Thursday, August 12, 2010

The Waning Safety Of The US Dollar And US Treasuries

When all else fails, run to the "safety" of the US Dollar and US Treasuries. How you can find safety buying the currency and debt of the WORLD'S LARGEST DEBTOR NATION completely escapes me, but once again we have witnessed the ridiculous as world markets sold off on the Fed's limp policy actions with regards to the ever weakening US Economy on Tuesday.

Consider though, the possibility that Dollar weakness to be caused by the Fed's "renewed" quantitative easing [QE] policy was already priced into the Dollar Index. The Fed comes forward with an absolutely tepid, limp at best, tiny easing plan to use the principal payments on the toxic assets they have sequestered on their balance sheet to purchase two to ten year dated US Treasuries. How is this supposed to fuel growth in our floundering economy? Exactly. And after considering it, global investors didn't buy it either, and instead focused on the Fed's "observation" that "the pace of economic recovery is likely to be more modest in the near term than had been anticipated." The 10-member FOMC committee used very bleak language to describe the US economy, calling investment in commercial property "weak" and noting employers "remain reluctant to add to payrolls".

US Federal Reserve starts 'QE-lite' to placate markets
By James Quinn, US Business Editor
The US Federal Reserve, confirming a marked slowdown in the world's largest economy in recent months, said it plans to buy long-dated US Treasuries in an attempt to keep alive growth and maintain the vast amounts of money it pumped into the US economy during the financial crisis.

But rather than allocating new funds to the effort, the central bank said it will use the proceeds from its first $1.7 trillion (£1.1 trillion) quantitative easing (QE) cycle to buy the government bonds "in order to help support the economic recovery in a context of price stability". The proceeds are estimated to be $200bn to $300bn over the next 12 months, allowing it to keep its balance sheet at close to its present $2.06 trillion.

Paul Ashworth, of Capital Economics, called the decision a "symbolic gesture" designed to allow the Fed to measure the exact extent of the country's economic woes while reassurring investors.

Expecting a more aggressive QE response, currency traders had hammered the Dollar for the last six weeks, likely accumulating a very large short position in the process, hoping to cash in on a Fed announcement that would ring Hyperinflation alarms around the globe. Instead, the Fed's QE firecracker turns out to be a real dud. Talk about a wet fuse....and currency traders scramble to cover their short positions despite all the negative fundamental reasons to remain short the Dollar. Including more Dollar negative news released yesterday.

Trade gap likely points to slower economic growth
WASHINGTON — A decline in exports and a sharp rise in imports pushed the U.S. trade deficit in June to its widest point since October 2008, raising new concerns about the weakening economic recovery.

The $49.9 billion gap is worrying economists, who fear it means the U.S. economy grew at half the rate in the April-to-June quarter than what was first estimated by the government last month.

The trade deficit jumped 18.8 percent in June compared to May, the Commerce Department reported Wednesday.

While the rise in imports suggests the U.S. economy is growing, the drop in exports is a troubling sign for U.S. manufacturers who rely on overseas markets.

Nigel Gault, an economist at IHS Global Insight, said the June deficit figure means that the government will trim its estimate of overall economic growth from an already sub-par 2.4 percent to 1.2 percent when it releases a revised estimate on Aug. 27.

He said that placed the economy "on even shakier ground" and underscored why the Federal Reserve announced on Tuesday that it would supply additional support for economic growth.

"The slowing in exports will only fan fears of a faltering U.S. recovery," said Sal Guatieri, an economist at BMO Capital Markets.

But of course, the US Dollar and US Treasuries are your port of safety in this financial storm...

Deficit in July Totals $165.04 Billion
The U.S. government spent itself deeper into the red last month, paying nearly $20 billion in interest on debt and an additional $9.8 billion to help unemployed Americans.

Federal spending eclipsed revenue for the 22nd straight time, the Treasury Department said Wednesday. The $165.04 billion deficit, while a bit smaller than the $169.5 billion shortfall expected by economists polled by Dow Jones Newswires, was the second highest for the month on record. The highest was $180.68 billion in July 2009.

The government usually runs a deficit during July, which is the 10th month of the fiscal year. So far in fiscal 2010, the government spent $1.169 trillion more than it made. That figure is about $98 billion lower than during the comparable period a year earlier.

For all of fiscal 2009, the U.S. ran a record $1.42 trillion deficit. Fiscal 2010 might run a little higher—the Obama administration sees $1.47 trillion.

Wednesday's monthly Treasury statement said U.S. government revenues in July totaled $155.55 billion, compared with $151.48 billion in July 2009.

Spending was higher, totaling $320.59 billion. July 2009 spending amounted to $332.16 billion.

Year-to-date revenues were $1.75 trillion, compared with $1.74 trillion in the first 10 months of fiscal 2009. Spending so far in this fiscal year is $2.92 trillion, versus $3.01 trillion in the prior period.

Spending for benefits for the unemployed year to date totaled $121.4 billion; for July, the tab was $9.8 billion, the Treasury statement said.

Years of deficit spending by Washington have led to a mounting national debt. Interest payments so far in fiscal 2010 amount to $185.25 billion; by contrast, corporate taxes collected by the government during the same 10 months were $139.71 billion. Interest payments in July alone were $19.9 billion.

But of course, the US Dollar and US Treasuries are your port of safety in this financial storm...

Dollar hits 15-year low against yen
NEW YORK ( -- The dollar fell to a 15-year low against the Japanese yen Wednesday, as investors flocked to safe-haven trades after weak economic data was released by

China and the Federal Reserve posted a bearish outlook.
What prices are doing: The greenback fell as much as 0.83% against the Japanese yen to ¥84.73 on Wednesday, before paring back some of those losses to trade around ¥85.37.

It was the dollar's lowest level against the yen since 1995, when it traded around ¥84.81.

But of course, the US Dollar and US Treasuries are your port of safety in this financial storm...not to mention the skew in the US Dollar Index created because 56% of it is weighted towards the Euro. How safe is the US Dollar if currency traders view the Yen as "safer" than the US Dollar? Japan currently runs a current account "surplus" versus the MASSIVE US current account deficit, and thus the Yen is considered by many as "safer" than the US Dollar.

In essence, yesterdays "rally" in the Dollar was more about short covering in the currency markets, than it was about the "safety" of the US Dollar. Notably, every asset class fell yesterday, including the Precious Metals, EXCEPT US Treasuries...the one asset the Fed offered implied support for with their announcement to buy Treasuries. "Hey, if the Fed's buying, so should I!" Ah...the blind leading the blind down the road to ruin.

Could Fed's Move Against Deflation End Up Backfiring?
Few economists see actual deflation in the wings. But given the the economy's slow growth, marked by weak demand, and a spate of recent reports showing falling prices for goods and services, they say deflationary expectations are real and growing.

Economists admit that though the price of many durable goods has been falling, if you take food, housing and oil out of the consumer price index, prices are decidedly higher. What's more, wages-a key ingredient in the deflationary equation-are not falling.

"It isn't deflation per se that bothers the Fed, it's deflationary expectations," explains Schilling.

Economists say Fed boss Ben Bernanke and the FOMC memmbers may have wanted to seem assertive and reassuring in its policy initiative, but at this point the move appears to have backfired.

"It's almost as if their statement now is contributing to deflationary expectations," says Chris Rupkey, chief economist at Bank of Tokyo-Mitsubishi, who otherwise does not subscribe to the deflation argument.

Economists and money managers say the Fed clearly intends to push intermediate and long term rates lower, much as it has with short term rates, to encourage demand and risk, whether it's lending and borrowing or production and consumption, all of which supports price appreciation, not depreciation.

"They're hoping it creates a positive economic impact to avoid that [deflation]," says Jim Awad, managing director at Zephyr Management.

Much like with the recent rally in Treasurys, analysts and investors are rightly asking just how low the Fed can go.;_ylt=AhbqcuKx9hTu4re4zAYw0l.7YWsA;_ylu=X3oDMTE1NjNmNm9iBHBvcwM1BHNlYwN0b3BTdG9yaWVzBHNsawNjb3VsZGZlZHNtb3Y-?x=0&sec=topStories&pos=3&asset=&ccode=

How low can the Fed go? How about below zero, or rather, further below zero. Real interest rates that are negative, where the Fed is literally giving money away. If there is a negative real interest rate, it means that the inflation rate is greater than the interest rate.

Ignoring the US Governments CPI data, and using more "accurate inflation date" from a source such as John Williams at If interest rates are at zero, and inflation is at 8.4% [, July 16, 2010] the real interest rate would be at -8.4%. In other words in you put $10k in the bank, a year from now you would only have $9160 in purchasing power remaining as the "value of your money would have diminished by 8.4% over the preceding year. The Fed's actions Tuesday show a determination by Bumbling Ben and friends to drive interest rates LOWER on US Government debt, than it is currently. Who is going to buy this debt, if the value of their purchase is guaranteed to drop going forward in time?

Why Not Negative Interest Rates?
The classic argument is that the possibility of simply switching to paper currency, which by definition circulates at par (a zero interest rate), is what makes a generalized negative interest rate on deposits or securities impossible. As Buiter says about creating negative interest rates, “Currency is the only problem.” We will return to the problem of currency in a moment.

But let’s begin with Treasury bills. Imagine a financial panic, when everybody wants to own Treasury bills, no matter what the yield. Now along comes the Fed, with its infinitely expandable balance sheet, and bids for 90-day bills until their price reaches 100.5, for example, or 101. Their interest rate is now about negative 2 percent or 4 percent.

How would banks respond? There would be no point in buying Treasury bills if they could simply hold excess reserves at the Fed instead. This is the banking equivalent of putting banknotes in the mattress: “Many banks prefer to hoard cash,” is a recent analyst’s comment. Indeed, one of the most notable features of the present crisis has been the explosion of banks simply keeping their money on deposit at the Fed. During 2008, these deposits increased by a factor of more than 40: from $21 billion to $860 billion.

A negative interest rate on excess reserves would result in a disincentive to hold Fed deposits, which would increase the banks’ incentive for the funds to be put out in the interbank market or the commercial paper market or in loans instead.

But it would be straightforward for the Fed to put a negative interest rate on these excess reserves, just as the Swiss did on foreign deposits. The resulting disincentive to hold Fed deposits would increase the banks’ incentive for the funds to be put out in the interbank market or the commercial paper market or in loans instead—yes, that’s the idea.

Could the banks in turn put negative interest rates on customers’ deposits with them? They might not have to if they were doing something with the money besides holding risk-free assets, but in principle they could. Something similar is done by charging fees on demand deposits.

This will most likely be the Fed's next move, cutting the interest rate paid on banks excess reserves held at the Fed to force the money into the "system". The Fed is going to be very cagey about blatantly adopting a policy of Quantitative Easing as this sets off far too many Hyperinflation bells. Stealthy moves like Tuesday's, and a possible cut in excess reserve interest rates will be used first, before going down the road to ruin head on.

What Can the Fed Do?

Presently, the Fed can’t reduce nominal interest rates enough to encourage lending, which would get money circulating throughout the economy, stem the deflation and raise growth.

...banks have more than $1 trillion of excess reserves — money that the Fed has created that banks could lend immediately but are just sitting on. It’s the economic equivalent of stuffing cash under one’s mattress.

Economists are divided on why banks are not lending, but increasingly are focusing on a Fed policy of paying interest on reserves — a policy that began, interestingly enough, on October 9, 2008, at almost exactly the moment when the financial crisis became acute.

The Fed has long required banks to hold a percentage of their deposits in reserve at the Fed itself — in effect, the Fed is the bank for banks. This serves two purposes. It protects depositors from a bank run and it helps the Fed control the money supply. Raising reserve requirements will reduce the funds that banks have available to lend; reducing reserve requirements will make more money available.

Historically, the Fed paid banks nothing on required reserves. This was like a tax equivalent to the interest rate banks could have earned if they had been allowed to lend such funds. But in 2006, the Fed requested permission to pay interest on reserves because it believes that it would help control the money supply should inflation reappear.

It’s not clear whether the Fed contemplated the impact of paying interest on reserves in a deflationary situation such as we have now. Although the interest rate that is paid is very modest presently — one quarter of a percentage point — it is a risk free rate and has the deflation rate added to it. As noted above, during deflation cash in effect earns a rate of return even when interest rates are near zero.

Thus many economists believe that the Fed has unwittingly encouraged banks to sit on their cash and not lend it by paying interest on reserves. Eliminating interest on reserves would therefore encourage lending.

Gold To be Supported by Negative Real Interest Rates
By: GoldCore
With the European Central Bank and the Bank of England leaving interest rates unchanged at historic low levels, at 1 percent and 0.5 percent respectively, the opportunity cost of holding gold remains negligible. Especially as inflation has picked up in both the EU and especially in the UK where it remains stubbornly above the BoE's 3% target rate (see News below). Negative real interest rates remain positive for gold and until savers and bondholders are compensated for considerable risk with higher yields, gold is likely to remain in a secular bull market.

The dollar has fallen recently against most currencies and has reached 1.2650 against the euro. With no fundamental change in the outlook for the European economies, the bounce in the euro seems more a function of US dollar weakness rather than euro strength. Markets may be starting to examine the fiscal challenges facing many US states (some of which are akin to those faced in European economies) and the massive unfunded liabilities of the US.

The Real Reason It Is Still Too Early to Bet Against Gold
By Andrew Mickey, Q1 Publishing
The main driver for gold prices is real interest rates.

Real interest rates are calculated by taking the nominal rate of interest (what is actually paid) and subtracting inflation.

Right now real interest rates are negative. They’re below zero. And the impact of negative real interest rates is always the same, asset bubble.

You see, when real interest rates are below zero, cash and short-term investments lose money.

In this environment it’s nearly impossible to find decent yields. That’s why savings accounts, CDs, and bonds are paying next to nothing. As a result, savers and investors are forced to turn to other assets which offer return above inflation.

Historically, when real interest rates are negative, they turn to gold.

Deflation remains a myth. A myth the Fed must perpetuate for as long as they can before they can "reluctantly" unleash over $1 TRILLION of excess bank reserves into the system. They have faced mounting criticism of their ballooned balance sheet, and are reluctant to add to it "publicly". Tuesdays policy announcement to buy two to ten year treasuries with the principal payments on their toxic assets was merely a ruse, ...a shot across the bow of the deflationists. They had hoped this warning shot would silence the deflationists cries, and encourage more spending by consumers.

What the Fed fails to accept, is that consumers are in no mood to spend. You can't spend if you don't have a job, and you spend even less if you don't have any money to spend. DEBT continues to be the NUMBER ONE problem facing Americans. Spending continues to be the NUMBER ONE problem facing America's government. The Fed's central planning of the economy is proving to be ever more a failure. Eliminate the Fed, eliminate the financial crisis.

Report: Overall consumer spending tepid in July
NEW YORK (AP) -- American shoppers dug in their heels in July, bad news for the stalling economy and worse for struggling retailers.

Excluding gasoline and autos, U.S. retail sales rose a meager 0.1 percent last month from June, according to figures released Thursday by MasterCard Advisors' SpendingPulse, which estimates spending in all forms including cash. Excluding autos, sales fell -- by 0.9 percent.

But of course, the US Dollar and US Treasuries are your port of safety in this financial storm...

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