The Coming Dollar Deflation 42 comments
David Bailey
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There is a consensus out there: Gold is going up and the U.S. Dollar is toast. Like most consensus opinions about financial markets, it's dangerously wrong.
You'd think it would be simple. The market has been very clear. But when it comes to changing people's long-held assumptions, I guess an excess of information is necessary. Never fear. It's coming.
There is a shortage in U.S. Dollars. Nothing could be clearer.
- Yields on short-term Treasuries almost could not be lower. The Treasury is borrowing for free. People are practically paying the U.S. Government simply to assure them they will have (inflation-adjusted) slightly fewer dollars in a month or three than they have today.
- As if the fact that people are accepting that kind of deal is not persuasive enough, the deal is so popular that trillions – trillions – in Fails To Deliver are standing open in the marketplace.
- The Dollar Index has skyrocketed during a period when the U.S. Treasury and Federal Reserve have injected more dollar liquidity into the market than anyone could have imagined – more than was even legal months ago.
Yet even in the face of this huge, demonstrated demand, ideology, prejudice, assumptions or whatever still have people predicting that a cataclysmic fall in the dollar is just days away. I would remind you that even economists who predicted this crisis completely missed the direction the dollar would take. It wasn't a small miss. If you read such excellent economists as Nouriel Roubini, Brad Setser and the now-Internet-famous financier Peter Schiff, a fall in the value of the dollar was actually central to their theories of why and how a crisis would play out. About the economy and the markets, they have been mostly right. About the direction of the dollar, they have been spectacularly wrong.
They will continue to be right about the markets and wrong about the dollar, it seems. After this pause, the dollar will not fall in value, it will rise and not just a little. It seems clear to me that the worldwide demand for dollars will inevitably drive the Dollar Index to 97-100 in the next year – maybe within a few months. That's what the numbers have been telling us since July and that is what they continue to tell us – even more strongly than before. The money multiplier and (effective) velocity of money are falling off the table. Credit contraction has been so rapid and the velocity of money so crippled that even as the Fed tries to answer the world's cry for dollars, that cry gets more intense. TED spreads, while lower than before, are still absurdly high, demonstrating the significant dearth of dollar credit worldwide to which the Fed has been responding.
And in a deflation commodities deflate. Although gold is an emotional market where the price can rocket 10% in a day, gold is in a bear trend and despite some really remarkable volatility (that will probably get even more remarkable), gold will continue in a bear trend. Again, that's is what the market has been telling us since July and I see absolutely no reason to doubt the market. In fact, the evidence is getting clearer by the day. Gold is now significantly overpriced in terms of markets that have been predictive for decades - oil, silver, the dollar and even the gold lease rate. Obviously gold can change its relationship to one of these other markets any time – but all four?
Panic has put a consistent bid RELATIVE to these other markets, but unless goldbugs can drive the yellow metal's price out of this downtrend, I predict gold will be really significantly lower in the next year – like $200 lower. All this talk of gold as the next “reserve currency” will be remembered as an artifact of the commodities bubble.
When ideology and orthodoxy tell you one thing and the market tells you another, believe the market.
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This article has 42 comments:
www.cnbc.com/id/280145...
"Cost of Insuring Sovereign Debt Jumps to Record High"
Referenced article points out the high, and growing risk of default in sovereign bonds, due essentially to the high demand for funds that governments are experiencing to fund various bailouts and stimulus packages. THESE PROGRAMS HAVE ONLY JUST BEGUN, and in many cases have not yet even begun to be funded.
Hide in Treasuries if you choose. The "stock market is a generational buy" paradigm took more than a year to break, so too it will be with the "Treasuries as safe haven" paradigm. The herd is monumentally wrong.
The strength of gold vs these other commodities is remarkable.
Gold's trend depends on your time horizon. I would disagree that gold is in a long term (since 2002) bear trend. But that is what makes markets and horse races.
Interesting article. Any disclosures? Are you short gold?
Vancan
If it were not for the bailouts, how many more people would be out of work? Do you understand how many people have lost their homes and are living on unemployment or living in tent cities? Do you have any clue how many Americans are literally living off their soon to be cut off credit cards?
Credit markets are tightening! Governors are meeting this very minute because they cannot balance their budgets. Historic sites, libraries etc.. are shutting down... America is broke. Our infrastructure is crumbling. We are trying to print our way out of this mess. Barack Obama just said on CNN that we cannot keep on printing money...
You have to look at the realities of the situation. You cannot "cheerlead" this economy out of this mess. The dollar is being propped by the Fed and the central banks as long as possible..and then what??
Are you prepared?
there will be a period of dis-inflation. but not DEFLATION. No way. the central banks will and can prevent that at any cost and boy, will there be a cost!
now, to your "dollar-shortage" argument. this is true, but only very very short-term. lots of dollar-loans have to be paid back - by hedgefunds, emerging market corporations etc. BUT: there is still a HUGE supply out there. Gazillions of paper dollars are in the vaults of the Central banks of China, Japan and Europe. The shrinking US trade deficit will, ironically further contribute to a demand-shortage of dollars from foreigners. it will reduce the amount of dollars send abroad (naturally), but that means in turn that fewer dollars have to be recycled.
make no mistake: there is still and - once the crisis starts to settle - higher than ever amount of dollars that flow around the world with an ever lower buying power with ever fewer places to go. US-treasuries are next, and biggest bubble ever that is building.
a few years from now you will look at your own article in disbelief.
the dollar isn't toast. fiat currencies are - and the countdown is ticking. when all is said and done commodities and especially monetary metals like gold and silver will be at highs that few can imagine right now.
However, long-term, despite deleveraging I believe the US will still be up in its eyeballs in debt.
Are the trillions of dollars in T-bills held by foreign governments being deleveraged? Of course not. They expect to be paid back on those at some point, and in US dollars.
And the national debt. Can we just deleverage it away? I think not.
Yes perhaps some debt will get wiped out, some mortgage debt and so forth.
Still, in my opinion, the US will still be up to our eyeballs in debt. And we are taking on a lot of new debt in order to jumpstart the economy.
Can this debt ever be paid back in STRONG US dollars? I sincerely doubt it. But it can be paid back by printing US dollars.
I believe the doomsters got the US dollar right on the long-term, but were spectacularly wrong on missing the fact that short-term people would cling to US dollars even though they know that long-term they are going to be trash.
Yes, but we have big printing presses and it costs very little to print more dollars.
And our economic officials have made it clear that they will print as many dollars as it takes to see that we do not have deflation.
As people often point out- you can print dollars (or any fiat currency for that matter) but you can't print oil or gold.
I would say it probably is more appropriate to say that the US dollar is in a bubble.
It has been pointed out by those who have studied bubbles that one characteristic of a bubble is for the asset in question to be rising in price even in the face of a flood of supply on the market. Exactly what is happening with US dollars, and perhaps most other fiat currencies.
The dollar bubble will pop. I do not know when, but I would expect sometime next year.
However, the view does seem to have more adherents than before. Some of the "don't worry be happy" CNBC crowd who used to seem to think that ludicrous claims by economic officials that we have a "strong dollar policy" constituted an actual "strong dollar policy". Some of those commentators seem to have snapped out of their stupor.
I guess I would concur though that the US dollar is not toast.
It is more like an uncooked piece of bread sitting in an electric skillet that is shut off but connected to a timer.
The big question is, what is the setting on the timer? March 2009? July 2011? December 2008?
Don't look for an economic recovery in the U.S.--there isn't going to be one. Instead, the collapse will lead to a political crisis which will be the coup de grace of the U.S.
First, I would remind folks that the private banking system creates a LOT more dollars than the government - or it used to.
Second, I would refer you to yesterday's limit-down in CNY/USD.
Third, I would refer you to Meredith Whitney's chilling and insightful article about the coming. planned destruction of what could be trillions more dollars in credit.
Fourth, I would refer you to your local state and county treasurers (or international equivalent). I think you'll find that "the government" has a lot less money to spend than you think.
Worldwide, we've seen - notional - what might be tens of trillions of dollars in wealth lost. Even if it that only has a probabilistic relationship with the supply of money, it still has to come from somewhere.
I disagree with his deflation concern, in the long run. If the same thing had happened with any other currency on the planet, it would have failed by now. The USD is the reserve currency of the world - FOR NOW.
Land and gold and assets of that nature can be considered a store of wealth, not profitable "investments". They store value very well compared to the dollar or any fiat currency - show me ONE case to the contrary over the long term! You have a several thousand year period to show me a single fiat currency that did well in the long run and had no inflation.
Show me anywhere in the US where I can buy land or gold for cheaper today than I could a hundred years ago, or even 50 years ago. They may not be good investments, but they do store wealth much better than our fiat dollar. A lot of people confuse storing wealth with investing...
In the end, fifty years from now, the people that bought an ounce of gold or an acre of land still have just an ounce of gold or an acre of land. It is a store of wealth. Holding these items alone doesn't create wealth (unless you are holding land near a city you expect to expand and value the land more highly, etc, etc). Holding these items as a store of wealth will beat the person who just holds USD's as a store of wealth.
Inflation will continue to occur in the future. Deflation is a short-term issue. I don't see the deflation undoing what inflation has done for the last 50-100 years so it would be hard for me to consider the deflation a big problem... I expect things to get very bad in the economy and the Fed to continue adding dollars to the system. This does not bode well for the dollar in the long-term. In the last two months there has been a monetary base increase of over 75%! They aren't done either! It will affect things - maybe not today or tomorrow, but it will factor into the equation sooner or later.
We can argue against each other for as long as we want. Time will tell the story. Time. Not you, not me, not anyone of us commentators... TIME will tell the story.
anyone who believes the dollar is safe is NUTS
If only. They simply monetize the debt, aka printing money. Treasury sells Treasuries to the Federal Reserve, which creates the money out of thin air. It comes from nowhere. That's why they say a gold-backed currency has a built-in safety valve. With a gold-backed currency, you must have something backing the money.
Would it not be safer to invest in US Food producers, farm equip makers and related issuers, with similar upsides?
On Dec 02 10:33 AM SWRichmond wrote:
> Patience, grasshopper.
>
> www.cnbc.com/id/280145...
>
> "Cost of Insuring Sovereign Debt Jumps to Record High"
>
> Referenced article points out the high, and growing risk of default
> in sovereign bonds, due essentially to the high demand for funds
> that governments are experiencing to fund various bailouts and stimulus
> packages. THESE PROGRAMS HAVE ONLY JUST BEGUN, and in many cases
> have not yet even begun to be funded.
>
> Hide in Treasuries if you choose. The "stock market is a generational
> buy" paradigm took more than a year to break, so too it will be with
> the "Treasuries as safe haven" paradigm. The herd is monumentally
> wrong.
your comments about schiff, roubini, setzer, etc. indicate a naive assumption that their predictive time-frames mirror yours. they may not know exactly when, but they've all nailed this one to the 't', with facts and causal substance beyond 2-4 years back. my trend analysis of their results keeps me vested in their 'graphs', over any of the recent dips in the gold 'graphs' of these last few months.
lastly, like anything of value, fluctuation will continue to occur with gold, and it will, by force of world-banks, IMFs, and play-makers at large, be beaten from its 'natural value', and it will return thus, as it it always has. i think it will be sooner rather than later, and when considering a place for my money, gold is hardly the 'dangerous' repository.
be well,
--ikk
David, you presented facts. i for one am in the inflation camp. if i was shown six months ago the money creation curves, i would have bought gold and euros - and i would have been screwed. there is an element of this situation which is not understood by the deflationist and inflationists. it is larger than velocity of money which is a topic for another time and place.
one thing for sure, everyone needs to stay on their toes. just look at the rapid changes in the dollar and gold indexes. i think everyone can agree that quick changes spell instability.
a final point - even with all this money being created, we must remember we are in a recession. a tipping point will logically be a recovery cycle where people and business start shifting from a defensive to an active behavior.
Governments that face huge debts don't like deflation but they don't always get inflation for Christmas, as world economic history teaches us.
Most history savvy investors know the history of the Great Depression but they don't often study the other severe depressions and deflations that have occurred throughout American history and world history.
Economic and financial crises don't usually respond to moral outrage but when they do, we get movements like Nazism which everyone thinks they DON'T want but when things get bad enough everyone seems to approve of.
Maybe now is the time to begin a diligent study of the many deflationary periods of the American past. We know about the Great Depression but what about the others? Were they preventable or not?
To the original article writer - xactly, and thanks for the being rational when few are.
ALL MEAN THAT THE "MARKET" IS "NOT REAL" - THEREFORE ANY CHARTS, HISTORICAL PATTERNS, EVEN YESTERDAY, LAST WEEK OR LAST MONTH'S MARKET RESULTS SERVE NO GUIDANCE AS TO
THE DIRECTION OF THE FUTURE MARKET.
It's all about timing. You are correct re: the short-term uptrend in the dollar vs. other currencies, gold and other commodities. This caught me by surprise. The medium term 2 - 5 years, is hard for us to grasp. The tide will turn as the Fed and Treasury continue to create more currency. We already have massive inflation (growth in the money supply). This will be the proximate cause of higher prices in dollars for most things we purchase in the future.
Of course the world is worse off than we are. England and the EU certainly are, Russia is toast, Brazil India and China all have a lot of stuff shoved under the rug (unreported liabilities, weird government interventions, and huge investments in US real estate securities). So the US dollar remains the strongest currency. Add the repatriation of global investments gone bad, or just requiring redemption and that lifts the dollar doubly.
However, we almost lost the entire financial system, again, last week when Citi caved in. We have had 3 episodes, each worse than the last, where immediate action by B&H was required to save the system. Can they keep this up indefinitely? Is this really good news that they can save time and again. Will they make a mistake?
We easily could loose all the big banks, after all they are already bankrupt. Will the gov be forced nationalize the banking industry? What about the auto industry, the insurance industry? We are a long way down these roads already.
I think B&H (Ben and Hank) are realizing that they cannot print enough money to stop this monster, and are shifting their priorities accordingly. Banks are just trying to find a way to survive to fight another day. The auto industry is toast.
Where does your confidence in the system come from? It is amazing!
Anyway there are serious dislocations coming the consequences of which are impossible to predict. But within all the scenarios gold will retain its value. It will soar if we end up with hyper-inflation. It will be hedge against other assets falling in price a deflationary scenario where the US gov is shaky.
Gold is not a commodity, it's not a currency, it is an insurance policy against exactly the scenarios we seeing play out on CNBC everyday. If Gold goes to $2000, that means everything else you own (your house, car, 401k etc.) is worth less than half, not exactly a great scenario there either.
DDT
US$ went up and euro went down. Why? It is simple: EU has even more financial/economic problems than the USA.
Any open/free market prices are determined by demand vs. supply.
One thing is for sure: US$ is in an enormous supply. US$ printing presses are working overtime.
As for US$ demand, the picture is quite complicated:
- US$ is a reserve currency. Consequently, the world trade needs US$ since oil, gas, gold , etc., are priced in US$
- Since the USA runs a huge foreign trade deficit, enormous amount of US$ ends up in US trading partners hands.
The real question is: how much longer will US trading partners accumulate the terribly deflated US$ before saying "Enough is Enough"? Or in other word: how long will it take before Japan, China and many other US creditors decide to stop feeding America for nothing and/or for free?
We still remember that at some point US housing prices stopped going up when good many borrowers became unable to pay even the interest on their mortgages. Then, a "house of cards" (or a housing bubble just started to deflate).
IMHO, US$ recent rise is no different from the US housing bubble! In no way, Asian countries will be able to ask their people to work for nothing just to support US standards of living.
It is way to late to be buying gold -- about 6 years too late: Gold has been going up in value since 2002, peaking in the past few months, and is now on it's way down.
BTW, this "recession" that we are in started in January 2001. There has been no bull market since the Tech crash. Don't believe me? Graph the S&P 500 in oz of gold, copper, acres of land, etc -- whatever you like (other than a fiat currency).
BG
Well,
- Just yesterday Goldman, Merrill and other Wall-Street banks prices were 406 times higher than now. So, when was the market correct yesterday or today?
- What about housing price: were prices correct yesterday or today?
The truth is that the market can be manipulated and/or going wild in a short-term (3-12 months). In other word: the Market is not always perfect or even accurate reflection of the reality.!
If, however, he puts the cash on deposit in an American bank then the upward pressure will be on the dollar rather than the Yen.
This upwards pressure on the dollar is equally true when an American citizen quits the stock market and banks the proceeds.
The bank, having placed the statutory percentage of the deposit with the Central Bank, then invests the remainder in Treasury Bonds, on account of both the current lack of alternatives and because by doing so its balance sheet is strengthened.
From this it can be seen that the present strength of the Dollar, Yen and Treasury Bonds are all explained by the sell-off in the Stock Market.
The question is what happens next? Because of the very low rate of interest earned by money on deposit at a bank it will soon begin the search for a new home.
If invested in residential property, then the housing market would be stabilised although, due to the ludicrous levels of house prices reached, highly unlikely to trigger any great rise.
Similarly being returned to the Stock Market would stem the collapse but, due to the amount of money dissipated, unlikely to return the indices to their dizzy heights.
If invested in precious metals then prices, due to a relatively small market, would indeed soar to the stratosphere. The advantage of precious metals is that they are, gold in particular, very liquid and can be exchanged for any currency, at openly quoted international prices, with the greatest of ease, contrast this with property or stocks & shares. Although other commodities do enjoy some of the advantages of precious metals, to a large extent they are negated by storage problems - storing tens of wheat or one ton of copper presents many more problems than a few ounces of gold.
For many years banks will remain in the bombproof shelter of government securities as the state’s vast borrowing requirements muscles out other potential borrowers. Private individuals and companies will be starved of credit, assuring the continuation of the recession (depression?).
Credit will be cheap but unobtainable.
Mel Lindley
Globalisation will be payed for with the devaluation of the U.S. dollar. If we are able to produce our own food and energy and be able to export a little it will not be near as painful. If we continue business as usual and support this bullshit buy plastic crap with money we don't have 70% economy then we are truly the fools of the world and will suffer for it.