03/10/09 St. Louis, Missouri Good day… And a Terrific Tuesday to you! Sometimes I’m right, and I can be wrong, my own beliefs are in a song… I just heard that great old song on the radio, and thought, that’s a great credo to live by. Oh, well… That’s just me I guess… Let’s go to work!
The currencies, led by the euro (EUR), made a valiant effort to mount a rally during the trading day in the United States, yesterday… And they did! They have gained even more ground in the overnight markets, with the euro trading with a 1.27 handle… OK, I hear you saying… But, Chuck, tell us what pushed the currencies higher yesterday? Ahhh… Grasshopper… Of course I’ll tell you that! Let me first set the table with the background story, then lead into the real meat with a building crescendo!
First, you must recall me saying on more than one occasion that I believed U.S. Treasuries were the next bubble to pop… If you’re with me on that, then let’s talk about something that might cause that bubble to pop… Ahhh… Here we go! We have three separate auctions going on this week with a total of $92 billion of Treasuries on the selling blocks. We start with an astronomical $63 billion of 3-year notes, followed the next day by $18 billion of 10-year notes, and finally $11 billion of 30-year bonds.
Now… Let’s circle back to the financing of our deficit… Recall that many times I’ve explained how the deficit needs to be financed by foreigner purchases… And when those foreign purchases aren’t enough to finance the deficit, the government only has two choices… They can raise interest rates aggressively in an attempt to attract foreign investment… (But by doing so, would bring their economy to its knees) – OR – the government can allow/force a debasement of their currency, a general weakening if you will, to allow those purchases to be made at a “discount”. For you see, any foreign investment into Treasuries, has to be made with dollars, so the foreigner needs to convert their currency for dollars… If those dollars are at a “discount” then the foreign investor gets the bargain!
So… Here we go with the big crescendo… The fears late yesterday and in the overnight markets are that these auctions carry notes and bonds with yields that just aren’t of the making to attract enough investment interest to be covered. Well… If the auction doesn’t go well, that means we have a financing problem, and with our economy in the shape it’s in, there’s no ability to aggressively raise interest rates… So… the only choice is to have a weaker dollar!
And here’s where I get to mock those that believed that “deficits don’t matter”… They all come home to roost eventually, folks… I know that a lot of you, and others around the country, Canada, Mexico and Panama (places I’ve talked), probably thought I was the boy who cried wolf… And I might still look like that, as there are no guarantees that I’ve nailed this scenario… We could, by some miracle, see the foreign investors flock to these auctions, which would mean I would have to do an Emily Litella… “Never mind”…
So… We have the “high” yielders with the conn this morning… The reason I put quotes around “high” is that this is all relative. High yield compared to the rates in the U.S., Japan, U.K., Switzerland, and a host of others could be 2%!
OK… I’ve been reading a book that was written some time ago by Christopher Wood, called the Bubble Economy… Sounds like he was writing about the United States, eh? I’m afraid not! He was writing about Japan in the ’90s… And you know me, I’ve been writing about how we are following Japan’s footsteps to their disastrous decade of the ’90s, so I just had to pick up this book and read it, to see what other comparisons could be picked up… And half way into the book, I found it… OK… Now that I’ve already told you that this is Japan in the ’90s, you are aware that it’s not the United States now… But… I’m sure you’ll see what I’m talking about here… So, here’s Christopher Wood…
“‘Debt Deflation’ was a term used by American Irving Fisher, a Yale economist, in an article written in 1933 at the nadir of the Great Depression. The Debt Deflation Theory of Great Depressions, was revolutionary. It identified two stages on the road to depression. First, too-high levels of aggregate debt depress economic activity because of all the money spent servicing that debt. (paying interest) Fisher termed this debt deflation. This is what Japan has suffered in their property markets as asset values have collapsed and debts have gone bad. Fisher argued that debt deflation only leads to general depression when there is a fall in the general price level. Just as a bad cold leads to pneumonia, so over-indebtedness leads to deflation.”
Now… Doesn’t that sound exactly like what happened here in the United States? I’m turning Japanese, I really think so…
OK… Enough of that… How about mixing in some Warren Buffett to my story about how on the other side of this deflationary asset price scenario, there is soaring inflation? Well… Warren, welcome to my wagon! Let’s listen in to Mr. Buffett… Billionaire Warren Buffett, whose Berkshire Hathaway, Inc. posted its worst results ever in 2008, said the economy “has fallen off a cliff and that efforts to stimulate the economy may lead to inflation higher than the 1970’s.”
Now, here’s where Warren and I make the split on this inflation thought… He’s not bullish on gold… And I am! Now, talk about someone that could move the gold market! But so far, he’s mum on the shiny metal…
Really long time readers, going back to Mark Twain Bank days – and yes, there are a handful of them left – will recall my affection for the Bundesbank… Germany’s central bank, the Bundesbank, was always the inflation fighting, mean machine that kept the country from going into a deep dark abyss after the re-unification. The Bundesbank President at that time was a man named Hans Tietmeyer… (Think that’s how he spelled, as it’s been a long time since I even typed that name!) Anyway… What I’m attempting to get to here, is that the Bundesbank is still the driving force behind the European Central Bank. And current Bundesbank President, Axel Weber, (also an ECB minister) doesn’t believe that interest rates in the Eurozone should go below 1% (currently at 1.5%) Weber doesn’t see ANY reason to cut rates below 1%… “I don’t see the bottom line to which interest rates should fall at 1%”.
I see some profit taking going on and the euro has fallen back below 1.27 as I write… No biggie… Small movements…
Pound sterling (GBP) continues to get whacked about the head and shoulders and I completely understand why… The U.K.’s economic problems mirror those of the United States, but only the U.K. doesn’t have the world’s reserve currency, which allows the U.S. to print as much as they want! Sterling has long been on a list of currencies that will not perform well.
Speaking of printing… I have a cartoon of 3-dollar bills, with faces on them, sitting at a bar, and one of the bills says to another bill… “OOOO, Mr. Private Sector, Whoop-Dee-Doo. It’s not like we don’t all come from the same printer.” HAHAHAHAHAHAHA!
Did you see the comments by the head of the Chinese National Energy Administration, Zhang Guobao? Probably not, so that’s what I’m here for, right? Anyway… Mr. Guobao suggested that China buy more gold, oil, and commodities with a portion of its nearly $2 trillion of foreign exchange reserves. So far, there have been more than a few of these calls to China to deploy their reserves in a different manner, and each of them have mentioned buying more gold… And each of them have fallen on deaf ears… Or just plain been ignored.
So… We had Warren Buffett warning about future inflation, and a Chinese official talking about buying more gold, and the shiny metal falls in price on the day… Hmmm… Makes you think that gold is not on terra firma right now… And maybe we’re in for a period of weaker gold prices… Maybe.
Oh, and one more thing before we go to the Big Finish… Remember the BLS’s birth/death model? I call it creating jobs out of thin air, or ghost jobs… Well… The BLS even – with job losses of over 600K the last three months – thought they should add jobs in February… They added 134K jobs in February… Which means the jobs losses should have been 785K… OUCH!
Currencies today 3/10/09: A$ .64, kiwi .4975, C$ .7750, euro 1.2690, sterling 1.3830, Swiss .8640, rand 10.45, krone 7.0450, SEK 9.0925, forint 242.40, zloty 3.7140, koruna 21.5910, yen 98.40, sing 1.5485, HKD 7.7560, INR 51.70, China 6.84, pesos 15.44, BRL 2.3850, dollar index 88.63, Oil $47.41, Silver $12.83, and Gold… $914.30
That’s it for today… Mike Meyer will have the conn on the Pfennig tomorrow morning, as both Chris and I will be boarding planes early in the morning. Mike will also have the Pfennig all next week. Please be kind as Mike is doing me a BIG favor here by taking the conn on the Pfennig, while I go on vacation. I had back surgery – a discectomy – 18 years ago. About two years after that surgery, I re-herniated the same disc. Not opting for any more surgery, I decided to deal with it, and every now and then it flares up on me, and causes me to have to deal with immobility, pain and stiffness. And wouldn’t you know it, right before I’m about to leave for vacation, it has flared up. Getting out of my car, it grabbed, and that shooting pain reminded me of all the fun I used to have every day! NOT! Anyway, it’ll be better in a couple of days… Well, it’s time… Talk to you again on Thursday, from Jacksonville! I hope your Tuesday is Terrific!
Chuck Butler
Chuck Butler is President of EverBank® World Markets and the author of the popular Daily Pfennig newsletter, which is reposted here at The Daily Reckoning. With a career in investment services and currencies extending over 35 years, Mr. Butler oversees all aspects of customer service and the trading desk for EverBank World Markets. A respected analyst of the currency market, Mr. Butler has frequently made appearances or been quoted by the national media. These include the Wall Street Journal, US News and World Report, MarketWatch, USAToday, CNNfn, Bloomberg TV, CNBC, and the Chicago Tribune. Mr. Butler was previously the Chief International Bond Trader and Director of Risk Management for Mark Twain Bank, and has held significant positions in the investment industry since 1973.
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Isn’t there another way to get rid of excess treasuries? I haven’t seen this mentioned anwhere, and maybe I’m just a dunderhead, but here goes:
You have too many treasuries to sell. You can’t find enough buyers. So what to do? How about exchange your treasures (which you know deep down don’t really have any value anyway i.e. they are a ticking time bomb). Exchange them for anything anyone will give you that some value. Such as toxic assets, commercial paper, etc. Expand your balance sheet as fast as possible up to trillions with any non-completely-worthless assets you can find while stuffing the original owners of said assets with as many treasuries as you can print up.
Isn’t that essentially what the Fed is doing? I’m wondering who is really getting the “toxic” asset.