Thursday, April 7, 2011

ECB Raises Interest Rates, Precious Metals Pause

With the grand spectre of an ECB interest rate decision now behind us, perhaps some calm might return to the Precious Metals and currency markets.  ECB president Jean-Claude Trichet made it very clear today that the ECB did NOT decide that today's 1/4 point interest rate increase was the first of a "series" of interest rate increases.  The ECB today gained credibility in it's fight against inflation in the Eurozone, but this announcement may have taken some of the stiff breeze out of the Euro's sails for now.

"This makes the ECB the first major developed economy central bank to hike rates and the decision will cement its reputation as a single-minded inflation fighter," said ABN Amro economist Nick Kounis.

"The hike is unwelcome for peripheral countries, but arguably the core member states were in need of this move already some time ago. In that sense, the timing of the increase is a balancing act, which is part and parcel of the one-size-fits-all monetary policy," he added.

In his statement, Mr. Trichet said, "We will continue to monitor very closely all developments with respect to upside risks to price stability."  This is a signal that the ECB will NOT be raising interest rates again before June.  Mr Trichet, during his press conference was clear, in stating that today's interest rate increase was NOT the first in a series of rate increases, and the ECB will, as they have in the past, take action on interest rates when they deem it necessary.

I would assume, based on Mr. Trichet's statement and his comments this morning, that the heat in the Euro may be about to dissipate a bit in the near term, and that Eurozone sovereign debt issues will become once again more prominent in the headlines and may even pressure the Euro some in the near-term.

It was interesting watching Mr. Trichet's post rate announcement press conference, and imagining the Bernanke press conference following this month's Fed meetings on April 26-27.  I suspect Bumbling Ben will look much more the deer caught in the headlights, than the very confident central banker that Mr. Trichet appears to be in his press sessions.  There is an honesty about Mr. Trichet that Bumbling Ben could never pull off...even if this pathological liar took extensive acting classes. 

Mr. Trichet is very clear in his comments and answers to questions.  It is obvious why the Euro has gained so much respect globally of late.  Particularly from the Chinese and the Arab Oil states.  The Dollar's weakness stems from a number of growing inadequacies as a reserve currency, but none more so than the credibility of it's chairman, Bumbling Ben Bernanke.

This, then, puts a great deal of pressure on the Fed this month following their meeting to show equal vigilance towards the threat of rising inflation here at home.  Let's face it, a large reason for the ECB's inflation fears lie at the feet of the US Federal Reserve's blatant money printing to fund it's present QE2 debacle.  The Fed's QE2 is responsible for inflation fears around the globe.  Despite his denials, Bumbling Ben Bernanke's insistance on fighting deflation by printing money IS causing a catastrophic rise in food and energy prices that are threatening to cause more damage to the World Economy than the banking crisis of 2007-08 have all ready.

Therefore, we must take very seriously the possibility that in the very near-term there may be a major shift in Fed monetary policy.  In order to protect the US Dollar AND the US Treasury market, the Fed is going to have to let it's present QE2 program expire as planned, and refrain from an immediate jump to QE3.

The Fed meets on April 26-27 and does not meet again until June 21-22.  Their June meeting is one week before the QE2 program is scheduled to end.  It is unlikely the Fed will wait until their June meeting to confirm their intent to let QE2 expire as planned.  April 27 may well be the "drop dead" day for QE2.  It is noteworthy that Bumbling Ben has schedule the first Fed Chairman press conference following a FOMC meeting for that day.  Bumbling Ben is going to have a lot of "explaining" to do that day if the Fed is indeed going to let QE2 end as planned.

Yes, yes, yes...the Fed can't end their QE.  But, they can pause it, and by every measure it is time that they do.  Quantitative Easing is too threatening the Dollar at this juncture. 

"But who will buy the Treasury's debt, if the Fed stops buying it?"

Great question!  The answer is simple:  The banks.  The banks are the ones buying stocks and commodities, driving them ever higher with the Fed's money to give the appearance of an economic recovery.  If the Fed pulls the plug on QE2, the banks will quickly sell their stocks and commodities, and use the funds to buy treasuries.  This will "temporarily" lift that burden from the Fed.  Once the pain of falling stocks begins to register with the Fed and interest rates begin falling again, then, and only then, will the Fed step forward with QE3.

Dave Galland of the Casey Report in a recent interview can eloquently make much more sense of this than I.  This interview is a MUST READ:

Major Policy Shift Ahead
Interview with Dave Galland by Louis James, Editor, International Speculator
L: David, in recent editorials you’ve warned of what could be an important shift in Fed policy – can you fill us in?

David: That the shift, and it is imminent, will not change the larger trend, but it has the potential to be quite disruptive over the short-term.

L: Explain.

David: In terms of the larger trends, the fundamentals that have caused so much pain and economic woe over the last ten years or so remain intact. If anything, they’ve gotten worse. We’ve gotten currency debasement, not just in the U.S., but especially in the U.S. dollar, which is not just any currency, but the world’s reserve currency. We’ve got a truly mind-boggling expansion of the reach of government into all aspects of society and the economy, with all that that implies in terms of regulation, taxation, controls over investments and finance, impact on personal liberty, and so forth. By recognizing this destructive trend for what it is, investors can position themselves to avoid the worst, and to profit by betting on things like the continuing debasement of the dollar.

So that’s the big picture. There is growing evidence that in the next month or two we will head in to a very dangerous period. As your readers don’t need me to tell them, the Fed has been extremely supportive of the U.S. government’s insane spending, polluting its own balance sheet by buying up toxic loans by the hundreds of billions and by pumping enormous quantities of cash into the money supply. You don’t have to look very hard to understand why we have seen some small recovery in the economy, much of which has been driven by the financial sector that has been the recipient of so much largess – it was bought and paid for by the government, working hand in glove with the Fed. But there is about to be a fundamental change in this arrangement, as it appears that the Fed has decided that it’s time to take a step back from its monetization – or quantitative easing (QE) as they now term it –in the hopes that the market will step in to fill the large gap it will leave.

They can’t know how that’s going to work out, but if they don’t stop pumping money in to the economy, they never will know if the quantitative easing has worked.

Based on a lot of statements from a number of the voting members of the Federal Open Market Committee, the change just ahead is that they are serious about stopping QE in June. As they won’t wait until the last minute to confirm the end of their Treasury buying, I would expect their intentions to be made clear following their end of April meeting, the full minutes of which should be released in early May.

L: To be clear, do you mean no QE3, or that they cancel the portion of QE2 they haven’t spent yet?

David: They may leave themselves a bit of wiggle room by holding back some of the funds slated to be spent as part of QE2, in the hopes of demonstrating a high level of confidence in their decision to stop the monetization. That would also give them a bit of powder to use should the need suddenly arise, without exceeding the mandate of QE2. The important point is that I am increasingly sure they won’t just roll out QE3, and that will have consequences.

L: Are you saying, no QE3 at all?

David: No. I think there will be a QE3, but it won’t materialize until after a relatively lengthy period during which the Fed stands aside in order to give the market the opportunity to adapt and adjust to their exit from the Treasury auctions. In other words, once they stop, I wouldn’t anticipate them jumping right back in at the first sign of trouble – say, if the stock market crashes.

In time, however, as the ponderous problems weighing on the economy come back to the fore and return the economy to its knees, the Fed will be forced to reinstitute the monetization, though they will likely try to come up with a moniker other than quantitative easing to describe it.

L: You’re as cheerful as Doug. Why are you so sure there will be a QE3?

David: Because the problems that made the economy stumble in 2008 have not been solved. As I said before, most have gotten worse. Have the impossible levels of sovereign debt and trillions in unresolved bad mortgages embedded in the balance sheets of Fannie, Freddie, the Zombie Banks, and even the Fed been resolved? Hardly.

Is there any real sign coming out of Washington that the deficits will be substantively tackled? You don’t have to be as active a skeptic as I to understand that the deepest spending cuts being discussed don’t even scratch the surface of the $1.5 to $2 trillion deficit. As for the $60 trillion or so in debt and unfunded obligations, forget about it.

The U.S. government and the governments of most large nation-states are fundamentally bankrupt. In time, they will have to default on their obligations. While there will be some overt defaults, I expect most of them to follow the path of least resistance, which is to try to inflate the problem away. And that means QE3. For now, however, the Fed will claim victory over the economic crisis and follow the suit of many other central banks –switching to a less accommodative monetary policy.

L: They’ve done their job and now it’s time for back-slapping and cigars.

David: Yes.

L: Consequences?

David: If you look at a chart of the dollar, you’ll see that it has been bumping along the bottom recently. Logically, if the Fed stops monetizing the Treasury’s spending, we should see a rebound in the dollar. The big traders –the big institutional money out there –are going to use the change in Fed policy as a clear signal that it’s safe to get back in the U.S. dollar.

It would be wrong to underestimate the amount of money that needs to find a home, and the liquidity advantages offered by the U.S. treasury market. If the river of money redirects into Treasuries, it could – at least for a time – offset the Fed’s exit, and push the dollar up, maybe significantly so. And if the dollar comes roaring back, commodities, including gold and silver, would likely take a fairly hard hit.

Again, this is a short-term view. The longer-term trend for the precious metals is absolutely intact, because the fundamentals are entrenched – namely that the sovereign debt and spending is out of control, and politically uncontrollable.


It would be foolish to dismiss the "possibility" of the Fed ending QE2 and pausing before continuing with QE3 or some other coyly named money printing program.  This "possibility" forces me to be, and remain, cautious with regards to the Precious Metals Markets at this time.  The Bulls are stampeding in the Precious Metals right now.  Stampedes are dangerous.  I remain an ardent Precious Metals bull in the "long-term", but when I look at the "big picture" and what is driving the markets higher I have to respect the possibility that the main market driver at this time, the Fed's QE2 program, may be running on empty and a pause may be due while they stop and fill up their tank.  A pause in QE2 will without a doubt negatively affect the equity markets, and to some degree, the commodity markets.

With respect to the fact that Gold and Silver are taking on more and more of a role as competing currencies relative to the likes of the US Dollar, I must assume that should the Dollar begin to rally on cessation of the Fed's QE2, Gold and Silver might be pressured initially, but not to the degree that equities might be.  If the Fed allows their QE2 program to end, an excellent buying opportunity in the Precious Metal will present itself.  Preparing for the possibility of sale prices in the Precious Metals seems prudent at this time.  I can not justify chasing Silver here.

I have been cautious on Silver prices since they peaked on March 7 at $36.73 as $37 was my target price at that time.  Silver did break higher from the bullish flag that formed in the days following that March 7 peak,  has run up $3 since, and may well get to the $41 projected move out of that formation.  But I sense more of a headwind up here than a tailwind.  The stampede into Silver up here has been intriguing to say the least, but jumping into the crowd at this level might prove the "near-term".  Sell into strength, and buy into weakness.

Ed Steer in his Gold and Silver Daily report passed along this comment from reader Nick Laird yesterday:

..."Hi Ed, E-Bay's base price for Silver Eagles is now over $40...and they have few sales happening - the volume of sales has dried up by 80%. Silver has doubled since August. If gold had done the same it would now be $2,600. We shall be patient. Cheers, Nick"

Patience with regards to Silver is most certainly a virtue...

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