The Fed and the ECB’s Hands Are Politically Tied... Bye Bye Market Props

Phoenix Capital Research's picture

 

The following is an excerpt from my latest client letter.

 

As many of you know, my primary forecast regarding Europe is that the EU will be broken up and/or collapse within the coming months.

 

The reasons for this are political, financial, and monetary in nature. In bullet form they are:

 

  1. France is about to elect a hard core Socialist. This will greatly alter political dynamics in the EU and will weaken Germany’s push for austerity.

 

  1. Spain’s stock market and banking system are on the verge of collapse. The markets are flashing major warning signs here both in terms of technical developments in the markets as well as Spanish sovereign bond market yields.

 

  1. The ECB’s interventions in the European banking system are now politically toxic (the markets punish those banks relying on the ECB for aid) as well as monetarily impotent (the positive effects of spending hundreds of billions of Euros are only lasting a month at most).

 

  1. The US Federal Reserve’s Operation Twist 2 Program ends in June. Currently there are not new monetary programs planned at the Fed and it is unlikely they will launch anything before the US Presidential election in November (unless forced to by a Crisis).

 

In simple terms, we have a confluence of negative factors hitting this month and the next. Now, nothing in the political or financial worlds is static and we could see any number of changes made to the above items (for instance, France’s soon to be President Francois Hollande might backtrack on some of his more aggressive socialist policies).

 

Having said that, while individual changes to the above items might temporarily delay the collapse I’ve forecast, said collapse is coming and will hit before the year-end.

 

The reason for this is that we have reached the End Game for Central Bank intervention: the time during which Central Bank interventions either result in negative consequences that far outweigh their positive benefits (inflation/ increases in the cost of living vs. a rise in “good” asset prices such as stocks) or have negligible impacts.

 

We’ve already assessed the first one of these items in numerous past issues of articles. The most obvious example of this was the Fed’s QE 2 program which spent $600 billion, resulted in at most three months of upturned economic data for the US, but also sent food prices to all time highs inciting revolutions and riots around the globe.

 

Indeed, as noted previously on these pages, as far back as May 2011, Fed Chairman Ben Bernanke explicitly stated that QE was less “attractive” as a monetary option:

 

Q. Since both housing and unemployment have not recovered sufficiently, why are you not instantly embarking on QE3? — Michael A. Kamperman, Waco, Tex.

 

Mr. Bernanke: “Going forward, we’ll have to continue to make judgments about whether additional steps are warranted, but as we do so, we have to keep in mind that we do have a dual mandate, that we do have to worry about both the rate of growth but also the inflation rate…

 

The trade-offs are getting — are getting less attractive at this point. Inflation has gotten higher. Inflation expectations are a bit higher. It’s not clear that we can get substantial improvements in payrolls without some additional inflation risk. And in my view, if we’re going to have success in creating a long-run, sustainable recovery with lots of job growth, we’ve got to keep inflation under control. So we’ve got to look at both of those — both parts of the mandate as we — as we choose policy”

 

http://economix.blogs.nytimes.com/2011/04/28/how-bernanke-answered-your-questions/

 

This is critical as it indicates that the Fed, despite all of its verbal interventions and posturing, is aware that its monetary interventions are having negative consequences that outweigh their benefits.

 

The same is occurring in Europe where the relationship between Germany and the ECB is deteriorating as the former finds its push for austerity counteracted by the latter’s monetary profligacy. Indeed, Germany is now facing its most dreaded consequence of the ECB’s money printing: inflation.

 

            German unions turn up volume on pay rise demands

 

German labor leaders urged May Day demonstrators on Tuesday to fight for big pay rises after a decade of restraint that had seen wages in crisis-hit southern Euro zone nations soar.

 

The head of the powerful IG-Metall union, demanding a 6.5 percent rise, described an offer of 3 percent over 14 months as a farce...

 

"If we don't have a result (from talks) by Pentecost, then there will be a strike ballot and strike," said Berthold Huber, referring to the May 27/28 holiday…

 

IG Metall, with a membership of 3.6 million, (Graham’s note: about 4% of German population) held warning strikes at the weekend and is planning more for Wednesday in Germany's industrial heartland of North Rhine-Westphalia…

 

There are signs German policymakers are already starting to worry about inflation, although it continues anchored around two percent. Last week, Economy Minister Philipp Roesler said the European Central Bank should refocus on price stability.

 

http://www.reuters.com/article/2012/05/01/us-germany-mayday-idUSBRE8400VU20120501

 

Remember, the core driving force in European policy-making is politics. Angela Merkel faces re-election in 2013. If inflation is already becoming a political issue in Germany now (though data shows that inflation actually slowed in April) Merkel is going to be highly incentivized to get it under control by appearing even more pro-austerity/ anti-monetization (more on this later). And if things get truly ugly she could even publicly threaten to pull out the Euro.

 

On that note, I fully believe the EU in its current form is in its final chapters. Whether it’s through Spain imploding or Germany ultimately pulling out of the Euro, we’ve now reached the point of no return: the problems facing the EU (Spain and Italy) are too large to be bailed out. There simply aren’t any funds or entities large enough to handle these issues.

 

So if you’re not already taking steps to prepare for the coming collapse, you need to do so now. I recently published a report showing investors how to prepare for this. It’s called How to Play the Collapse of the European Banking System and it explains exactly how the coming Crisis will unfold as well as which investment (both direct and backdoor) you can make to profit from it.

 

This report is 100% FREE. You can pick up a copy today at: http://www.gainspainscapital.com

 

Good Investing!

 

Graham Summers

 

PS. We also feature numerous other reports ALL devoted to helping you protect yourself, your portfolio, and your loved ones from the Second Round of the Great Crisis. Whether it’s a US Debt Default, runaway inflation, or even food shortages and bank holidays, our reports cover how to get through these situations safely and profitably.