Many describe themselves as Modern Monetary Theorists (MMT'ers) They have a right to be smug because they are some of the few people that understand how the US system actually works. Most others are clueless. Many have been right about this crisis, but for the wrong reasons.

But what the MMT'ers ignore are the geopolitical consequences of basing your monetary system on a "free lunch" paradigm. They also ignore the convenient fact that the US has the world's reserve currency - for now. I mention this because MMT'ers think in a sterile, economic environment. By ignoring the geopolitical consequences of such a monetary system, they ignore the ultimate end game. That's why I like to focus this blog on the " interwoven fields of geopolitics, economics, and monetary theory" as I write in the intro to my blog. Because that's how the real world works.

So what do I mean by the geopolitical constraints of a monetary system? Well, let's forget how money is created for a moment. Let's look at why we have money. Money is used to allocate the world's resources - who gets what and why. Money is used to build armies and fight wars. Money is used to control others. So the more money you can create, the more you can consume and control, compared to others.

Guess what? China and Russia know about the US's dirty little secret. They understand that having the world's reserve currency gives the US an economic advantage over them. They also understand that QE2 is the next phase of the evolution of Fiat Money that gives the US the ability to continue business as usual despite skyrocketing budget deficits and a national debt that will never be manageable.

And what is China and Russia doing about it? They are increasingly ignoring the US dollar. They are entering into non-dollar denominated bilateral agreements. They are openly challenging US economic hegemony. They are calling for the end of the US economic free ride. I write about this in more detail in my post: The Next Largest Nuclear Powers, China and Russia, Openly Challenge US Economic Supremacy.

Thus, the US debt-based paper dollar will likely meet its end through geopolitics, not a failed government auction, as most believe. MMT'ers completely ignore this variable in their analysis.  My belief is that things will get extremely complicated within the next two years.  Current geopolitical bullying evidenced thru the North/South Korean confrontation and the closer ties between Russia and Germany, and Russia and China, tell me that the process to a new monetary system is accelerating.

The EU is an Utter Clusterfuck - The Two Roads to Hell

(sorry due to time constraints, to be continued tomorrow!)

Saturday, November 27, 2010

The Next Largest Nuclear Powers, China and Russia, Openly Challenge US Economic Supremacy



Two very recent developments have transpired that I think warrant mention. I will be incorporating these developments in my Part III of my Fiat Evolution series. But as this blog has always emphasized: it is geopolitics that in the end, will determine the next monetary system. Will it be through geopolitical cooperation or conflict?  That's the question.

We have all seen the many photo ops at the recent G20 Summits, the empty promises, the fake smiles, the multitude of pronouncements of "lofty goals" etc.. But now that the most recent G20 Summit is but a couple weeks behind us, China and Russia are openly challenging US Economic, and by association, US Military, might. Keep in mind that the US has the world's reserve currency. It prints money with a lot less inflationary impact that other countries would normally face. Why? Because the US Dollar by far, is the most used international currency in global trade. This actually REQUIRES that the US print excess money to keep the global economy growing. But it also creates the Triffin Dilemma: the US needs to also consistently run trade deficits in order to "export" its dollars. That is not a sustainable model, as trade deficits cannot mathematically run forever.

But back to the open challenges to US Supremacy, first, from Bloomberg:

PBOC Researcher Calls on U.S. to Sell Gold Reserves, People's Daily Says
The U.S. should cut its government spending and sell some gold reserves to balance its budget and fund its recovery, the People’s Daily overseas edition reported, citing Xia Bin, an adviser to the People’s Bank of China.
The U.S. has to resolve its “twin deficits” in the government budget and the current account, Xia was quoted as saying. Three ways that may help the U.S. achieve that target include reducing military expenses, selling part of its gold reserves and relaxing some export limits on technology, he said.
“The U.S. has more than 8,000 tons of gold reserves; why can’t it sell some of it since the country wants to raise funds for economic recovery but doesn’t want to add more burden to the fiscal deficit,” Xia told the newspaper. He didn’t mention whether China would be willing to purchase any gold from the U.S.
So let's translate this.  China is basically telling the US to 1) sell its gold reserves, 2) reduce its military, and 3) give China more access to its technologies.  Now I know that this comes from an advisor to the People's Bank of China, but to me, it is not some last minute random trial balloon.  This is real.  China is openly questioning the US's role in the world, and by association, questioning the US Dollar's role.  China is speaking to the US the way Germany lectured Greece earlier this year.

This is cause for concern.  We are speaking about a rising power challenging the current (let's face it) Imperial Power.  Rome was just told to step down!  This amidst the recent North/South Korean confrontation, the yet to be fully explained "missile launch" off the coast of California, and the Russian/Chinese deal to omit the US Dollar from their trading.

To me, these events are all tied together (with the possible exception of the recent "missile launch" that has yet to be officially explained).  There will be no global cooperation in a transition to a new monetary order.  Sarkozy will lead the G20 next year as France assumes the G20 presidency.  But it will be pointless, he is no de Gaulle, and the world is becoming increasingly fractured.

And now, this from Russia:

Vladimir Putin said it is "quite possible" that Russia will one day join the eurozone and create a currency that would eclipse the US dollar as the global reserve standard.
Speaking at a conference in Germany the Russian prime minister, who is in the country for talks with Chancellor Angela Merkel, said he was convinced the euro would stabilise and strengthen despite the current sovereign debt crisis.
He said: "Yes, there are problems. But the economic policy of the European Central Bank and of the governments of leading European economies ... convinces me that the stability of the euro will be ensured."
He added: "We know there are problems in Portugal, Greece, Ireland and the euro is wobbling a bit. On the whole it is a solid, good currency and it should take its place, its role as a reserve currency."
Speaking at the same event, Josef Ackermann, chief executive of Deutsche Bank, echoed Mr Putin and said he could imagine Russia joining a common European currency.
Now this is a little more complicated.  What is the goal of this pronouncement?  Is Russia trying to jab at the US Dollar, and the US's role in having the world's reserve currency?  Is Russia giving an open vote of confidence to the flailing Euro because it has so much at stake in the Euro?  Does Russia want to someday merge economically with Germany - one is rich in natural resources, the other in manufacturing know-how?  I say it's all of the above.
And so, we are facing a world that seems to me to be lacking order.  These are the times that history shows are watershed events.  There are only two outcomes here in classical geopolitical theory:  1) Either the existing  hegemon reasserts its power or 2) a new hegemon assumes leadership.  Neither scenarios occur peacefully.  I am not saying that a major war is at hand.  But I believe that we will be witnessing proxy wars in the near future.  Look to Iran, North Korea, and Venezuela.  They seem to be the next battle grounds.
And what does this mean to the current monetary order?  As conflict escalates, and the US Dollar is used less in foreign trade or is continually openly challenged or avoided, the US will be faced with a decision: to deploy its guns or gold, or both.  Nations store gold and weapons for a reason.  Historically, the nation with the most guns and gold wins.  But Russia is the one that can tip the balance here, as it has increased its ties to both China and the EU.  In my view, a gold backed dollar is not out of the question.  The US is becoming increasingly alone, and its paper money is being questioned.  Once one country goes the way of gold, all else are forced to follow, as all fiat money immediately collapses with the reintroduction of gold.
Which will the US deploy?  




Friday, November 26, 2010

Part II: The EU Emerging Fiat Model

In Part I, I addressed what this series of posts will focus on, and how the US Fiat model is currently evolving.  It has completely diverged from the private sector debt growth model that was created after the end of Bretton Woods in 1971.  I think it's important to keep in mind the economic ramifications of such a debt based model.  It fundamentally changes the banking system as laws are re-oriented (financial de-regulation, to be exact) to strengthen the financial sector.  The economy too, is thus fundamentally changed.  It migrates from a production based to a debt based consumption and speculative (ponzi model) economy.  This also affects the power structure of a nation - financial interests assume a greater role in government policy.

Some EU history

After Bretton Woods, Europe too fundamentally changed.  No longer would their dollar surpluses be exchanged for dollars, but Treasury debt.  The cold war was still raging and there was an implicit agreement amongst the Western nations.  The USSR was a threat, and Europe and other nations would buy US debt instead of exchanging their dollars for gold, in return for US "protection."  That would be NATO and the US military in general, of course.  The rest of the industrial world, as well as the Middle East, would be basically financing America's Military.

This arrangement also had the effect of allowing Europe to increase its social safety net - its expansive government benefits.  Europe didn't need to spend as much on military matters, as the US, in that bipolar  USA/USSR world, was their protector against the USSR and the Iron Curtain.  Western Europe didn't exactly get a free ride, don't forget, their accumulated surpluses were exchanged for US government debt.  Foreign Reserves/Balance sheets no longer focused on the accumulation of gold or gold backed money - which is an asset with no counterparty reliance, but now surplus gained thru trade was exchanged for US (and other countries') debts - someone else's liability.

And thus, as surpluses grew through global trade amongst the Western Industrialized world, so too did the other side of the balance sheet - liabilities.  Or as non-economist types would call them: debts.  The game became debt based.  Debt equaled consumption and wealth.  Don't get me wrong, it always had to a degree, but what changed was how nations keep "score" in global markets.  Debt was good and sought after.  Global wage arbitrage and central bank manipulation also kept debt cheap as inflation was kept in check by increased trade with what we used to call the "third world," and interest rate manipulation by central banks.

The EU, after decades of limited political integration successes, decided on a grand experiment: monetary integration, the European Monetary Union (EMU) thru the Treaty of Maastricht.  And thus, in the 1990s, the exchange rate mechanism (ERM) was born.  Before the creation of the Euro, EU member currencies would have to trade within a narrow band.  Or as someone described the process: the various EU currencies would be dancing to the drum of the Deutsche Mark, the strongest currency in the group.  Speculators did their best to knock off these currencies from their narrow preset price ceilings/floors.  George Soros' war on the British Pound was one famous example.  He successfully knocked the pound out of the ERM.

Some have even speculated that Soros was doing the bidding of others - others more powerful than him that did not want English EMU with the continent.  but I digress...

The EU Grand Experiment

But enough of the history, the best way I can describe EMU is that it requires the Euro to act as a gold standard of sorts.  It's not officially backed by gold, but gold reserves are marked to market, and stringent guidelines are set that dictate allowable member states' debt levels.  It was not enough that the member states' currencies had to maintain price stability before EMU integration, but that their respective governments needed to have manageable debt levels as well.  And so, paper money was to be as scarce yet as valued, as gold.  From Wiki:
Annual government deficit:
The ratio of the annual government deficit to gross domestic product (GDP) must not exceed 3% at the end of the preceding fiscal year. If not, it is at least required to reach a level close to 3%. Only exceptional and temporary excesses would be granted for exceptional cases.
Government debt 
The ratio of gross government debt to GDP must not exceed 60% at the end of the preceding fiscal year. Even if the target cannot be achieved due to the specific conditions, the ratio must have sufficiently diminished and must be approaching the reference value at a satisfactory pace.
But there was a problem:

Quite a few member states, in order to enter EMU and adopt the Euro, lied about their debts. Yes, some lied more than others, but the fact is, the foundation of EMU, from the get-go, was a farce.  But what's even more important now is that they are just about all in violation of Maastricht.  Remember the 60% government debt to gdp, and 3% of gdp budget deficits?  Here are statistics for last year:


The top right hand box is where a nation does not want to be - these are the countries that are in violation of Maastricht.  Quite a large club, no?

And so the EU faces a crisis.  But it is not just a crisis of complying with a Treaty from 1991, it is an actual solvency crisis.  The bond vigilantes are out in full force.  And yes, at times, it seems like they go away, but overall, they are acting the way markets should act.  That is, when economic policymakers can not succeed in keeping their countries solvent and economically viable, the market will punish them with high interest rates.  The party is over.

Making Paper Act Like Gold

So how is fiat money evolving in Europe?  Well, as I explained in Part I, the US is saying to hell with deficits, and to hell with debt monetization - if fiat money is a fiction  that can be created with a keyboard stroke, we'll just keep creating more and more of it.

Europe, on the other hand, is trying to recreate and maintain the initial goals of EMU and the Euro. They want it to act like gold.  They want their currency to be strong as opposed to the US Dollar.  But you know what?  Ironically, that policy will just ensure that the fiat Euro dies before the fiat US Dollar dies.

You know why?  Because austerity is worse than the gold standard.  It's a question of timing.  Think of it as overeating for years.  Not only do you gain weight, but your stomach expands, requiring more food to fill it.  You get hungrier more often.  Europe has been accustomed to a certain level of debt and a certain level of debt growth.  To throw Europe on a starvation diet not only accomplishes the intended goal of losing weight, but it also has unintended consequences.  You will have one pissed off and at times, weak patient.

Austerity has real consequences.  It has societal, political, and economic consequences - all destabilizing.  One only needs to read the paper to see that Europe has become a continent of weak governments, enraged citizens, and economies suffering debt destruction/depression.

And so Europe's Fiat Model is taking the gold path without a gold revaluation - which in my opinion is extremely deflationary.  That's why the US Dollar isn't tanking against the Euro post QE2.  Either you have a gold backed currency or you don't.  Period.  You can't make paper act like gold after the fact - that is, after a decade of extreme fiscal irresponsibility!  If you want gold, then revalue your currency - accordingly.  Otherwise this is what you will accomplish:



But before I say that Europe will definitely commit the suicide of its currency, I want to mention a recent development.  I always keep an open mind, because facts are always changing.  My overall opinion is that fiat will end and gold will resurface as official money in some way - by default, not by plan.  But it's the path(s) taken that may change.

It is becoming increasingly obvious that the fund the EU set up for addressing potential sovereign defaults, the EFSF rescue facility, is inadequate.  Spain is the "elephant in the room" as Nouriel Roubini recently put it.  And so, from The Irish Times:

ECB shift from lender of last resort casts doubt on independence

"THERE HAS been a most profound change in the European Central Bank’s (ECB) approach to monetary policy over the last two weeks, produced in great part by the financial crisis in Ireland.

This change has involved the ECB running for cover from its role of lender of last resort to the euro zone banking system, and in turn seeking some assistance from the European Commission with respect to co-insuring its lending to the banking system."

Full Article HERE.

And also from ZeroHedge:

Die Welt: EU Commission Is Considering Doubling Size Of European Financial Stab [sic] Fund

And so, even though this series of posts is about the two paths of Fiat Evolution, the EU may soon find itself so overwhelmed, that it may take on the US path.  I'm not saying it is a certainty, but it is possible.  As I said earlier in this article, the current EU path of handling fiat money is destined to fail before the US path does.

In the final part, which I hope to post next week, I will compare the two systems in greater detail and make some forecasts.

Happy Weekend.

Thursday, November 25, 2010

Happy Thanksgiving

To my American readers, I want to wish you all a Happy Thanksgiving.  I will be posting again this Friday.




Tuesday, November 23, 2010

We Are Now Faced With the Two Paths of Fiat Evolution - Part 1



Intro

We are entering an historic phase of the evolution of fiat money.  This will be a three part series describing that evolution, and it's likely outcome.

I'm not going to reiterate what is transpiring in Ireland, or Greece, or Portugal.  I think readers of this blog are pretty well read on current events and I'm not going to repeat what countless bloggers are covering in this series of posts.

Let's step back and see the big picture.  We need to see what other nations are doing, we need to see what current super-sovereign institutions (IMF and G20) are doing, we need to see how the world's largest banks and central banks are doing.  Only then can we see the big picture, that is, how all these systems are interacting with each other.  What we are witnessing is the final stage of post Bretton Woods fiat evolution.  There are two choices in this final stage, and the EU and US are examples of it.

I am only focusing on the EU and the US for a reason.  The rest of the world (minus Japan) has only recently entered the fiat modeled global economy in a meaningful way.  The BRICS and other emerging markets have either already gone thru default while the rest of the financial world continued to function, so their defaults did not create severe contagion, or like China and India - they didn't really exist as meaningful economies to the rest of the world.  These are new economies with low wages, and are basically infants when it comes to debt accumulation.  The EU and US, on the other hand, best illustrate mature economies that have functioned under the post Bretton Woods fiat model the longest and have thus accumulated debt the most under the current global monetary regime.

Path One: The US emerging fiat model

It is obvious now that the US does not collect nearly enough in tax revenues to finance its spending:



This will continue for the foreseeable future, unless you think the economy will miraculously recover.  But how can the US run such large deficits for so long?  Well, the Federal Reserve will continue to be the primary buyer of Treasuries - that's what QE2 is all about.  The Federal Reserve is now the largest holder of US Debt.  From Zero Hedge:


I know that many people immediately go into hysterics about China no longer financing our debt, and that the US will subsequently go bankrupt.  But that's not true.  China never financed US debt.  The US can never go bankrupt (officially/legally) so long as it prints its own free floating currency. Yes, China and others purchase US Government debt, but that does not finance US spending.  Modern Monetary Theory best describes this  process.  Under a fiat model, money is created by Government Spending and the Federal Reserve.  Money is also created thru the private sector with the creation of loans.  Lending creates money that did not exist before.  But private sector loan creation, in this balance sheet recession, is not growing fast enough to keep the economy and ongoing debt servicing from collapsing.  

Enter the Fed.

The Fed has taken over this role and is creating money from nothing.  And you know what else?  The interest that is "owed" to the Fed is returned to the US Treasury minus costs.  It's basically a free loan to the US Government.  Modern Monetary Theorists love to point this out, that we are not facing a solvency crisis on the federal level.  They are right, but they ignore something else, which I will cover later in Part 3.

So you're probably thinking:  Why the hell do I pay taxes if we can create free money?  Why the hell do we sell government debt to nations that collect interest off that debt?  

Those are good questions.

Tax collection is used to control the money supply and inflation.  It's not a coincidence that the Federal Reserve and the Internal Revenue Service (Federal Income Tax) were created within a year of each other.  One (the IRS) sops up the money the other (the Fed)  creates.  That's how it works.  The EU doesn't have this feature.  There is no EU income tax or EU Treasury.  But I'll cover that in Part 2.

The US, by selling Treasuries abroad, also accomplishes the same thing:  it controls the global dollar supply.  Why do others buy it?  Nations trade with each other, and as local corporations exchange their dollars for their local currency, the dollars ultimately end up in the local central bank.  That central bank now owns these dollars and wants a return on them, so it buys US debt.  That is changing somewhat, however.  China is using dollars now to buy up resources, which I will cover later in Part 3.  

Earlier, I called this Path One for a reason.  The private  markets are not working as they used to.  I don't see an end to this anytime soon.  We have entered a new period where the central bank - the Federal Reserve, will be creating money from nothing so the government can spend it as it wishes.  Fiat money has changed, it has evolved.  All insolvencies, state budget crises, pension shortfalls, federal budget gaps, etc...  will now be addressed indirectly by the Federal Reserve.  The US economy is now officially on life support.  In this analogy, the EU is not running all the machines to keep the patient alive, only a few of them.  It has structural differences that does not allow it to do so.

But that's will be addressed in my conclusion.  For now, I just want to explain that we have entered a new era.  The Modern Monetary Theorists are claiming this as a victory.  They say that interest free money from the government is our cure.  They are terribly misguided and ignore other variables.

In Part 2 I will address the EU model, and compare it to the US in depth.  In my conclusion, I will describe how I believe fiat money, post Bretton Woods, will end under the two scenarios - the US path, and the (current) EU path.  

Monday, November 22, 2010

Questioning the Role of the ECB and the IMF

I have covered this topic in the past in my post: PIMCO's El Erian does not believe EU bailout of periphery is a success, and what Michael Hudson has been saying all along. Now we find another country that needs to be bailed out - or, let's be honest about it: another situation that the global banking system needs to be bailed out.

How many more such situations need to transpire before the global banking system engulfs the world in an economic or financial collapse? But I'm torn here. I understand and appreciate the issue of contagion, and why doing nothing or restructuring debts can be just as destructive. Ultimately, we find ourselves at the end of a monetary system, and the transition to the next one appears to be so chaotic, so wealth destructive, that the best we can do is to put it off. Morality on bankers aside, this is my greatest fear: the day of reckoning.

That said, I found this article in the Irish Times, which I believe is fitting for the situation. I believe we will increasingly see more questioning of central banking in the future - around the world. The people are slowly awakening to the fact that they are indeed debt slaves - regardless of how much debt they personally owe. You know why? The debt holders are constantly being bailed out, and the losses are being indiscriminately spread thru-out society. You will feel this pain when you pay taxes, when you buy expensive groceries due to inflation, and when you see your government services such as pensions, police and firefighters, education, being cut.

But first I want to re-quote US President Andrew Jackson here - I think his diatribe against the bankers in the early 1800s is spot on and applicable to what is going on today:
"The bold effort the present (central) bank had made to control the government ... are but premonitions of the fate that await the American people should they be deluded into a perpetuation of this institution or the establishment of another like it."
"Gentlemen, I have had men watching you for a long time and I am convinced that you have used the funds of the bank to speculate in the breadstuffs of the country. When you won, you divided the profits amongst you, and when you lost, you charged it to the bank. You tell me that if I take the deposits from the bank and annul its charter, I shall ruin ten thousand families. That may be true, gentlemen, but that is your sin! Should I let you go on, you will ruin fifty thousand families, and that would be my sin! You are a den of vipers and thieves. I intend to rout you out, and by the grace of the Eternal God, will rout you out."
Some things never change.

And now for the essay from the Irish Times:

The ECB may not be the friend it seems

JOHN McMANUS
Mon, Nov 22, 2010
BUSINESS OPINION: Suggestions that bailout may in fact be to protect European interests may not be too wide of mark.
WHEN THE history of Ireland’s banking and fiscal collapse comes to be written, the role of the European Central Bank may well turn out to be the most controversial.
The question will be whether they really were some sort of honest broker who in the end forced us to confront our predicament or were they in fact the villain of the piece?
Both narratives have some resonance but the former is very much in the ascendant. The weary relief that characterises most people’s response to the arrival of the ECB, the European Commission and the International Monetary to negotiate a loan for Ireland is consistent with the view that time has finally been called by impartial outsiders on our botched effort to sort out the mess we have made of the Irish banks and our finances.
The main elements of the story are that the banks’ problems are so deep that they exceed the fiscal capacity of the State. We cannot borrow enough money from the bond markets to sort them out and also fund the exchequer deficit, so we have no choice but to turn to the European Financial Stability Facility and the IMF.
While the later point is unfortunately true, the role of the ECB in how we came to this sorry pass is worthy of some scrutiny. A more critical analysis might conclude that its policies over the last two years added greatly to our problems and ultimately its own. And it is the ECB’s problems as much as ours that brought things to a head last week.
One of the main differences between how the two-year-old crisis has played out in Europe and America has been the refusal of the ECB to allow any significant bank fail.
It is worth noting in this regard that Jean Claude Trichet rang Brian Lenihan over that fateful weekend in September 2008 to impress on him the importance of not letting any Irish bank fail. The obvious inference was that the ECB would play its part.
Trichet was, of course, pushing at an open door given the other factors at play in Ireland: profound regulatory failure combined with the inability of the administration or the banks to comprehend the scope of the problem.
But the fact remains that the Government could not have gone down the road it did without the support of the ECB. Frankfurt has provided the liquidity needed to make the National Asset Management Agency function and was committed to a similar facility for the winding up of Anglo.
Above all it has provided liquidity to the Irish system to such an extent that Irish banks account for something like one in every four euro it makes available through its emergency measures. We kept our end of the bargain. No Irish bank has failed although two are to be closed, but crucially their secured creditors are to be paid.
The reason the ECB did this was because it also misjudged the Irish banking crisis. Its calculation that stability in the euro system was best served by letting the Irish banks limp on with massive liquidity support was incorrect.
Instead a situation arose whereby the problems in the Irish banks were not dealt with as they should have been – through letting them fail or some sort of debt for equity swap – and the ECB found its own balance sheet contaminated by the amount of support it had to extend to Ireland as a consequence. Meanwhile, the Irish exchequer is left with a bill it cannot afford.
Now, in order to extract itself from this mess, the ECB has in effect withdrawn its support and said that the Irish taxpayer must now borrow even more money and try – for a third time – to fix the knackered banks so the ECB can get its money back.
The alternative to the Irish taxpayer stumping up – letting the badly broken AIB and Anglo Irish banks fail or default on their bonds – remains resolutely off the agenda at the insistence of the ECB. The reason being the same as it was in September 2008: the Irish banks are systemic in the European context . The big losers if either bank failed are the German, French and other European banks and institution that funded their insane lending sprees. And while these institutions and the euro system are probably strong enough now – as against two years ago – to absorb the loss, the fear remains that an Irish bank failure would trigger some sort of secondary European banking crisis.
Many are of the view that this crisis is in fact inevitable due to the level of debt in the system across Europe and the ECB – and the other European institutions should really focus their energies on getting ready to deal with it in the immediate future.
But, for the time being, the consensus seems to be that it makes more sense to try and put the fire out in Ireland by pushing the burden on to the Irish tax payer and its exhausted administration.
The Government may appear more mendacious and delusional by the day, but when they say this is a European problem they actually do have a point and history could well prove them right.

Saturday, November 20, 2010

Weekend Tunes: Billy Joel

A bottle of red, a bottle of white...




They say there's a heaven for those who will wait
Some say it's better but I say it ain't
I'd rather laugh with the sinners than cry with the saints
the sinners are much more fun...

Friday, November 19, 2010

We're Running Out of Balance Sheets to Stuff With Growing Worthless Debts

Nouriel Roubini was on CNBC today urging that European debt restructuring is the only remaining option.  He speaks plainly here:

"So now you have a bunch of super-sovereigns, the IMF, the EU, the Eurozone bailing out these sovereigns, and there's this much you can kick the can down the road.  There's not going to be anybody coming from Mars or the Moon to bail out the IMF or the Eurozone.  So at some point you will need the restructurings you need the creditors of the banks to take a hit.  Otherwise you put all this debt on the balance sheet of the government... you break the back of the government, then the government is insolvent."

"The next one in line [to ask for aid] is going to be Portugal... they're going to need an IMF and EU program"

"The big elephant in the room however is the case of Spain..."

"But if Spain falls off the cliff there is not enough official money in this envelope of European Resources to bail out Spain.  So the whole strategy is to kick the can down the road... and hope that things are better three years from now."
Roubini also covers QE, China, and the debt problems of the US and its states.

Here is the other problem:  There are too many other variables that even a brilliant economist like Nouriel Roubini can not address.  What about EU internal geopolitics?  What about the ongoing currency war?  What about trade imbalances that nations such as Germany and China do not want to address?  How do all these ongoing crises interact with each other?

The debt clock is ticking...  We are running out of time, and there is no clear leadership to handle this debt disaster.  When tough choices have to be made, and there are multiple self interested parties (governments) involved, don't expect too much.  No one wants to take the hit, to make a sacrifice.  And then, it's too late.  The decision is made for you by chaotic default, not by calm planning.  Hence the "kick the can down the road" policy the EU has been implemeting to date.

I often say that the current global debt-based fiat model is ending.  The question is, does it end with a bang or a wimper?  And what replaces it when the one thing that credit money relies on - TRUST - is gone?  My conclusion is still gold by default, in a chaotic environment.

Here's the full interview:

Pat Buchanan Asks: Who Fed The Tiger?


Readers of this blog probably know by now that I don't care much for politics or political parties.  I consider political parties two sides of the same coin.  Economics and the monetary system we employ is what my focus is on, and to me, it helps me understand the world and how it works - who pulls the strings, who controls it, etc...

But political analyst and former speechwriter to US President Richard Nixon, Patrick Buchanan writes an intersting essay on China's ascent, and what it means to the US.  I think he inordinately blames the Republican Party (both parties are at fault), but his view on globalization is spot on.  What he ignores, however, is more important role of the banking system in requiring an ever expanding marketplace and cheaper labor to keep inflation low.   A fiat debt-based monetary system is easily captured by private interests that are given the right to create money out of thin air.  And thus, to keep inflation caused by their efforts of money printing to buy the world, they push for opening markets to access cheaper labor, to keep inflation, and the masses, at bay.

I have written before on this.  We have indeed experienced severe inflation these past 40 years of fiat money.  It showed up in the stock markets and real estate.  We called it wealth creation.  Now we are realizing it is a Ponzi Scheme.

But enough of my rant, here are portions of Pat Buchanan's essay:
Missiles fired from the Chinese mainland could destroy five of the six major U.S. air bases in the Far East. So states a new report of the U.S.-China Economic and Security Review Commission, adding:

"Saturation missile strikes could destroy U.S. air defenses, runways, parked aircraft, and fuel and maintenance facilities. Complicating this scenario is the future deployment of China's anti-ship ballistic missile, which could hold U.S. aircraft carriers at bay outside their normal operating range."

Opposite Taiwan, China's missile force has reached 1,600.

Beijing is also building rockets, submarines and surface fleets to extend her dominance out to the third chain of islands, enabling the People's Liberation Army to strike U.S. carriers and bases as far away as Guam.
Since the demise of the blue-water navy of Russian Adm. Sergei Gorshkov, the Pacific has been an American lake. No more...

Napoleon said of the Middle Kingdom, “Let (China) sleep, for when she wakes, she will shake the world.” The shaking has begun.

So the question arises: Who put us in this predicament? Who awakened, fed and nurtured this tiger to where she is growling at all Asia and baring her teeth at the United States? Answer: the free trade uber alles Republicans...

Under Bush II, the GOP made MFN permanent and sponsored Beijing’s entry into the World Trade Organization, despite China’s downing of a U.S. surveillance plane and incarceration of its American crew on Hainan Island. Colin Powell was forced to apologize.

For decades, corporate America championed investing in China and trade with China, though the massive transfer of U.S. factories, technologies and jobs was clearly empowering China and weakening America.
Now, with U.S. political, military, industrial and strategic decline vis a vis China manifest to the world, we hear the wails of American businessmen that they are not being treated fairly by the Chinese. And the politicians responsible for building up China are now talking tough about confronting and containing China.

Free trade was the policy of a Great Britain whose clocks those generations of Americans cleaned, even as the Chinese are cleaning ours.

As for a U.S. policy of containment, we have no vital interest in China’s border dispute with India, or Beijing’s claims to islands in the South and East China seas, or in China’s claims against Russia dating to the ninth century.

Time for our Asians friends to take responsibility for defending their own claims. As LBJ said in 1964, “We are not about to send Americans boys 9 or 10 thousand miles away from home to do what Asian boys ought to be doing for themselves.” This time, let’s mean it.

The day of the globalist has come and gone.
Full Article HERE.

Thursday, November 18, 2010

Ireland To Join The Insolvency Club - It's Not A Greek Thing Anymore

Whereas Greece has a very large government sector and corresponding debt, Ireland's debt is more concentrated in its financial, household, and corporate sector.  The chart below, from Bloomberg, is from an article last year comparing Greek and German Household debt:


The reason I bring this up, is that in my view, debt is debt no matter where it is concentrated.  In a balance sheet recession, the debt disappears through pay downs or defaults.  And as I have said before, our money comes from debt.  Therefore with double entry book keeping, a liability on one side of the ledger that vanishes, takes away the corresponding asset on the other side of the ledger.

For example: you "own" a house with a mortgage.  The mortgage loan is a liability to you, but for the bank, it is an asset.  If you default on the loan, the bank's asset loses its value, actually, if you are upside down on the loan, the asset's value "vanishes."  The same concept applies to corporate, financial, and sovereign debt.  Sovereign debt is owed by a nation, but shows up as an asset in another nation or investor's balance sheet.  As debt implodes, so too does wealth, and the ability for an economy to grow.

But back to Ireland, from Bloomberg:

Honohan Says Ireland Likely to Tap `Substantial' EU-IMF Loan

Irish central bank Governor Patrick Honohan said he expects the country to ask for a bailout from the European Union and the International Monetary Fund worth “tens of billions” of euros to rescue its battered banks.

Ireland will probably pay an interest rate close to 5 percent, he said in an interview with Irish state broadcaster RTE today. A final decision hasn’t been reached, he said. A 5 percent rate would be similar to that offered to Greece when it requested a bailout in April.

“It is my expectation that will happen, absolutely,” said Honohan, who was speaking from Frankfurt, where he is attending a regular European Central Bank Governing Council meeting. “It will be a large loan because the purpose of the amount to be advanced, or to be made available, is to show Ireland has sufficient firepower to deal with any concerns of the market. We’re talking about a substantial loan.”
Full article HERE.

So add more one more domino that is precariously toppling - only to be (temporarily) suspended by the artificial power of the EU and IMF - the last bastions of debt money creation.  This solves nothing, it only delays an inevitable reckoning and creates more useless credit in a system that is already choking on credit.

Ron Paul: Enough Is Enough!

I know this post is outside the scope of this blog, but I think Ron Paul brings up some good points here.  The overall issue is the burdensome growth of a bureaucratic government making ridiculous policies. He also touches on conflict of interest between government and the private sector.  His description on how pilots are treated and the absurdity of it all, is brilliant.




And since we're thinking about bureaucracy, here's another video on bureaucracy run amuck:

Wednesday, November 17, 2010

EC President van Rompuy: "A Crisis of Survival"

It's a bleak situation for the EU.  It says a lot when the European Council President speaks so openly about the current situation.  (In my opinion, his "crisis of survival" quote can easily apply to the entire global financial system)  From Investment Week:

European Council president Herman van Rompuy warns the euro and wider EU face a "survival crisis" as the continent's sovereign debt crisis escalates...

van Rompuy, who chairs EU summits, told a Brussels think-tank the future of the 27-nation union was at stake in the latest spasm of a debt crisis .

"We are in a survival crisis," he told the European Policy Centre. "We all have to work together in order to survive with the euro zone because if we don't survive with the eurozone, we won't survive with the EU."

Full Article HERE.
And from today's Wall Street Journal:

Banks' Exposure Stirs EU Contagion Worries


LONDON—One reason why Ireland's problems could ripple throughout Europe is that banks across the continent are holding huge quantities of loans, bonds and other debt issued by Irish companies, individuals and national and local governments.

All told, European banks were sitting on more than $650 billion of exposure to Ireland as of March 31, according to the Bank for International Settlements.

The U.K. banks are the international lenders with the most at stake. As of March 31, the latest data available, the banks had exposure of about $222 billion to a variety of Irish institutions, according to BIS. That's about one-fourth of the world's exposure to Ireland. About $42 billion of the U.K. banks' exposure is in the form of lending to Ireland's battered banking sector.

German banks aren't far behind the U.K. They had a total of almost $206 billion in exposure to Ireland, according to the BIS, including $46 billion of exposure to the country's banks.

From the article:

So is it any surprise why the UK is eager to help?  See:  UK Osborne: UK Ready To Help Ireland.  From the article:
Osborne was speaking to reporters as he arrived for a meeting of finance ministers from the European Union, and minutes after European Commissioner for Economic Affairs Olli Rehn confirmed that the U.K.'s help is being sought as part of a financial support package for Ireland.

"It's in Britain's national interest that the Irish economy is successful and that we have a stable banking system," he said. "So Britain stands ready to support Ireland in the steps it needs to take to bring about that stability."
Meanwhile across the pond, the US is still struggling with the foreclosure crisis, and it looks like many municipalities and states are facing solvency issues of their own.  From a couple months ago, here's analyst Meredith Whitney predicting US States needing a Federal bailout in the next 12 months:




Here's one thing that analysts overlook - All these things are happening real-time, all at once. Remember when corporate america discovered "synergy?" For those that don't recall, synergy was a common reason large multinationals purchased subsidiaries. Their reasoning was that with the marriage of diverse yet related business, they can cross sell and attain higher revenues. Thus, the sum total was greater than the aggregate parts. Two plus two would equal five. Well, this applies to crises as well, in my opinion. Everyone is looking at all these crises as if they exist in a vacuum, indendent of eachother.

What I am saying is that in a complex world of interdependency, co-existent crises feed off eachother in ways few can anticipate - and the net result may be two plus two equals ten, or maybe one hundred. It's a synergy of destruction.

Tuesday, November 16, 2010

Europe, If Not The World, Cracking


I have often joked to friends that every few decades, Germany tries to create a Reich involving lands outside of her borders, and just as the night follows day, the effort ends in spectacular failure.  I don't mean to make light of the horrors of World War II, or to compare Charlemagne with the German-influenced ECB, but it seems that the periphery countries are revolting under German driven austerity and control.  Let's be honest here.  It's control.

Don't get me wrong: I have much respect for Germany and the German people.  The issues arising today are not from some Teutonic ambition of world domination.  The issues arise out of economically binding diametrically opposed economies and cultures.  I believe in a united Europe.  Europe should be proud of her accomplishments after millenia of bloodshed and warfare that makes the modern Middle East look tame by comparison.

But tying Europe together with a common currency seems now, in hindsight, to be an overly ambitious goal that ignores issues of culture, sovereignty, and fair trade.  The periphery nations can be painted as irresponsible spenders needing a firm lecture, but that ignores the underlying issues of a common currency based on debt, that by its nature creates imbalances.

Germany was a manufacturing power before the Euro.  And much of European trade is done amongst the Euro nations.  Money that is lent to the periphery becomes a debt, but once that money is spent on German goods, it becomes Germany's asset.  It's basic double entry bookeeping.  For every nation in Europe to have a trade surplus, Europe would need to all at once strongly export outside of Europe.  But much of trade is within Europe, and thus it is mathematically impossible for every nation in Europe to have a trade surplus simultaneously.  And as a trade deficit grows, and money leaves the economy, governments pick up the slack by overspending, that is, creating new money/debt.  It is a vicious cycle.

A debt based fiat currency is no help either.  Under a gold standard, either you had an asset - gold, or you didn't.  If you ran a persistent trade deficit, there were "brakes" in the system that made you address it.  But under a debt based system where a nation's debt is another's asset - the game can continue for much longer, creating Tower of Babel sized imbalances destined to fail.. to topple.  As I said, Germany's assets are the debts of other Euro nations.  Germany isn't losing its export supremacy anytime soon, just as the periphery isn't going to become an economic German-style powerhouse any time soon.

And so, Europe is cracking.  It is an awful sight to behold.  After centuries of warfare, it is unsettling to watch European nations argue as they are today.  And the worst is that everyone is somewhat right, and everyone is somewhat wrong.  Thus, there are no rouge countries at fault.  If there was a rouge country or two - that could be easily addressed.  But what is at fault is the system.  A system has no face, no body, no borders.  It is intangible yet controls our daily routines.

Europe needs to figure this out, and soon, because to me, it seems like the early 1930s and 1910s could begin all over again.  I don't foresee a European war, but I fear that if these things are not addressed in a fair way, we may be laying the foundation for the events that could lead to strife.  In other words, we are two degrees away, not one.  We have time, what Europe needs now is strong but fair leadership.

And so, here are some news stories and links that well describe the current ongoing European devolution:
From the Wall Street Journal:

Addressing reporters in Paris, George Papandreou said the Germans' view—long-held, but recently reiterated—that private bondholders could suffer losses as part of a future bailout was intensifying government-debt woes.

The German position "created a spiral of higher interest rates for countries that seemed to be in a difficult position, such as Ireland or Portugal," Mr. Papandreou said. He added that the spiral could "break backs" and "force economies toward bankruptcy."

From The Telegraph:

Spain's central bank governor, Miguel Angel Ordonez, lashed out at Dublin on Monday, calling on the Irish government to halt the panic and take the "proper decision" of activating the EU-IMF bail-out mechanism.
"The situation in the markets has been very negative due to the lack of a final decision by Ireland. It is up to Ireland to take that decision, and I hope it does," he said.

From The Gazette:

The euro is facing an unprecedented crisis after another country indicated on Monday night that it was at a "high risk" of requiring an international bail-out.


Portugal became the latest European nation to admit it was on the brink of seeking help from Brussels after Ireland confirmed it had begun preliminary talks over its debt problems.

From The Guardian:

Greece's goal of reducing its gargantuan debt received a fresh blow today when the EU statistics agency announced that the country's 2009 budget deficit was much worse than first thought.

Six months after Athens received €110bn (£93bn) in emergency loans from EU nations and the International Monetary Fund to prop up its near-bankrupt economy, Eurostat revealed that Greece's budget deficit reached 15.4% of GDP last year, substantially higher than its previous estimate of 13.6%.
I also want to make one final point.  A failure of one or more countries in the EU can easily trigger contagion that ultimately affects the very existence of the Euro.  The failure of the Euro would  further affect the sovereign bond markets - globally.  This in turn, affects the entire debt-as-money based system the world currently employs - including the US paper dollar standard.  It would be an historic, global, fiat collapse.

Monday, November 15, 2010

Morgan Stanley's Asia Chief, Stephen Roach Warns Asia of a Tsunami of Money

From the BBC, an interview of Stephen Roach.  Some of his points:

- Aisan Economies need to brace themselves for an external flood of liquidity into their markets.

- In these circumstances, capital controls are one option that must be considered.

-The US "did a lot of damage to its economy by allowing bubbles to form in both property and credit and most of all allowing those bubbles to distort nearly 80% of the economy in personal consumption and residential activity.  And now we're paying a price for that, that is likely to result in very weak domestic demand for years to come..."

- America is the biggest consumer in the world.  4.5% of the world's population consumes about 10 trillion dollars... the world's biggest consumer is on ice, there is no consumer who is going to take his place...

-Asia needs to stimulate internal demand, because these export dependent economies need to find a new model.

Don't Discount the US or the Dollar Just Yet

In 2004, writing for the New York Times Magazine, Ron Suskind interviewed amongst others, an aide to then George Bush's administration. The article covered Bush's handling of world affairs, and the US's role in the world. There is an interesting quote in that article that conveys, to me, the reality of a superpower. And even though the early 2000s were emerging "war years" for the US in Iraq and Afghanistan, there is a quote in that article that also applies, in my view, to all US Presidential Administrations and their actions, which covers the economic sphere as well.

Ron Suskind was speaking to this aide about how solutions are promulgated - through the "judicious study of discernable reality." To which this Presidential aide elaborated:

''That's not the way the world really works anymore,'' he continued. ''We're an empire now, and when we act, we create our own reality. And while you're studying that reality -- judiciously, as you will -- we'll act again, creating other new realities, which you can study too, and that's how things will sort out. We're history's actors . . . and you, all of you, will be left to just study what we do.''

SOURCE

So why do I bring this up? I want to make a point clear. Although my blog is titled fiat collapse, and I write about the US Dollar paper standard's inevitable collapse, I am not discounting the US or the Dollar. Notice, I say "paper" dollar. That is, the debt based system that was begun under Nixon when the gold window of convertibility was shut. So yes, I believe that debt based fiat money is on its last legs, but that doesn't mean the US Dollar disappears. It can transform and so, my views are still open on the US's future role in the world. I will not underestimate the US - not yet. But I also believe that American banks have cost the US dearly, in both power and national security - but all is not lost - as I said, not yet. The US has something up its sleeve that can't be ignored. Gold.

Writing for the Gerson Lehrman Group, George Anastasiadis comments in his summary:

"The U.S. message at the G20 is the following: if we do not act together to rebalance the world economy, the US will act unilaterally to rescue its economy. This will entail a change in the rules of the global game as the U.S. will try to impose its will via the printing press by inflating the rest of the world or forcing their currencies to appreciate relative to the dollar."

SOURCE

I agree with the above comment on the US acting unilaterally, though I disagree with the success of quantitative easing ("QE"). I think the US's QE is plan "A," but there is also a plan "B," in my view.

So what is this plan "B"? Gold, in my opinion, is plan "B." The US has by far, the largest gold reserves of any other nation. And it doesn't just end there. The US, acting as custodian, also stores many other nations' gold. Under the Bretton Woods system, as many may already know, the US Dollar was converted to gold. But that didn't mean it also went across the Atlantic either. More often, all that transpired was a book entry. The gold went to another nation's balance sheet, while it sat in a vault in the US.

According to Jim Rickards, the US has over 6,000 tons of gold stored in custody for other nations. This makes the US the "Saudi Arabia" of gold. In a recent interview at King World News, Rickards has stated the following:

"In a way, the Fed can afford to trash the paper dollar, or at least experiment and risk trashing the paper dollar because if the dollar collapses we can go back to gold pretty quickly."

"We have the world over a barrel; the US wins either way... we have a plan 'B' and the rest of the world does not."

SOURCE

In 1933, then President Franklin Roosevelt signed executive order 6102, "forbidding the Hoarding of Gold Coin, Gold Bullion, and Gold Certificates." The US purchased gold, from its citizens, at $20.67 an ounce. It then proceeded to devlaue the dollar against gold. The US can do the same thing with its custodial gold. It can write a check to say, Germany, and then devalue the dollar against gold. I have speculated how the gold bubble would end in the past - and I covered this type of "sovereign revaluation of gold" scenario in my post: Gold Will Be A Bubble Until It Isn't.

I want to note that much of this custodial gold is Europe's. Thus, for those that follow FOFOA's blog, it makes me wonder if the Euro-Gold connection is really that solid? Isn't possession 9/10ths of the law? Overall, Rickards still believes that most US policymakers are not thinking about gold and so we'll stumble into it in a "chaotic way."

About a month after that Rickards interview Robert Zoellick, President of the World Bank, started a gold debate, which I covered in my post The Gold Standard Debate Unleashed. This article in the Financial Times sure enough created quite the buzz of academic thinking on the gold standard. Most main stream economists are trained in the Keynesian school and thus furiously disagree with gold. But what they miss, what they ignore, is the quote I posted above. Let's look at it again:

''That's not the way the world really works anymore,'' he continued. ''We're an empire now, and when we act, we create our own reality. And while you're studying that reality -- judiciously, as you will -- we'll act again, creating other new realities, which you can study too, and that's how things will sort out. We're history's actors . . . and you, all of you, will be left to just study what we do.''

To me, this quote hits the nail on the head. It not only describes journalists and analysts, but economists as well. It basically states: let the eggheads debate all they want, when push comes to shove, when national security is at stake, we act in our own interests, and everyone else reacts. Now that's Realpolitik. And for those that may have missed it, James Grant wrote an article on the gold standard in the NY Times yesterday. The article is titled: How to Make the Dollar Sound Again.

Saturday, November 13, 2010

Ireland - The Next Euro Crisis Unfolds

From the BBC:

Ireland 'in preliminary talks with EU on bailout'

The Republic of Ireland is in preliminary talks with EU officials for financial support, the BBC has learned.
It is now no longer a matter of whether but when the Irish government formally approaches the European Financial Stability Fund (EFSF) for a bailout, correspondents say.

The provisional estimate for EFSF loans is believed to lie between 60bn and 80bn euros ($82-110bn; £51-68bn).

Dublin says there are no talks on an application for emergency EU funding.
The European Commission would not formally comment on the matter.

Eurozone officials told the Reuters news agency on Friday that discussions were under way, with one saying that it was "very likely" Ireland would receive financial assistance.

The head of the International Monetary Fund (IMF), Dominique Strauss-Kahn, said on Saturday that it had not been asked for aid.
Full Article HERE.

I'm not surprised, but I'm going to hold off on commenting until more info is forthcoming.  I'm guessing  better information will be out before markets open Monday morning.  But earlier today from Bloomberg:
The International Monetary Fund stands ready to help Ireland if needed, its managing director said, as market concern about the country’s debt crisis continues.  LINK
If I remember correctly, the larger EU member states dragged their feet and then argued while handling the Greek crisis ealrier this year.  We'll see how they handle this one.

Friday, November 12, 2010

Have a Good Weekend, and Here's Some Bruce

I figured I'd finish the week off with some music.  Not just any music... but something that captures the times we live in.  Bruce Springsteen is America's Bard - the rare storyteller that can fuse music and lyrics to describe the difficult plight of the common man yet still lift the human spirit.  Enjoy.

By the way, Bruce Springsteen briefly speaks to the crowd in Catalan.  This is the translation in English:  "I wrote this song about the Vietnam war, tonight we sing it as a prayer for peace."

EU Sidetracked at Worthless G20 Meeting By Ireland's Fresh Debt Woes

The best the G20 could come up with was a "pledge" to avoid currency devaluations.  But we have to ask ourselves, are there any penalties for those that break that pledge?  Could any such penalties be enforced, and if so by who?  Obviously none of that occurred, so to me, it was a failed meeting.  It looks like business as usual, which means a continuation of sovereign debt crises followed by inadequate or misguided policy responses.

But the EU nations in particular had another headache while China and the US went at each other.  The Irish debt crisis was flaring up once again.  And if we consider the fact that London and Ireland has recently had its share of protests, as well as France's recent riots, to me, it looks like the EU is turning more into Greece - and not the hoped for German transformation of the European continent. 

Here's a great summary on the future of the Euro by John Taylor of FX Concepts, if you haven't read it already elsewhere, emphasis mine:
The Eurozone has begun its collapse a little later than we thought. My compliments to the political prowess of the euro-leaders for holding things together for so long, but this is an impossible situation and the crisis is on its way. Jean-Claude Trichet caught the spirit of the situation today in Seoul when he said that “it is absolutely necessary to change the governance of Europe” and called for moving “as far as possible in the direction of an economic and budgetary quasi-federation.” I only disagree with part of one word, ‘quasi,‘ as Europe must move to a full economic federation if the euro is to survive. With 16 countries using the euro and Estonia on the way, the odds of moving there is currently lower than infinitesimal. Things will change after the approaching horrible economic and political catastrophes that will wrack some of these economies and societies. Unfortunately nothing will happen before the current situation gets unbearable – this is the way of democratic politics. As all the leaders are still working toward the same goals, and no one has stepped forward express the inchoate fears of the European populace, this should take years. By the start of next year the Eurozone will enter a recession that will test the current leadership. The euro, which has been perceived as if it were a German mark, has already topped and will decline until it is priced like an Italian lira in the next few months. With Europe and the US in recession next year, commodity prices will drop again and global growth will suffer despite the outperformance of domestic Asian economies. With the policy stresses, and the risk of significant errors in judgment, international strife becomes more likely as well.
SOURCE

I agree with John Taylor, but there is one thing he did not discuss: the role of a debt based currency in creating imbalances amongst nations.  The imbalances within the Euro area were fueled by easy credit that now has become an uncontrollable Frankenstein of sorts.  And there is an additional concern here too.  If the Euro does indeed fail, it will not be an isolated event.  It will affect ALL PAPER DEBT BASED FIAT - INCLUDING THE US DOLLAR.

Which reminds me of an old (March 2010) CNBC interview of Christopher Wood, author of the newsletter "Greed and Fear" where he makes the prediction of the collapse of the US Dollar paper standard:



I know this interview is from earlier this year, but I like to occasionally post old articles and video interviews to see how accurate the analysts I follow are.  Our news cycle is forward looking and rarely do we look back to see what people have said in the past, in order to judge them on current predictions.  In this regard, Christopher Wood's prediction has obviously not transpired, but listen to his reasoning.  Not much has occurred to the contrary to make me think his view is off the mark.  But I'm not so sure that Asia will not be impacted either.  Much of their demand comes from the West - such a paper standard collapse would affect everyone. 

As I've mentioned before, the USA in the 1920s and 1930s was the world's largest exporter of oil, of manufactured goods, and the world's largest creditor, not debtor nation.  And what did the Great Depression do to the US?  It brought it to its knees.  In a severe global downturn, few escape unscathed.

Ireland Using a Page From Greece's Playbook: Blame Germany

No, this doesn't involve World War II reparations of any sort, but a recent comment by Angela Merkel that bondholders of sovereign debt should also feel pain. To date, it's been the balance sheets of central banks and governments that have suffered, while private sector bondholders have been effectively bailed out. I have covered this topic in my post: PIMCO's El Erian does not believe EU bailout of periphery is a success, and what Michael Hudson has been saying all along.

What I described in that post was that the EU "bailout" fund created earlier this year was really providing the bondholders with an exit strategy - so Banks and Wealthy investors (as well as Pension Funds) could be protected, or at best, given some time to wind down their holdings.

Now that comment by Merkel is being blamed for scaring the bond market, and creating an unstable environment.  To be fair to Chancellor Merkel - I agree with her comments.  But nonetheless, they have created an unintended consequence of rattling investors and pushing up bond yields. 

From the Telegraph:
Concerns Ireland will require an International Monetary Fund-EU bail-out helped push yields on 10-year Irish Government bonds up to around 9pc, a record, as investors demanded higher returns to shoulder the risk.
Markets worry whether Ireland will be able to pay its debts, given its costly bank bail-out, weak growth and a huge budget deficit of 14.4pc of GDP, the eurozone's highest.
British taxpayers took a hit as shares in Royal Bank of Scotland fell 2.7pc to 41.02p on fears over the state-backed bank's exposure to the Irish market through an estimated £50bn of loans. One source said some traders were using the bank as a proxy to short Ireland.

... The market nerves pushed the spread between Irish 10-year bond yields and German yields to well over 6 percentage points, a new record. The cost of insuring Irish debt against default also hit a fresh high.
"The bond spreads are very serious and there is international concern throughout the eurozone about that," said Mr Lenihan, adding he would look for clarification of the German plans. He also tried to reassure that comments from Ireland's central bank governor – that IMF austerity plans for Ireland would not differ greatly from Dublin's – were not laying the ground for aid.

Germany has indicated the proposals would not apply to existing debt, but fears over potential losses are high after France said on Wednesday that investors must share in the cost of safeguarding debt.
German Chancellor Angela Merkel argued on Thursday that taxpayers could not keep being told they "have to be on the hook for certain risks, rather than those who make a lot of money taking those risks."

... Irish yields are now well above the levels Greece faced just before it saved from defaulting through a €110bn (£93bn) loan in the spring, according to Capital Economics.

"The most likely outcome now is that Ireland will need to receive assistance from the EU/IMF," said Gary Jenkins at Evolution, who estimated a funding requirement of around €43bn over two years.
Full article HERE.

This doesn't bode well for the EU or the Euro.  It wasn't that long ago that Ireland was being hailed as a protoype of successful austerity measures.  Regardless of Merkel's comments, I believe that Ireland has yet to fully deal with the amount of credit in its economy.  In a debt based system, cutting back government expenditures while the private sector delevers amplifies the deflationary forces.  To put it another way:  Money is created thru debt creation/lending, so less government spending/money creation = less money in the system to pay down debts and interest = debt default/destruction = money destruction.  It's a vicious cycle and no one knows where the bottom truly lies.

These fresh fears also explain the recent rise of the dollar in Euro terms, despite the Fed's recent QE2.