10-Nov-10 News -- Europe and Asia bash quantitative easing

[John]

10-Nov-10 News -- Europe and Asia bash quantitative easing as G-20 meeting approaches

** 10-Nov-10 News -- Europe and Asia bash quantitative easing as G-20 meeting approaches
** http://www.generationaldynamics.com/cgi ... 10#e101110

Contents:
"Europe and Asia bash quantitative easing as G-20 meeting approaches"
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[vincecate]

"The US policy has not only increased imported inflationary pressure, but also made China suffer huge losses of foreign reserves."

I think China understands what this money printing really causes. They can see it better as it is happening to them. The longer they hold US bonds the more money they will lose. They saw Japan lose (when measured in yen) their reserves when the dollar revalued against the yen. They have to be well aware that China would be better off to sell their dollars before letting the value of the yuan go up against the dollar. The first country that sells their US bonds will get the best deal.

John, you have said you can not see a realistic scenario for inflation. America is dumping $600 billion, what would happen if China also dumped $600 billion dollars? Or some other country dumped their dollars?

China could get rid of their dollars and then let the yuan go up by a factor of 2 relative to the dollar. This makes oil and other imports cheaper in their own currency. It counters the inflationary pressures of the old policy. But it means that all the stuff the US imports from China (which is huge) becomes twice as expensive. You might think they would not want to do this as it would hurt China's exports, but it might not. They used to loan America the money to buy stuff from China and they could instead loan the money to some other country or their own people. And their lower cost of imports could improve domestic conditions and help the domestic demand.

China could dump their dollars, revalue the yuan, and then buy the dollars back at half price. Someone would get mad, but they probably could do it.

At some point some country will realize that it is foolish to keep letting the US impose an inflation tax on them when they don't need to accept that situation. After the first country unloads their dollars others will get worried that if they wait too long they will get nothing for their dollars, and be in a hurry to sell. This situation can result in panic selling and a crash in the dollar, no? If the Fed buys up all the bonds this really makes things even more scary (as they will be printing at amazing speed to do this) and provides all the more reason to dump while the Fed is holding up bond prices.

[Higgenbotham]

America is dumping $600 billion, what would happen if China also dumped $600 billion dollars? Or some other country dumped their dollars?

Do you know what the durations of the Chinese bond holdings are? In other words, do they own more longer term vs shorter term treasuries? Or are they concentrated more short term? I think that would make a big difference.

[vincecate]

America is dumping $600 billion, what would happen if China also dumped $600 billion dollars? Or some other country dumped their dollars?

Do you know what the durations of the Chinese bond holdings are? In other words, do they own more longer term vs shorter term treasuries? Or are they concentrated more short term? I think that would make a big difference.

I don't know Chinese bond durations. The US government has like 30% of debt due within 1 year (see URL below). I think 30% of $13 trillion is enough to ruin the dollar. So in the first year that people stop buying and the US prints to cover the bonds coming due, I think the game is up.

Another point. Even if China had longer term, if they started dumping them they impact other parts on the curve. And there is a good chance that if the Fed has $600 billion to spend they might buy whatever it is China was selling. So I don't really think it would make a big difference what duration China is holding.

http://www.zerohedge.com/article/detail ... d-itself-a

[Higgenbotham]

I don't know Chinese bond durations. The US government has like 30% of debt due within 1 year (see URL below). I think 30% of $13 trillion is enough to ruin the dollar. So in the first year that people stop buying and the US prints to cover the bonds coming due, I think the game is up.

Another point. Even if China had longer term, if they started dumping them they impact other parts on the curve. And there is a good chance that if the Fed has $600 billion to spend they might buy whatever it is China was selling. So I don't really think it would make a big difference what duration China is holding.

http://www.zerohedge.com/article/detail ... d-itself-a

I haven't been able to find the Chinese bond durations either.

If the Chinese start dumping long term bonds, long term interest rates will spike pretty quickly, I believe, regardless of what the Fed does in response. Investors will flee out of MBS, municipal debt, corporate debt, etc., and down into the shorter end of the curve. The US will probably be forced into default on some slice of the longer term debt and there will be many bankruptcies. I would think it would all happen very quickly. Some junk bond issuers are barely hanging on as it is. The dollar would rise. From there, once all the longer term debt has been wiped out, then hyperinflation can be around the corner. I would estimate it could be as soon as two years after that. A lot of default is necessary to get to the point where a hyperinflation is even possible.

If the Chinese start dumping short term bills, the dollar will fall and the price of Chinese exports will go up. The Chinese will sell less goods and the US will sell more as a ratio. In my opinion, the Chinese do not want that to happen (that's exactly why they are complaining about QE2). The Fed could buy up the bills and the Chinese would be playing right into the Fed's hands.

When a country is going into default or hyperinflation, the concern is always about the long term debt first. That's an absolute because the estimated date of default or onset of hyperinflation always coincides with longer dated government bonds first. Say the market on average sees a US debt crisis of some kind in 7 years (it doesn't as of now). Bond prices out on the long end will fall substantially first, but 5 year notes will still be considered substantially safe and hold their value. That's just another way of saying bonds on the long end will be sold first as a suspected debt crisis approaches. "Dollars" on the long end of the curve will be considered unsound and "dollars" on the short end will be considered sound. Yield spreads will widen (I think that is occurring now to some extent). If the government can squeeze the average duration down, they can mask an approaching crisis for awhile, but they still can't make it instantaneous.

If the Chinese don't have any long term bonds left, then they may start to sell notes instead. That's what the Fed said they will buy.

I see the zero hedge article said the average duration has gone from 50 to 59 months. That's quite positive, but the corresponding negative is that debt levels have increased.

[Higgenbotham]

http://seekingalpha.com/article/235939- ... rest-rates

This is correct; as the authors states, Bernanke is doing QE2 because the banks will implode if interest rates go up. It also appears that he's setting aside the money to put the banks into receivership and clean up the mess. It will in all probability be the biggest financial mess in seven centuries.

At this point, it's important to review the 14th Century banking crisis. As I've stated before, the City of Florence attempted in 1343 to shore up the Bardi, but it imploded anyway in 1346. People will say yeah yeah but things are different now and you can't use a 3 year timeline from the 2008 infusion, etc. I see no reason that things will be any different this time.

[vincecate]

http://seekingalpha.com/article/235939- ... rest-rates

This is correct; as the authors states, Bernanke is doing QE2 because the banks will implode if interest rates go up. It also appears that he's setting aside the money to put the banks into receivership and clean up the mess. It will in all probability be the biggest financial mess in seven centuries.

At this point, it's important to review the 14th Century banking crisis. As I've stated before, the City of Florence attempted in 1343 to shore up the Bardi, but it imploded anyway in 1346. People will say yeah yeah but things are different now and you can't use a 3 year timeline from the 2008 infusion, etc. I see no reason that things will be any different this time.

It is not just the 14th century banking crisis. This is the normal pattern. First governments try to shore up the banks, then a couple years later then have a sovereign debt and currency crisis. The name of the book to see many examples of this is, "This Time is Different: Eight Centuries of Financial Folly". Happens time and time again. Japan is a very strange case (so many big local savers trusting the government with their money that the government could borrow crazy amounts form them) and should not be thought of as typical at all. Normal case is sovereign debt and currency crisis next.

[Higgenbotham]

It is not just the 14th century banking crisis. This is the normal pattern. First governments try to shore up the banks, then a couple years later then have a sovereign debt and currency crisis. The name of the book to see many examples of this is, "This Time is Different: Eight Centuries of Financial Folly". Happens time and time again. Japan is a very strange case (so many big local savers trusting the government with their money that the government could borrow crazy amounts form them) and should not be thought of as typical at all. Normal case is sovereign debt and currency crisis next.

The author of that article mentioned derivatives as the Achilles heel of the banks. Derivatives were also the Achilles heel of the 14th Century Florentine banks. So if you're expecting a "normal" crisis based on that book, you may want to do further research. What's going on here is anything but normal in terms of the previous 8 centuries of financial folly, with the exception of the collapse of the Bardi. But if you want to tell me how this isn't like the collapse of the Bardi specifically and how it is more like some other collapse, I'd be interested. Up to the point that Bernanke went down the rabbit hole with QE1 (put the 1.25 trillion of MBS on the Fed's balance sheet) I would have agreed with Rogoff or whoever wrote that book, but not now. Nothing like this has been done since the 14th Century banking crisis.

[John]

Dear Vince,

> John, you have said you can not see a realistic scenario for
> inflation. America is dumping $600 billion, what would happen if
> China also dumped $600 billion dollars? Or some other country
> dumped their dollars?

I've answered this question many, many times, but you always reject
the reasons with no credible explanation.

The US dollar is unique, and things that apply to other currencies do
not apply to the US dollar. That's because the US dollar is the
world's reserve currency, and is the most credible currency in the
world.

Calling quantitative easing "printing money" is very misleading
because it's nothing at all like printing money. It's creating money
through debt, and hedge funds and investment banks do the same thing.
It's because of the credibility of the US dollar and its use as
reserve currency that make it possible for the world to have hundreds
of trillions of dollars in credit card debt, CDOs, CDSs, interest rate
swaps, and so forth.

I doubt that there's even $10 trillion in synthetic securities in
China's currency.

The US currency is like the Titanic, with a huge mass and momentum.
$600B in QE is like pouring a few barrels of water onto the deck of
the Titanic. All it does is make it wet.

Other currencies are like rowboats. A few barrels of water would make
them sink.

So the question you're asking doesn't make sense.

You can't just ignore synthetic securities, since they're the source
of every bubble -- Tulip futures in Tulipomania, South Sea shares,
assignats during the French Revolution, railway shares in the Panic of
1857, and stock shares in 1929.

And as Higgie points out, synthetic securities were a part of the 14th
century Florentine bank bubble and bankruptcy. You can't just say
that they don't matter, because in many ways, they're the only things
that matter.

John

[Higgenbotham]

You can't just ignore synthetic securities, since they're the source
of every bubble -- Tulip futures in Tulipomania, South Sea shares,
assignats during the French Revolution, railway shares in the Panic of
1857, and stock shares in 1929.

And as Higgie points out, synthetic securities were a part of the 14th
century Florentine bank bubble and bankruptcy. You can't just say
that they don't matter, because in many ways, they're the only things
that matter.

John

The crisis that most resembles our current crisis following the bursting of the bubble is the 14th Century collapse of the Florentine/European banking system.

The crises John mentions share a common basis in the underlying causes and structure of the bubbles, with the corresponding railway and 1920's bubbles in Britain also sharing important similarities. As mentioned last year, there was revulsion of the Tulip Mania and the South Sea Bubble at an earlier point, whereas during this crisis the revulsion is only now appearing. Thus, there was no substantial attempt to reflate those 2 bubbles. There were substantial attempts to reflate the railway and 1920's bubbles, but those attempts were less successful than the current attempt. It's difficult to compare, but it seems that the 1340's reflation effort most resemble today's reflation effort.

To John's list I would add the collapse of the Soviet Union which, although derivatives and world reserve currency parallels don't exist, is our mirror image in many other respects.

Any other financial crisis cannot be used to forecast anything and is just historical trivia.

People like Rogoff, Bernanke, etc. are clueless number crunchers. They have led us blind into the worst financial crisis in 7 centuries due to their lack of rigor.