The Fed's Balance Sheet Expansion Is... Bullish For The Dollar!?

Tyler Durden's picture

Submitted byAftab Singh of Gresham's Law

Huh? When the Fed expands its balance sheet these days it’s actually bullish for the dollar!?

If you ever happen to acquire an inclination for being the subject of disrepute and ridicule I highly recommend endorsing the conceit alluded to in the title. Apparently this issue is ‘so obvious’ that even gold bugs and government officials can reach common ground via the contention that I’m deluded. My folly — if you will — is to maintain that dollar debasement can be bullish for the dollar vis-à-vis other currencies at present. Since this long-standing conviction of ours is once again being corroborated by price action in the currency markets I thought I’d attempt to convince you that I’m not completely crazy. Here I outline why dollar debasement is bullish for the dollar against other fiat currencies in this environment.

Central Bank Notes & IOU Claims Upon Central Bank Notes:

This story should be familiar by now, but nevertheless it’s important to review it briefly: — from the early 1980s to the late 2000s the ‘private-sector’ was on a trajectory that involved ever-increasing doses of leverage. Towards the end of that period the economy reached a maximum capacity for leverage and thus the reverse corrective trend began. Since accumulating debt is like shorting Federal Reserve notes, the prospect that characterized the start of this corrective trend was a ‘short squeeze’ in Federal Reserve notes – i.e. a widespread appreciation of Federal Reserve notes against stuff or equivalently a broad decline in asset prices. Since this has been quite uninviting for the established classes the result has been a policy of monetary debasement. In the current irredeemable fiat currency systems of the world this amounts to central bank balance sheet expansions. The rudimentary aim of this policy is to maintain the existing stock of IOU claims upon central bank notes by debauching the central bank notes themselves. 

The Extrapolative Misstep:

I think that the above is understood by a decent proportion of the investment community, however I believe that even these well-enlightened investors erroneously presume that this dynamic is bearish for the dollar against virtually everything. To be sure – I maintain that owning central bank assets (notably gold) as opposed to central bank liabilities is a worthwhile speculation, but I scarcely imagine that one should indiscriminately own foreign central bank notes against Federal Reserve notes. The reason is fairly simple when looking at the world holistically: the dollar lingers on as a major component of global central banking assets – resultantly; dollars still constitute a decent proportion of the ‘backing’ to many foreign central bank notes. So if you own gold against dollars for fear of monetary dilution via manipulations of the Fed’s balance sheet – I would suggest that you should own Federal Reserve notes against dollar-dependent foreign currencies for fear of implicit manipulations of global central bank balance sheets that would result from those manipulations of the Fed’s balance sheet. In a twisted irony it would seem that foreign central banks are forced into being at least as profligate as the Fed due to their holdings of dollars and IOU claims upon dollars. The only way a central banker can avoid this implicit profligacy is by contracting their respective dollar-dependent balance sheets – but this is unpalatable in so many ways.

The Analogy:

The way we have explained this over recent months has been to compare it to the US housing market. As mentioned a while back

One must note that houses did appreciate against at least one thing during 2007-2009; housing derivatives! If you owned a house in the US, you no-doubt found that you could purchase more and more housing derivatives with your house as the housing collapse unfolded!

The above conceit is not difficult to understand — we all know that derivatives are premised upon their underlying assets. As the underlying rises and falls the levered derivative of one higher order moves in the same direction but with (usually) greater ferocity. Naturally then a housing derivative can easily become worthless with a less than 100% wipeout of the value of the underlying asset. In this way the deteriorating asset can appreciate against at least something — the derivatives that depend on it!

When it comes to the currency markets we have a similar scenario, but a great proportion of the investment community draw a blank and maintain that what must be bearish for the dollar against most things must be bearish for the dollar against its de facto derivatives – currencies that are ‘backed’ by dollars.

This is one pillar of my bullish stance on the dollar against other fiat currencies (the other being the unwinding of the implicit short positions on federal reserve notes via the medium of debt). If they debase the dollar, they debase them all – so if you believe that a) the Fed will be profligate and that b) foreign central banks will be slow to move away from the dollar, then maybe you should own dollars against dollar-dependent fiat currencies and not the other way round!

Analogously speaking; an expanding Fed balance sheet is to dollar-dependent central bank notes as a surprisingly abundant housing stock is to a bullish housing derivative!

The Balance of Assets & Liabilities for Irredeemable Fiat Currencies:

The more technical reason for this dynamic is that irredeemable fiat currencies trade at perennial discounts from imagined would-be ‘pars’. Before the early 1970s there was at least some vague attempt at maintaining redemption at some specific ‘par value’. This meant that if the market were to doubt the integrity of a currency issuer then that currency would fall to a ‘discount from par’. This would invite either a correcting drain on reserves (due to redemptions at par value), an outright debasement (more snidely referred to as a ‘revaluation’) or some kind of intervention to forestall the inevitable. But since there is no clearly identifiable promised ‘par’ at present we have a scenario where currencies trade at perennial discounts to the value that would be par if redemption were to resume with immediate effect.

The above characterizes the fact that fiat currencies are promises for maybe something (but probably nothing) at perhaps some time in the future (but probably never). In this way, the dollar-backed fiat currency represents a doubly precarious asset – for it’s a promise for maybe something maybe later (but probably nothing, never) for maybe something different at perhaps some later date (but probably nothing, never)!

Uh oh! They’re going to try to debase the dollar to ‘boost exports’!

Whereas this is rather exciting as a speculator, it’s quite frightening as a subject of a confused government. As Kyle Bass pointed out in this recent interview, the US government is probably going to try and ‘export themselves out’ of this problem by destroying the dollar: 

How do you solve a problem where you’re running a 10% fiscal deficit? You’re not going to get growth in the absence of private sector credit demand, so the government’s idea right now is that we’re going to export our way out of this. And when I asked a senior member of the Obama administration last week ‘how are we going to grow exports if we won’t allow nominal wage deflation?’ And he says ‘we’re just going to kill the dollar’ I said ok – more you mean. So that’s the only answer – it’s a dead answer, but that’s where we’re headed. So if you made me the Tsar what would I do? I’d go out there and I’d try to cut a bunch of things, and GDP would drop and unemployment would go up and I’d be the persona non grata. But it would be the right decision for our country for the next ten years.

All I can say is that government officials are suckers for mechanistic and retrospective ways of thinking (they linearly correlate past movements and act on them going forward). It’s quite possible that they’ll become frustrated when the currency markets move ‘the wrong way’ in spite of all their efforts to ‘kill the dollar’. In this case they may justify over the top expansionary monetary policies. In this case we would have a platform for severe inflation where monetary authorities keep the debasement schemes at full blast until they see the results they want (a falling dollar vis-à-vis other currencies). I would imagine that the dollar would have to appreciate greatly for some time before they would see the results that they seek.

This is a really dangerous dynamic that has a good chance of coming to pass. For whereas central bankers basically know that they can’t expand their balance sheets to infinity without risking vicious price inflation, it would seem that the Fed is at a complete loss as to why its balance sheet expansions might actually lead to an appreciation of the dollar against other currencies (at first).

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Snakeeyes's picture

Both Fed's and ECB's balance sheets are exploding and are like Disney's Towers of Terror.

inflation is inevitable as soon as economies recovery. Neither can unwind fast enought to prevent serious inflatiion.


French Frog's picture

This should be 'Article of the Week' imho

Manthong's picture

Right next to the Cosmo article "Why You Become More Attractive the More Your Husband Beats You and Whore's You Out". 

At least there is a qualifier at the end.

Harlequin001's picture

Theoretically, China could print enough new money to make literally every Chinese citizen a millionaire provided that that money was not spent domestically. That means that every Chinaman could use his new found wealth to buy a US house. The US banking system would then simply repatriate those new Yuan back into a Chinese T Bill which the Chinese can also magically create from thin air, and then if necessary through its fractional reserve banking system buy back its own currency to maintain the fx rate. The fx rate to USD would not change and China would simply need to hold the excess returning yuan on deposit at its central bank paying zero interest or thereabouts.

No inflation at home either, just the entire US housing stock now being owned by Chinese citizens or institutions having been paid for with a derivative of a Chinese tree. The fact is that regardless of how much the US might print, the only way they can devalue is with a gold standard. Welcome to the real world and ultimate end of central banking. So, time soon to go find another 'barbarous relic' me thinks...

mkkby's picture

I don't know what this writer's talking about.  I watched QE... dollar index tanked, commodities rallied --> Arab spring.  That's when they switched it off.  People were starving/revolting and it was all being blamed on Bernanke.

Go back and read ZH from before last spring if you think fed printing makes the dollar stronger.

Lord Koos's picture

The EU collapsing is the only thing that makes the dollar look good.  Against other currencies, the USD will just be one of the last currencies to go into the shitter.

I am Jobe's picture

Fed Policy Makers Urge More Housing Aid

If only If only/.......................... Dudley is a fool

ciaoant1's picture

A blast form the past:


"After the July Revolution [of 1830], when the liberal banker Laffitte led his Compère, the Duke of Orleans, in triumph to the Hotel de Ville, he let fall the words: “From now on the bankers will rule”. Laffitte had betrayed the secret of the revolution.

It was not the French bourgeoisie that ruled under Louis Philippe, but one faction of it: bankers, stock-exchange kings, railway kings, owners of coal and iron mines and forests, a part of the landed proprietors associated with them – the so-called financial aristocracy. It sat on the throne, it dictated laws in the Chambers, it distributed public offices, from cabinet portfolios to tobacco bureau posts.


the faction of the bourgeoisie that ruled and legislated through the Chambers had a direct interest in the indebtedness of the state. The state deficit was really the main object of its speculation and the chief source of its enrichment. At the end of each year a new deficit. After the lapse of four or five years a new loan. And every new loan offered new opportunities to the finance aristocracy for defrauding the state, which was kept artificially on the verge of bankruptcy – it had to negotiate with the bankers under the most unfavorable conditions. Each new loan gave a further opportunity, that of plundering the public which invested its capital in state bonds by means of stock-exchange manipulations, the secrets of which the government and the majority in the Chambers were privy to. In general, the instability of state credit and the possession of state secrets gave the bankers and their associates in the Chambers and on the throne the possibility of evoking sudden, extraordinary fluctuations in the quotations of government securities, the result of which was always bound to be the ruin of a mass of smaller capitalists and the fabulously rapid enrichment of the big gamblers. As the state deficit was in the direct interest of the ruling faction of the bourgeoisie, it is clear why the extraordinary state expenditure in the last years of Louis Philippe's reign was far more than double the extraordinary state expenditure under Napoleon, indeed reached a yearly sum of nearly 400,000,000 francs, whereas the whole average annual export of France seldom attained a volume amounting to 750,000,000 francs. The enormous sums which in this way flowed through the hands of the state facilitated, moreover, swindling contracts for deliveries, bribery, defalcations, and all kinds of roguery.

The defrauding of the state, practiced wholesale in connection with loans, was repeated retail in public works. What occurred in the relations between Chamber and government became multiplied in the relations between individual departments and individual entrepreneurs.

The ruling class exploited the building of railways in the same way it exploited state expenditures in general and state loans. The Chambers piled the main burdens on the state, and secured the golden fruits to the speculating finance aristocracy. One recalls the scandals in the Chamber of Deputies when by chance it leaked out that all the members of the majority, including a number of ministers, had been interested as shareholders in the very railway constructions which as legislators they had carried out afterward at the cost of the state.

On the other hand, the smallest financial reform was wrecked through the influence of the bankers. For example, the postal reform. Rothschild protested. Was it permissible for the state to curtail sources of revenue out of which interest was to be paid on its ever increasing debt?


And the nonruling factions of the French bourgeoisie cried: Corruption! The people cried: ? bas les grands voleurs! ? bas les assassins! [Down with the big thieves! Down with the assassins!] when in 1847, on the most prominent stages of bourgeois society, the same scenes were publicly enacted that regularly lead the lumpenproletariat to brothels, to workhouses and lunatic asylums, to the bar of justice, to the dungeon, and to the scaffold. The industrial bourgeoisie saw its interests endangered, the petty bourgeoisie was filled with moral indignation, the imagination of the people was offended, Paris was flooded with pamphlets – “The Rothschild Dynasty,” “Usurers Kings of the Epoch,” etc. – in which the rule of the finance aristocracy was denounced and stigmatized with greater or less wit.


falun bong's picture

The bankers of the time hated Napoleon because he was paying down government debt, not issuing more. That's why they banded together to bankroll Wellington's 200,000 troops headed to a little place called Waterloo.

Understand that bankers, especially central bankers, want war because they make so much money from it. So it's bankers that manipulate politicians to cause wars. People rarely want war themselves.

ciaoant1's picture

You are tlaking about the wrong Napoleon.


The Napoleon you are talking about is this guy


The Napoleon I'm talking about is a different guy:


Here's a small part of the Wikipedia article:

"Louis-Napoléon Bonaparte (20 April 1808 – 9 January 1873) was the President of the French Second Republic and as Napoleon III, the ruler of the Second French Empire. He was the nephew and heir of Napoleon I, christened as Charles Louis Napoléon Bonaparte. Elected President by popular vote in 1848, he initiated a coup d'état in 1851, before ascending the throne as Napoleon III on 2 December 1852, the forty-eighth anniversary of Napoleon I's coronation. He ruled as Emperor of the French until 4 September 1870. He holds the unusual distinction of being both the first titular president and the last monarch of France."


akak's picture

I absolutely LOVE Napoleons, especially the chocolate kind!

Mr Lennon Hendrix's picture

Bullish!  Bullish!  Bullish!  Come on guys!  Chant it with me!  Bullish!  Bullish!  Bullish!

cristo's picture

 Bullshit! Bulshit! Bullshit ! ............Bullshit! Bullshit! Bullshit!

lolmao500's picture

Well the premise fits with the fucked up world we live in where up is down and down is up.

Schmuck Raker's picture

The ol' "That plan might just be crazy enough to work", eh? +1

UP Forester's picture

The plan always works....

Until it doesn't.  Then it's just "unexpected effects."

gatorengineer's picture

There is some serious book of revelations stuff going on in the world today... Just sayin....

Gidas19's picture

According to the graph analysis, I'm long ZH.

Mr Lennon Hendrix's picture

Oh I just figured out what is going to happen.  Check this....

The Euro goes into a tailspin, it drops to $1, putting the DXY back into the high 80s.  Bernanke comes out and says this is killing exports, and isues QE X.  This spins the dollar back to the low 70s, and by then the DOW is at 15k.  Of course oil is at $150 and gold is at $2500.

bnbdnb's picture

You could prevent this by giving the printed dollars to people who actually don't have any. (The poor to middle class, maybe those making under $50k.)

Ghordius's picture

Do they buy stocks with it?

Clifhanger's picture

Very interesting.  So, if the Fed's bal sheet increasing, and USD rises as per the above, then what happens to commodities, equities, etc? Do they FALL now b/c the USD is appreciating, even in the face of the Fed prining press?  

bill1102inf's picture

RoboTrader called it

akak's picture

RobotTrader called shit

Gringo Viejo's picture

Further Orwellian Newspeak:

Printing more money enhances its value.

bnbdnb's picture

I see the dollar strengthening as long as those dollars arent actually being used to make purchases in the consuming economy.

Sudden Debt's picture

and yet again the economy is improving while we're looking at it.


SAT 800's picture

Well, for God's sake, don't blink then.

tony bonn's picture

bullish for the dollar relatively...absolutely it is a death wish.

Winterland's picture

I think this is a pretty commonly held thesis amongst most on the Street.

Sandmann's picture

So the Fed lets Senile Greenspan have free reign to suppress Interest Rates below domestic market equilibrium and bankrupt US manufacturers to facilitate Chinese product market penetration through underwriting huge overcapacity in US Investment Banking. His successor Bernanke thinks the only solution is to destroy US savings to prop up overcapacity in debt markets by pretending Liabilities are Assets on Bank Balance Sheets and sucking the remnants of the REAl US economy into the financialised vortex.

Who could possibly follow on from this Double-Act ?

apberusdisvet's picture

As the FRN debases, commodity prices will rise, at least at first for Americans and then for the rest of the world.  Our principal export now is inflation. 

Seditious Blasphemer's picture

I believe Max Keiser calls the cleptocrats running the current system "suicide bankers " for just these very headlines.

Wakanda's picture

The FRN is backed by F-14s,15s,16s... carrier groups, submarines, boots on the ground all over the planet, etc...  It is also backed by the internet, the power of the English language (especially in the sciences), and of course popular culture - the "Baywatch" factor.  Love it or hate it, this mighty juggernaut will stand against most other fiat currencies - if the Fed prints at about the same pace as other big paper issuers, and as long as oil flows from the MENA to the West and not the East.  Currencies that are rich in natural resources may outpace it occasionally.

Of course PMs will soar against everything.

Take delivery FiSHeS!

jimmyjames's picture

It’s quite possible that they’ll become frustrated when the currency markets move ‘the wrong way’ in spite of all their efforts to ‘kill the dollar’. In this case they may justify over the top expansionary monetary policies. In this case we would have a platform for severe inflation where monetary authorities keep the debasement schemes at full blast until they see the results they want (a falling dollar vis-à-vis other currencies).


I think that is assuming that all other countries will stand by and allow that to happen-

They wont-they'll devalue right alongside the dollar-

Currencies float and compete against each other-both up and down-

For eg: If the US were to print a trillion dollars based on GDP or per taxpayer capita-there is nothing stopping the Euros or Japan or any other country from matching the devaluation on the same basis-and the exchange rates would be a wash-of course gold would reflect the debasement as it always does-but on an exchange weighted basis-nothing would really change-unless something else-such as one or the others bond market pukes-then it would matter-

Money_for_Nothing's picture

Since all the countries of the world are either bankrupt or poor credit risk I don't think things are going to work out as planned. As pitiful as the dollar is I can't imagine holding rubles for any length of time. Sometime in the next ten years manufactoring will be back in the US. Globalization death throws we are in.

Marco's picture

Balance sheet expansion while trying to knock off a couple of points of interest rates might be ineffectual or even counter productive, but there are plenty of ways to succeed and succeed fast.

For instance if you really want to debase a currency in a fiat world the standard way is to print money and buy foreign currency/bonds. Simple and effective. Of course because it actually works it's really not an option ... if the US truly devalues it's currency and gets forced into trade balance as a result it would mean riots in the streets.

jimmyjames's picture

For instance if you really want to debase a currency in a fiat world the standard way is to print money and buy foreign currency/bonds. Simple and effective. Of course because it actually works it's really not an option ... if the US truly devalues it's currency and gets forced into trade balance as a result it would mean riots in the streets.


Everyone wants to have the weakest currency-but that is impossible-

If the US prints and buys foreign currency-what is there to stop the other countries from doing that as well?

"Getting forced into a trade balance"?...I don't follow your meaning-

"If" the US was successful in maintaining the weakest currency-it would be trade balance positive-

Silversinner's picture

All currency's on the planet used to be a

derivate of the dollar.This is quickly changing

when a lot of these country's start trading

without the dollar as intermediere.

BTW dollar is the speculation, not gold.

When these dollars held by all central banks are no

longer necessary and will be dumped on the market,

like treasuries today,the dollar will be toast.

Chickens come home to roast.





gkm's picture

I was prepared to consider this article with an open mind...and then I read it.  The author doesn't seem to understand the difference between derivatives with an asymetric risk/reward profile and the currency market.  Therefore, it's not worth considering the rest with any seriousness.  

ZH is really hurting for intelligent contributions.  

michaelsmith_9's picture

The USD should continue to make gains throughout this year as long as the Fed doesn't inject more liquidity into the markets.  The SPX is setting up for a very critical top, but it is important to confirm that top with an inter-market perspective and the AUDUSD is at a very interesting inflection point.  It could be hinting at a critical move lower for both the AUDUSD and the SPX in the near term.

ebworthen's picture

The FED will expand their balance sheet, and has the most capacity to do so of any central bank.

This is bullish for the dollar short term because it will chase money to the U.S. as Europe and the Euro chokes.

When the Euro is devalued and comes closer to parity with the dollar, all that FED QE and printing will have a whiplash effect on dollar valuation and inflation (dollar down, inflation up).

Not to mention the commodity/food inflation effects of QE that occur almost immediately.

Pullmyfinger's picture

I think you are all missing the point. What this actually signifies is that it's now inevitable that the US will soon arrange a formal devaluation of the dollar, being the only means to "win" (at least for a few weeks) the international race to the bottom. After all, there's more than one way to achieve the effect of printing without literally expanding the monetary base...

In the final analysis, the unspoken thought behind this article is simply a notion that tomorrow will merely prove to be an extension of today. This is the pitfall to linear thinking.

akak's picture

How does a government formally devalue a fiat currency, when there is intrinsicially nothing of value to which it is tied in the first place?  Devalue it in practice, of course; that is happening today, and has been happening for most of the past century.  But I fail to see a mechanism with which our government can de jure devalue the dollar in one fell swoop overnight.