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A Ember Of Inflation Inside A Sea Of Crude Oil
I'll get more into this topic in another post, but the actions of the Fed recently have created a large disincentive towards local lending. Lenders who had been facing insolvency due to mortgage backed securities not being worthy of the paper they were printed on, suddenly had their bottom lines rescued by our federal government (and all of our citizens, by proxy) once the Fed agreed to purchase those toxic securities at full face value. On top of that, the Fed then opened up all sorts of emergency liquidity channels in an attempt to get the banks lending again. However the banks may not be in a mood to loan to US citizens at the moment. There's two main reasons for this. The first is because they are occupied using money that they've borrowed from the Fed to buy US Treasury Bonds, which helps keep the US Treasury auctions running smoothly. (I've got a whole lot to write about that, just not in this post.) On top of that, the Fed is keeping interest rates so low that the lenders possess little interest in generating fresh loans. They just don't get that much of a profit. (A lot of personal investors are confronted with a similar issue these days.) But...foreign investments are usually paying significantly better interest rates right now. Additionally, the currency exchange markets (FOREX) permits them to take positions at one hundred to one fold leverage, so $1 million in assets can control and capture the profits from $100 million in foreign exchange movement. On the other hand, aren't the majority of the foreign investments an unsafe wager ? Won't the better return in, say Ireland, basically imply that there's a greater potential for default on loans made to them? Sure it does, but that's not important to the banking companies. Our government has already shown to the frat boy executives managing the financial industry that daddy will get them out of any problem they can possibly get themselves into, plus they've got access to federal money for a next to zero percent interest rate under the Federal Reserve's ongoing ZIRP (Zero Interest Rate Policy) , so why not load themselves up with however much they can and get out there and capture the bigger returns attainable offshore? Of course, this tactic does have some, shall we say, "unintended" side effects. The deluge of currency from our banks in to the foreign exchange and international bond markets is weakening the dollar and strengthening their foreign currencies. This might not appear to be a huge problem initially, but it has the outcome of making their goods more costly to us, which is not the way the game is supposed to be played. The truth is, many of our overseas trading partners have expended substantial time and energy making sure that their goods and services will be cheap for us to purchase. In the game, the United States is the endless consumer, and our powerful dollar can be used just about everywhere, so we buy, they sell, and everyone's satisfied. Neutralizing a torrent of American dollars that is in addition to the usual amount originating from America is not a simple thing to have to do. Most countries have to face a number of tough choices if they wish to keep their favorable balance of trade: 1) They might vault the excess dollars, which takes them out of the overall pool of accessible currency and restrengthens their currency. But they can't spend those US dollars without them becoming active once again, so they're stuck with them. (Imagine that a portion of your paycheck needed to be put into a non-interest bearing bank checking account, with the condition that if you ever take it out of the account and then use it to buy something, you'll abruptly have a pay cut from your boss.) On top of this, these vaulted US dollars are only good if inflation doesn't eat them up, which appears to be becoming more and more likely considering the on-going actions from the Federal Reserve and our government. 2) They can use them to purchase US Treasury bills. It's been the primary strategy for sterilizing excess money up to now, due to UST's being backed by the full faith and credit of the US government. But this method is looking much less appealing at the moment, as a result of several factors. The first being due to the very low rates that the US is paying for those American bonds. They're being forced to compete with all of those US banks who are obtaining virtually zero interest loans from the Federal Reserve when they wish to purchase an US Treasury bond. And in the bond trading world, lots of buyers equates to an extremely low bond interest rate. Additionally, since our interest rates are at near zero right now, the only real direction to go in the future is higher, and rising interest rates depreciate the worth of existing bonds. So considering this, a ten year bond with a very small 2.6% return rate isn't so desirable at the moment. Finally, China has been slowly but quietly selling its US Treasuries for Euros recently, leading some to think that a rush for the exits may potentially be in the works, which would end up being ruinous for anybody still left holding those bonds. 3) They can print their own money, and then use it to buy dollars, which in essence combats the fire of recently printed dollars by the us government with the fire of their own lately printed currency. Not surprisingly, if America can simply whip up a large sum of currency, then why can't they? This seems to be the least unpleasant alternative for quite a few countries at the moment, and is in fact the cause of the "currency manipulation" that the US is accusing a number of countries of doing. On the surface, this tactic appears to be ideal. It accomplishes the intended effect of revaluing the overseas country's currency without compelling them to vault dollars or acquire United States Treasuries. There is however, one not so minor trouble with this. You see, all the extra currency put out by both the US and by it's trading partners is going to find someplace to land. It attempted to land by affecting the trade balances and forcing the US to spend more for foreign goods, but that has been countered, so it's looking for another place to be used. I think that this extra money is going to find it's home inside the commodities markets. Things like oil, copper, gold, silver, palladium, along with other useful goods that are vital to making nearly everything else are likely to experience an upturn in their prices, and in some cases already have. Each freshly printed foreign currency note out there represents US dollars which haven't been removed from the marketplace via other methods, and that US dollar sterilization system is critical to keeping the inflation rate of real goods from exploding. So, the rest of the world has a choice of either taking a hit to their income in order to bury those added US dollars, or sharing in the commodity inflation which is currently being generated as all of those extra American dollars start to bid up commodities prices. Oil is the most likely target for this hit, due to it's use within nearly every other production system. And oil is also different through it's ability to transmit price inflation to the rest of an economy, due once more to its wide utilization. Currently, OPEC is looking at a price increase of their oil to $100 per barrel, and the marketplace might have even more severe ideas in regards to what that price should be. All of the bailouts from the last few years are coming back to us soon, and with the Fed making some considerable noises about needing even more, it's only going to intensify in the near future. Personally, I think we've already departed from the land of low inflation, and are currently running headlong into "inflation alley" at ever greater speeds. NOTE: This article is intended to be editorial in nature, and is not intended to impart investment advice. Article Directory: http://www.articledashboard.com I personally invite you to come over to my blog, The Rogue Economist, or check out my online E-Book, The $300 Trillion Dollar Crisis, |
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