Tag Archives: dollar

Stop Using the Dollar

Dear President Varela, it is one thing to have your currency pegged to the dollar. It is quite another actually to use the dollar as your currency. If you should ever need to break the peg, you will have to build all the infrastructure of currency management – during an emergency.

For example, the Federal Reserve has lately created four trillion new dollars, with the express intention of creating inflation – driving up condo prices in Miami and Panama City. Inflation will hit Panama harder than the United States, and the Fed will tighten when it suits their policy, not yours.

The other emergency comes when the dollar is too strong. Then you have to manage an internal devaluation – like Greece. Greece’s problems (the monetary ones, at least) stem from being yoked to the Euro. Generally, one has both emergencies in sequence. The hot money rolls in, creating inflation, and when it rolls out you have a recession. India’s central banker knows something about this.

Incredibly, several Latin American countries use the dollar. A small, low income country using the dollar (or the Euro) can expect to have its money supply whipped up and down. The Bundesbank had a reputation for price stability, and the Fed before Greenspan. Not anymore.

Jeremiah recommends starting now to de-dollarize. Keep the peg, but begin the process of printing Balboa notes and removing the dollars. Expats and importers will need dual currency banking. Set the peg at $0.97 or $1.03, so merchants can practice their spread pricing.

This will cost some money, in the near term, but it will serve you well. When the time comes, you will be able to hike interest rates. Look at Brazil. Also, as trade with China increases, you will want to clear transactions in Yuan.

From an American perspective, we have enjoyed the “exorbitant privilege,” but now our leaders are squandering it. You might as well save yourself.

See also: Poder a Los Estudiantes


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The Placebo Effect

RajanHere is India’s central banker, Raghuram Rajan, warning that tapering by the Fed is causing problems for the world’s smaller economies.  This is the same Rajan who warned that QE was going to have adverse side effects.  Such a gloomy fellow!  He complains when the Fed prints $4 trillion, and he complains when they taper off.

Everyone, including the Fed, understands that this money did not fund the kind of investments that create jobs.  It merely inflated stock markets at home and abroad.  Abroad, the flood of “hot money” distorted currencies from the Swiss franc to the Turkish lira. Now the tide has turned, it has created a panic in emerging markets.

This turns out not to have been globally coordinated financial repression.  The big dogs – the Fed, ECB, and IMF – make policy, not the Bank of India.  When the big economies run into trouble, we just print more money.  When it’s the emerging markets, we tell them to suck it up.

Emerging market policymakers were faced with orthodox economic advice that suggested many years of austerity and unemployment as well as widespread bank closures … to cleanse the economy

The IMF is run by Europe and based in Washington – and the only serious challenge to the dollar is the euro.  Together, we have a lock on monetary policy.  It’s a good deal for America, while it lasts, but you have to wonder – which group took the cure, and which got the placebo?

See also:  Bank of England official criticises go-it-alone approach

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Buy Bonds, Or Else

Cyprus is now a verb, meaning – to confiscate your bank account.  Jeremiah and Jeroen Dijsselbloem were quick to realize that Cyprus is the new template for bank resolution.  The Financial Times writes that bank depositors now have basically the same risk position as senior unsecured bondholders.  This means small depositors, too, not just those above the insurance limit.

Logically, then, you need to look at the rate of return on those deposits.  You might as well pull your cash out of “savings,” and literally buy the bonds.  Banks in America are not likely to be Cyprused, but – thanks to financial repression – the real rate of return on your savings account is negative.

See also: There Will Be Haircuts

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Breaking the Buck

In 1992, George Soros broke the Bank of England.  This is hailed as the greatest currency trade of all time.  Of course, it was not so great for England.  The pound fell by 30% over four months, and England had to drop out of the Exchange Rate Mechanism (ERM).  Soros is estimated to have netted $1 billion on the trade.

Jeremiah wonders if a modern-day Soros might not be planning an attack on our own inflated currency.  Soros has stated that a new world currency must replace the dollar.  Chinese banks are working to replace it with the yuan, and they have also asked the IMF to designate their Special Drawing Rights (SDR) as the world’s supreme currency.

Because SDRs are denominated in several national currencies, no single currency would enjoy an unfair advantage.

So, what would a speculative attack look like?  First, you need a thesis – some anomaly that is open to arbitrage.  In England’s case, it was the ERM.  When they say Soros “broke” the Bank, this currency peg is what broke.

America enjoys exactly such an anomaly.  Because the dollar is the world’s reserve currency, we are able to fund our national debt below market rates.  This makes American bonds a likely target for short sellers.  The thesis would be, “given America’s debt problems, bond yields should be 7%,” or, “the dollar should be worth fifty yen,” or both.

Next, you need another currency to trade long.  Helpfully, the IMF has just designated two new reserve currencies – the first since the Euro was created.  Any trader can now take a  speculative position in Aussies versus the dollar.

This brings us to the final requirement – a trigger.  You must launch the attack at a key point, and stampede other holders – like the Bank of China – into dumping their reserves.  Note that while the Fed can bid bonds up, they cannot simultaneously protect the dollar.  Our epic national debt is a fundamental weakness, and the thesis for an attack.

The trigger could be any event that spooks the bond market – a war, a downgrade, a default, or a weak bond auction.  The event could also be orchestrated.   Keep an eye on the next bond auction, January 10.  Happy New Year!

See also: Soros Convenes ‘Bretton Woods II’

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Stop Blaming the Fed

Here’s an interesting point of agreement between the Tea Party and the Occupy movement – both sides want to end the Fed.  The left hates banks and the right hates government intervention, but neither side can present a realistic alternative.  Returning to the gold standard is a fantasy.  As long as we have a fiat currency, we need a central bank to manage it.  England has one, and so do China and Europe.

The Fed’s only job is to manage the money supply, with attention to exchange rates, inflation, and unemployment.  That’s difficult enough.  History will show that Chairman Bernanke averted a depression through correct application of quantitative easing.  Now he is forcing banks to lend, and reducing mortgage rates.  This is good monetary policy.  The problems have come from fiscal policy, for which Congress is responsible.

The movement’s main concern is that moneyed interests have corrupted our leaders in Washington.  That seems like a pretty good argument for keeping the Fed independent, and free from political interference.

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Shorting the Dollar

Here is another example of capitalism going underground.  Soros Fund Management is going private.  The fund is estimated to manage around $25 billion – and that’s the last figure we’ll ever hear, because henceforth this money is Soros family private property.  Fund manager George Soros will return roughly $1 billion to outside investors.

This is a familiar story, hedge funds going private to escape Dodd-Frank and SEC scrutiny.  The Reuters article lists several others.  Here’s the disturbing part:

The trades that people will have to conduct in the future in order to make money may not be very politically correct – you may have to short the dollar and do other things that are considered unpatriotic.

Would George Soros, a Democrat and a philanthropist, really short the dollar?  The man who broke the Bank of England?  Never mind the debt ceiling.  Here’s a thought to keep Tim Geithner awake at night.

See also: Capitalism Goes Underground

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The Fine Print

One of the many calamities attendant on the debt ceiling debate is the imminent loss of America’s AAA credit rating.  If our leaders can’t agree to raise the debt ceiling, rating agencies will lower our credit rating.  Think about that for a minute.  How does America become more creditworthy by taking on more debt?  Jeremiah tried that, and his credit rating only went down.

The rating agencies want to see a plan whereby America is able to make its interest payments.  That’s all our creditors care about.  The real issue is whether investors are willing to buy our bonds and hold our dollars.  The credit rating is just an indicator, and not even a leading indicator.

In the last year, the dollar has lost 25% of its value relative to the Swiss Franc.  In the past few weeks, demand for our bonds has slowed.  This is from a Reuters article, Weak Demand Mars Third Straight Bond Auction:

The $29 billion auction of seven-year notes drew the weakest demand in more than a year, as did a debt auction on Tuesday

If the debt ceiling isn’t raised, the crunch will happen now.  If it is raised, the crunch will happen next month.  The present debate is proof that our leaders in Washington cannot deliver a plan for the debt.  They can’t even deliver a budget on time, much less a balanced budget – or a bipartisan debt plan.

There is a surreal quality to the drama now unfolding in Washington.  A furious struggle is taking place inside this bubble.  Meanwhile, the bond market is calmly backing away.

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