All of that is now history as the dollar comes under increasing pressure. We believe the dollar could test 71.18 this year. We also believe the dollar could break down to 40 to 55 over the next few years. The collapse of the dollar is certain. The Treasury and the Fed have committed the American taxpayer to $13.8 trillion of debt and before the dollar goes where it is ultimately going that figure could reach $30 trillion.
In modern times such fiscal and monetary irresponsibility is unparalleled. This abdication of moral responsibility has already begun the process of dollar deterioration and rising interest rates. The result will soon be hyperinflation.
The collapse may be disastrous for all countries, but it is going to be equally disastrous for the corrupt who have brought us to this sad situation. Hopefully as painful as it will be it could create many new opportunities for some. One thing we see as certain is that the elitists will find themselves targets of civil and criminal charges and targets of contempt and derision. The new world order they so arrogantly and confidentially predicted with one world government will again have been a failure.
There is no question where China is headed in this currency war to dump the dollar. They continue to accumulate gold with the intention of having a gold backed currency - something America is, we believe, incapable of doing. Such an ongoing pressing event has to put continual downward pressure on the dollar. China is already by passing the dollar reserve system by settling in other currencies, using barter and through swap arrangements, major changes are in the process of taking place. We do not believe the yuan will be the reserve currency of the future. A better idea is to have a weighted basket of 10 major currencies as a world benchmark. China is heavily dependent on exports and as yet does not have domestic demand to relieve pressure when exports fall. They are also still a dictatorial, communist society in power by force. They also still have an enormous population and wages are still dreadful even though they have increased 10-fold over the past 15 years. Politically both China and the US face populations that are profoundly unhappy and if major changes are not made in both societies, both are ripe for revolution.
Wednesday’s 10-year Treasury auction wasn’t all it was cracked up to be. The yield was 3.99% with 46.8% allotted at the high bid. The bid/cover was 2.62 versus the average of the past ten auctions of 2.40. Indirect participation, of foreign central banks was 34.2% versus an average of the past ten auctions of 28.23%. The only reason the sale went well was that the note had to be lifted 13 bps to 3.99% in order to attract buyers. In addition the Fed had to buy $3.5 billion in longer term maturity bonds and prop up the auction. They cannot fool us. The system sinks into deeper trouble every day. All we can say is you had better own gold and silver. What the Fed did was buy 18.4% of the auction with money they created out of thin air – more monetization.
Goldman Sachs CEO, Lloyd Blankfein says he believes the current upturn in world markets was probably not a full recovery from crisis and said he expects a further long recession. There is no reason to think this is it – so many things have to be sorted out. Why, would this be the recovery?
Nouriel Roubini says those are yellow weeds, not green shoots. He has nine reasons for pessimism. Employment is still falling sharply, which is bad news for consumption and the size of bank losses. He said this is a crisis of solvency, not just liquidity, but true de-leveraging has not really started, because private debts of households, financial institutions, and corporations are not being reduced, but rather socialized. Lack of de-leveraging will limit the ability of banks to lend, households to spend and firms to invest.
In countries running current account deficits, consumers need to cut spending and save much more for many years. Consumers have been hit by a wealth shock, that is falling house prices, stock market, rising debt-service ratios, and falling incomes and employment.
The financial system has been severely damaged, so the credit crunch will not ease quickly.
Profitable, owing to high debts and default risk, low economic and revenue growth and persistent deflationary pressure on companies margins businesses, will continue to be constrained from willingness to produce, hire workers, and invest.
Rising government debt ratios will eventually lead to increases in real interest rates that may crowd out government spending and even lead to sovereign refinancing risk.
The monetization of fiscal deficits is not inflationary in the short run – slack production and labor markets imply massive deflationary forces. If banks do not find a clear exit strategy from policies that double or triple the monetary base, eventually either goods price inflation or another dangerous asset and credit bubble, or both, will ensue.
We’ll interject here that we disagree with Mr. Roubini. That monetization causes inflation immediately, which later becomes hyperinflation. The central banks, the Fed in our case, have no clear exit strategy. What they have done and are doing has no fallback or battle orders for withdrawal.
Some emerging market economies with weaker economic fundamentals may not be able to avoid a severe financial crisis, despite massive IMF support.
Our comment is no one is going to escape. Decoupling is a myth and we’ve had that proven already.
At the beginning of the year the yield on the 10-year T-note was 2.35%. We figured it would go to 3.50%. Thus far it has gained to 4.00%. That is 1.65% in less than six months. The yield has risen 135 points since the Fed announced in March that it was going to buy Treasuries, some $300 billion worth for starters.
Rates are up due to $2.2 trillion in monetization, that they are already committed to, and that is just the beginning. Commodity prices in many instances have doubled, inflation expectations are high, equity prices are up 30% plus and gold and silver have remained strong so it is no wonder rates in the real market have moved substantially higher.
Massive new issuance will be high for sometime to come.
Retail gasoline prices have moved up more than 40 days in a row as gas rose $1.00 from its lows. That displaces $130 billion in discressionary spending.
The high rates have also caused a 60% fall in mortgage refinancing.
Subprime problems may generally be over but we have another year of ALT-A loans and three more years of Option-ARM, pick-and-pay loans to get through. In the first quarter due to rising unemployment 50% of foreclosures were concentrated in prime mortgages where the default rate is now 2.40%, more than double 1.10% yoy. Over the next few years this problem will worsen.
Home mortgage debt outstanding was 73% of GDP last year, the 3rd highest reading on record, after the 75% plus bubble years of 2006 and 2007. In order to return this debt to the average of the 1990s at 46%, Americans would have to cut margin debt to $6.6 trillion from $10.5 trillion. The solution to reduce such debt is to rebuild sayings and for banks to boost capital. We see little chance of either happening, hence the inevitable result.
As we know with the result of down payments, mortgage defaults proliferated. In a desperate attempt to buoy the housing market our government has brought back those same loans. This is monetizing an $8,000 tax credit. The FHA steers funds to cover closing costs directly – in some cases even offsetting the 3.5% minimum down payment FHA loans require. That is enough to cover most or all of the down payment and fees for homes up to the median price, now about $169,000. As you can see the government anxious to move foreclosed properties for the banks are breaking the rules and creating another subprime crisis. The NAHB says this will add 160,000 original sales. The FHA doesn’t care. Fifty percent will default. If they run out of money they’ll get another $500 billion from Congress, so that minorities can buy homes.
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