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How Long Can the US-Dollar Defy the Law of Gravity?Gary Dorsch In the midst of the longest and deepest, post World-War II recession, America’s financial position with the rest of the world has deteriorated sharply. Three decades of massive trade deficits have turned the United States from the world’s top lender to the world’s largest debtor, - and dependent upon the whims of the so-called emerging nations, laden with huge foreign currency reserves, to finance the bailout of Wall Street Oligarchs, and President Barack Obama’s social programs. Foreigners own roughly half of the US-government’s publicly traded debt, or $3.47-trillion, representing nearly 25% of the size of the US-economy, the highest level in history. If foreign lenders were to significantly reduce their purchases of US-Treasury notes, without even dumping their current holdings, US long-term interest rates could zoom higher, and the US-dollar could crumble. That would deal a double whammy to the US-economy. Higher yields on Treasury debt could translate into higher mortgage borrowing rates for homebuyers, - weighing on the housing market, while a weaker US-dollar could lift the price of crude oil to above $70 per barrel, inducing an “Oil Shock” to the world economy. This nightmare scenario has been relegated to the den of doomsayers and fear mongrels, yet is starting to become an increasingly realistic proposition. Increasingly, some of the biggest foreign lenders to the US Treasury, such as Brazil, China, India, Russia, and Qatar, are grumbling aloud, about the endless string of trillion dollar US-budget deficits projected in the years ahead. Lenders are crying foul over the Federal Reserve’s radical experiment with “Quantitative Easing” (QE) - the printing vast quantities of US-dollars, and monetizing the US-government’s debt. “America, through this financial crisis, is accumulating a huge amount of debt. It’s a heavy burden on the US-dollar,” warned Jassem al-Mannai, chief of the Abu Dhabi-based Arab Monetary Fund on June 28th. “You have China and Russia proposing an international reserve currency other than the US-dollar. These developments could affect negatively the dollar, and you cannot just ignore them,” he warned. “We have lent a massive amount of capital to the United States, and of course we are concerned about the security of our assets,” warned Chinese PM Wen Jiaboa on March 13th. To speak truthfully, I do indeed have some worries. So I call on the United States to maintain its creditworthiness, and abide by its commitments and insure the security of China’s assets. We have already adopted a management policy of diversifying our ($2-trillion) foreign exchange reserves,” Wen warned.
The Congressional Budget Office has recently forecast the US-budget deficit for fiscal 2009, to reach a mind-boggling $1.825-trillion, or approximately 13% of GDP. Next year, the budget deficit is expected to total $1.43-trillion under Obama’s budget plan. Furthermore, the CBO sees the US-deficits between 2010 and 2019 totaling $9.1-trillion, thereby raising doubts about America’s ability to finance its debt at low interest rates, and whether it can maintain its top-tier AAA credit rating. The exploding US-budget deficit and the Fed’s policy of flooding the financial markets with US-dollars, knocked the value of the greenback 7% lower in the second quarter, and heightened fears on global bond markets about a surge in inflation. This had the effect of eroding the value of China’s holdings of US-Treasury notes, estimated at roughly $1.45-trillion, putting Beijing on the offensive with Washington. Since the Fed shocked the global markets on March 18th, by unleashing the “nuclear option” for monetary policy - “QE,” or printing an extra $1.1-trillion US-dollars, in order to buy US T-Notes and mortgage backed bonds, there has been a new dynamic influencing the psychology of the US-credit markets, namely, - latent paranoia over foreign flight from the US-dollar and Treasury Notes. On March 24th, the People’s Bank of China’s (PBoC) chief Zhou Xiaochuan, emphasized his worry over the inflationary risks from the Fed’s money printing scheme, by proposing to replacing the US-dollar with the SDR currency, that is controlled by the IMF, as the new global reserve currency. Suresh Tendulkar, an adviser to Indian Prime Minister Manmohan Singh,is urging New Delhi to diversify its $265-billion foreign-exchange reserves and hold fewer US-dollars.
China’s holdings of US-Treasury debt have soared by $257-billion from a year ago, to $763-billion today, exceeding Japan’s holdings of $686-billion. Increasingly, the functioning of the massively indebted American economy is dependent upon China’s willingness to recycle much of its export earnings, (largely dependent on sales to the US-consumer), to provide loans to the US-government. Yet, any precipitous move by Beijing to become a net seller of US-Treasury debt, runs the risk of igniting a US-dollar selling panic, triggering massive losses in China’s own portfolio of Treasuries, and the collapse of its main export market, the United States. India’s economic adviser Tendulkar says US-dollar holders face a “prisoner’s dilemma” in terms of managing their bond holdings. Recent saber-rattling by Beijing over Washington’s mis-management of its fiscal and monetary affairs, began to conjure-up fears in the global bond market, that Beijing was discreetly selling-off some of its US-bond holdings. The benchmark Treasury’s 10-year yield, which influences the direction of home mortgage rates, zoomed higher in the second quarter, briefly penetrating the psychological 4.00% area, up from 2.50% when the Fed began its mad experiment with “nuclear QE.” The surge in yields caught the Fed and the US Treasury by complete surprise. Selling hysteria in the Treasury bond market reached a fever pitch on May 27th, when Dallas Fed chief Richard Fisher, told the Wall Street Journal, “senior officials of the Chinese government grilled me about a hundred times, on whether we are going to monetize the actions of our legislature. I was asked at every single meeting about our purchases of Treasuries. That seemed to be the principal preoccupation of those that invested their surpluses in the United States,” he said. With the Treasury’s 10-year yield bumping against the 4.00%-level, the US Treasury chief Timothy Geithner began a two-day visit to Beijing, amid speculation that China might scale back its purchases of US Treasury notes. Geithner’s main objective was reassure top-Chinese officials that the Obama team will safeguard Beijing’s holdings of US-debt by bringing down the federal budget deficit and phasing out the Fed’s policy of flooding the financial markets with US-dollars. The next-day, on June 2nd, Fed chief Benjamin Bernanke, boxed into a tight corner by Beijing’s saber rattling, warned the US-Congress that there is a limit to how many US-dollars the central bank can print. “Unless we demonstrate a strong commitment to fiscal sustainability in the longer term, we will have neither financial stability nor healthy economic growth,” Bernanke warned US-lawmakers.
“Maintaining the confidence of the financial markets requires that we begin planning now for the restoration of fiscal balance. Either cuts in spending or increases in taxes will be necessary to stabilize the fiscal situation. The Fed will not monetize the debt!” Bernanke’s pledge to stop the printing presses after August was a grand omission of Washington’s subservience to its paymasters in Beijing. After Bernanke signaled the outer limits of the Fed’s experimentation with “nuclear QE”, the Treasury bond vigilantes loosened their vice-grip, and yields on the 10-year note tumbled by 50-basis points over the next four-weeks to 3.50-percent. On June 16th, Fed governor Kevin Warsh backed-up the Fed chief, declaring, “we will not compromise price stability buy monetizing large US budget deficits,” explaining that “financial markets may extract penalty pricing, if fiscal authorities are unable to demonstrate a credible return to sustainable budgets.” Sure enough, on June 24th, the Fed held to its pledge to limit its purchases to $1.45-trillion in mortgage-related debt by year-end, and $300-billion in Treasury notes by the end of August. Beijing taught the Fed learned a valuable lesson, - trying to peg long-term interest rates at artificially low levels, through massive money printing, can backfire, by igniting inflation fears and sending yields sharply higher. To read the rest of this article, click on the hyperlink below: http://www.sirchartsalot.com/article.php?id=112 Jul 7, 2009 321gold Ltd |
