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The Global Picture and Where We Are Now
For the last few years we’ve watched as the Credit Crunch
morphed into the Sovereign Debt crisis in Europe, which may re-cross the
Atlantic to hit the U.S. Treasury market. During that time, we have watched a
series of patch-up jobs on the crisis that have only succeeded in prolonging
the crisis without any real structural remedies. We’ve also watched how
central bankers have seen the ‘buck’ passed to them, when their
role is strictly in support of government action that should have led the
way. Central bankers are running out of tools to tackle the task they should
never have been asked to tackle alone.
Political leaders (who usually act only in concern of the consequences
to their political careers) have only been willing to provide hormone-free
measures that have yet to see any convincing success. Much as people look for
someone to blame or an interest to protect, the fault lies with the
underlying structure of national affairs. Not only do we find banks bound by
the interests of their shareholders to achieve profits, but politicians
working in a democratic set of national systems guarding their voting base
with future elections in mind. These diverse objectives are not consistent
with the needed objectives of targeting global growth at all levels to the
point that national debt levels can be reduced while national cash flows are
boosted to provide the needed funds to achieve these goals.
Almost five years after central banks took the first
actions to buoy the world economy, political leaders are being forced to
react to a third successive annual fading of recovery hopes as Europe’s
debt crisis threatens to engulf Spain and Italy, hiring in the U.S. stalls
and China slows. Estimate for growth worldwide this year have fallen to 3.2%
from the May forecast of 3.4% and it continues to slow.
Developed economies are running into the limits of
monetary policy, the Bank for International Settlements said in its annual
report last week. Central bank balance sheets now contain $18 trillion of
assets, about 30% of global gross domestic product, double the ratio of a
decade ago, and interest rates are as low as they can go, the B.I.S. said.
Governments have “cornered” central
banks into prolonging stimulus, and have dragged their feet on restoring
fiscal order, said the B.I.S., which holds currency reserves on behalf of
global central banks. Monetary policy only “buys time” in the
short run for leaders to act, and leaving an easy stance for a prolonged
period poses economic risks, it said.
The failure of politicians –or should we say in fairness the
political system?— to apply vigorous, focused
measure to achieve these goals over such a long period of time is causing a
fundamental loss of confidence in the financial and monetary systems of the
developed world. The emerging world is patterning their newer systems on
those of the developed world and ultimately reinforcing that failure.
Amazingly we are now hearing talk that the emerging world should be
becoming the driving force in the global economy, when the entire pattern of
Asian development has been to replace the manufacturing industries of the
West. In addition, China’s targeting the internationalization of the
Chinese Yuan, an objective which inevitably will have the same impact on the
dollar as Chinese manufacturing is having on the West. The net result is
inexorably, the continuation of the shift of power and wealth to the East
that undermines the power and future of the developed world.
Christine Legarde of the I.M.F. and other
realistic financial leaders are warning that there is less than 3 months to
save the euro. If they fail to do so, we move to the next catastrophic phase
of deflation, the Black Hole. We
have seen this in the past, and it’s the greatest fear a central banker
can have.
Gold as an Alternative Day-to-Day Currency
Many gold supporters believe that gold can replace fiat currency as
money. We’re not one of those believers. We realize that it’s not
a matter of being right, but in the current powers that be,
it is a matter of accepting its use in the system. At this moment,
they’re showing no inclination or support for the idea of gold as
money. But they do see it being used in a critical way. (Which we will discuss in the next part of this series.)
Fed, Central Bank Fears
For several years now, observers have reported the great ‘black
beast’ feared by the financial world has been inflation. Central
bankers fear deflation far more and have done for the entire five years.
Inflation has remained extremely subdued during this time.
Indeed, their present stance still appears to be focused on keeping
deflation at bay. But that policy is one that keeps central bankers
–particularly the Fed— right up on their toes…Why you may
well ask?
Deflation’s a Process
What really is deflation? In practical terms, it’s a process. In
this last five years, we saw it start with a puncture of the housing market
in the States, spread to mortgage backed securities, to bank balance sheets
then onto their borrowing abilities. In Europe, the same happened but hit the
banks hardest, then sovereign debt. As securities lost their value we saw a
Domino Effect of asset shrinkage leading right through to the collapse of the
institutions holding that toxic paper as asset collapses undermined their solvency.
As this started, fear kicked in as lending dried up, with banks
fearful of lending even to other banks, where they might be unpleasantly
surprised by defaults. Short-term fear morphed into loss of confidence in the
future, prudence stepping in to replace overspending and the velocity of
money’s circulation slowed, as values fell. As confidence was eroded so
was growth and endeavor. In turn, this produced more deflation.
Central Banks attempted to defeat this process by adding liquidity to
the system in the hope that lending and borrowing might be resuscitated, but
because government was caught in political gridlock in the States and failed
to act decisively and quickly in Europe, doing nothing to support central
banks quantitative easing, these new funds ended up back in government bonds
as banks feared creating more toxic assets that would come back to haunt
them.
Meanwhile the economies of the developed world barely grew, causing
more loss of confidence. With interest rates at new lows and becoming a
medium term phenomenon, here we are at the brink of another stalling of the
developed world’s economies. This time though, the emerging world is
starting to slow its frantic pace of growth, telling us just how far the
developed world is slowing. Because the emerging world needs to export to
keep its growth high and are now seeing these slow down, they’re being
forced to turn inwards.
The horrible feature of deflation is that it can’t be measured
accurately because of its subjective, or emotional, content. It doesn’t
move at a strictly defined pace and it must be killed early, before it turns
an economic summer into winter, where stimulation just won’t work. It
is truly a “black beast”.
This economic direction we now find ourselves in is what the central banks
fear the most.
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