Yen

Now what?

Alan Wheatley, Global Economics Correspondent for Reuters has written a very interesting article, 'Analysis: China's currency foray augurs geopolitical strains’ where he emphasizes China’s desire to wean out the US dollar’s currency reserve status. China is actively taking steps to phase out the US dollar which will decrease volatility in oil and commodity prices and deride the ‘exorbitant privilege' the USA commands as the issuer of the reserve currency at the centre of a post-war international financial architecture which is now failing.   In 1971, U.S. Treasury Secretary John Connally said, "It's our currency and your problem". China is frustrated with what it sees as the US government’s mismanagement of the dollar, and is now actively promoting the cross-border use of its own currency, the yuan, or also called the renminbi, in trade and investment. China’s goal is to decrease transactions costs for Chinese importers and exporters. Zha Xiaogang, a researcher at the Shanghai Institutes for International Studies, said Beijing wants to see a better-balanced international monetary system consisting of at least the dollar, euro and yuan and perhaps other currencies such as the yen and the Indian rupee. "The shortcomings of the current international monetary system pose a big threat to China's economy," he said. "With more alternatives, the margin for the U.S. would be greatly narrowed, which will certainly weaken the power basis of the U.S."

In a post entitled 'Mugabenomics: Inflation in UK Higher than in Zimbabwe,' Guido Fawkes points out how the Liberal Democrats Vince Cable once warned that Quantitative Easing (QE) was “Mugabenomics.” This was prior to coming to power and a swift u-turn which would make even the most slippery politician proud. Remember when Vince Cable warned that Quantitative Easing (QE) was “Mugabenomics”? Vince flip-flopped on that even before he joined the coalition.  Guido Fawkes then reminds its readers about the time when George Osborne said “Printing money is the last resort of desperate governments when all other policies have failed.”  Alas as the blog rightly warns, "In government Osborne has overseen the printing of more money than any other Chancellor in British history. A quarter of the national debt – all this government’s overspending – has been bought by the Bank of England via QE."  “So it is not a shock that inflation in Zimbabwe (3.63%) is now lower than inflation in the UK (3.66%, August 2011-July 2012).” Those who have been warning about this monetary madness for some years are gradually being proved right

Somewhere deep in the bowels of the world’s Western central banks lie vaults holding gargantuan piles of physical gold bars… or at least that’s what they all claim.

Our analysis of the physical gold market shows that central banks have most likely been a massive unreported supplier of physical gold, and strongly implies that their gold reserves are negligible today. If Frank Veneroso’s conclusions were even close to accurate back in 1998 (and we believe they were), when coupled with the 2,300 tonne net change in annual demand we can easily identify above, it can only lead to the conclusion that a large portion of the Western central banks’ stated 23,000 tonnes of gold reserves are merely a paper entry on their balance sheets – completely un-backed by anything tangible other than an IOU from whatever counterparty leased it from them in years past. At this stage of the game, we don’t believe these central banks will be able to get their gold back without extreme difficulty, especially if it turns out the gold has left their countries entirely. We can also only wonder how much gold within the central bank system has been ‘rehypothecated’ in the process, since the central banks in question seem so reluctant to divulge any meaningful details on their reserves in a way that would shed light on the various “swaps” and “loans” they imply to be participating in. We might also suggest that if a proper audit of Western central bank gold reserves was ever launched, as per Ron Paul’s recent proposal to audit the US Federal Reserve, the proverbial cat would be let out of the bag – with explosive implications for the gold price.... We realize that some readers may scoff at any analysis of the gold market that hints at “conspiracy”. We’re not talking about conspiracy here however, we’re talking about stupidity. After all, Western central banks are probably under the impression that the gold they’ve swapped and/or lent out is still legally theirs, which technically it may be. But if what we are proposing turns out to be true, and those reserves are not physically theirs; not physically in their possession… then all bets are off regarding the future of our monetary system.

When it comes to investing in gold, investors often see the world in black and white. Some people have a deep, almost religious conviction that gold is a useless, barbarous relic with no yield; it’s an asset no rational investor would ever want. Others love it, seeing it as the only asset that can offer protection from the coming financial catastrophe, which is always just around the corner. PIMCO's views are more nuanced and, we believe, provide a balanced framework for assessing value. Their bottom line: given current valuations and central bank policies, we see gold as a compelling inflation hedge and store of value that is potentially superior to fiat currencies.

The plight of the salaryman

A terse official action plan for when the big S hits the fan.

Never try to teach a pig to sing, advised Robert Heinlein. It wastes your time and it annoys the pig. Similarly, never try to convince a central banker that his policies are destructive. After five years of enduring crisis, market prices are no longer determined by the considered assessment of independent investors acting rationally (if indeed they ever were), but simply by expectations of further monetary stimulus. So far, those expectations have not been disappointed. The Fed, the ECB and lately even the BoJ have gone “all- in” in their fight to ensure that after a grotesque explosion in credit, insolvent governments and private sector banks will be defended to the very last taxpayer. Conventional wisdom is that such moves are justified during this period of economic slowdown, as everyone agrees that the market is ’deleveraging’.  But as the consistently excellent Doug Noland points out, this idea of deleveraging (i.e. reduction of available credit) in the US is a myth.

In the spirit of the European Bank Stress Tests and in the continuum of the Ring around the Rosie concocted by Brussels we are about to be handed another slew of numbers that will show that Spain is fine, prospering and running along just with no difficulties at all; thank you. This data is being prepared by the German firm Oliver Wyman, the German consulting firm. You may recall that we were supposed to have audited financials by the end of September, which was promised by Spain, however that was apparently canceled and there is no such audit underway. So much for the promises of Spain. We can tell you now, with surety, that the evaluation that we will be handed by Oliver Wyman will have all of the value of the paper found in the 'banos' of any restaurant in Madrid.

Ray Dalio, founder and co-chief investment officer of Bridgewater Associates, L.P. and one of the most successful hedge fund managers of all time told Maria Bartiromo last week that he owns gold and that he sees no “sensible reason not to own gold”. The interview was part of the Council on Foreign Relations (CFR) Corporate Program's CEO Speaker Series, which provides a forum for leading global CEOs to share their priorities and insights before a high-level audience of wealthy and influential CFR members.  The respected hedge fund manager suggested that a depression and not a recession was likely and warned of social unrest and the risk of radical politics as was seen with Hitler and the Nazis in the Depression of the 1930’s. Dalio spoke about how “gold is a currency” and when asked by Bartiromo “do you own gold?”, he smiled and said “Oh yeah, I do.” The admission elicited a laugh from the CFR audience. Dalio’s interview is important as it again indicates how slowly but surely gold is moving from a fringe asset of a few hard money advocates and risk averse individuals to a mainstream asset. Wealthier people and some of the wealthiest and most influential people in the world are slowly realising the importance of gold as financial insurance in an investment portfolio and as money. This will result in sizeable flows into the gold market in the coming months which should push prices above the inflation adjusted high of 1980 - $2,500/oz. The interview section where Dalio is asked about gold by an audience member begins in the 43rd minute and can be seen here.

The last straw: invoking Japan to rationalize Fed policies and government deficits

While the US is only now embarking on QE3, on Tuesday night, to much fanfare, the Bank of Japan, in sympathy to the Chairsatan, launched QE 8. As we reported, the entire JPY10 trillion incremental intervention was fully priced in and digested less than 9 hours later, confirming that monetary policy is now completely helpless to do anything but destabilize currencies for a brief period of time (and at every greater dilutions). Here is how this farce of central-planner hubris looked through the eyes of UBS' veteran trader Art Cashin.

• Deposit Flight From Europe Banks Eroding Common Currency (Bloomberg)
• BOJ eases monetary policy as global slowdown bites (Reuters)
• Stalled Rally Puts Pressure on Spain (WSJ)
• Missed Chances Stoke Skepticism Over EU’s Crisis Fight (Bloomberg)
• Germany's big worry: China, not Greece (Reuters)
• Goldman names new CFO, heralding end of an era (Reuters)
• Russia Demands U.S. Agency Halt Work (WSJ)
• Fed’s Dudley Says Easing Vital to Spur Too-Slow Growth (Bloomberg)
• Romney under fire from all sides (FT)
• Poland cuts red tape to spur growth (FT)
• IMF to Put Argentina on Path to Censure Over Inflation Data (Bloomberg)

Earlier today we casually wondered whether the US stands to lose more by supporting China or Japan in their escalating diplomatic spat, considering the threat of a US Treasury sell off is certainly not negligible, a dilemma complicated by the fact that as today's TIC data indicated both nations own almost the same amount of US paper, just over $1.1 trillion. In a stunning turn of events, it appears that China has taken our thought experiment a step further and as the Telegraph's Ambrose Evans-Pritchard reports, based on a recommendation by Jin Baisong from the Chinese Academy of International Trade (a branch of the commerce ministry) China is actively considering "using its power as Japan’s biggest creditor with $230bn (£141bn) of bonds to "impose sanctions on Japan in the most effective manner" and bring Tokyo’s festering fiscal crisis to a head." I.e., dump Japan's bonds en masse.

This time, the young generations are paying the price.