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Why central banks need to hold gold way down or get it up to $10,000

IMG Auteur
Published : February 25th, 2013
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Category : GoldWire

Trade Protectionism Looms Next as Central Banks Exhaust QE

By Ambrose Evans-Pritchard
The Telegraph, London
Sunday, February 24, 2013

Officials at the US Federal Reserve may be more worried than they have let on about the treacherous task of extricating America from quantitative easing. This is an unsettling twist, with global implications.

A new paper for the US Monetary Policy Forum and published by the Fed warns that the institution's capital base could be wiped out "several times" once borrowing costs start to rise in earnest.

A mere whiff of inflation or more likely stagflation would cause a bond market rout, leaving the Fed nursing escalating losses on its $2.9 trillion holdings. This portfolio is rising by $85 billion each month under QE3. The longer it goes on, the greater the risk. Exit will become much harder by 2014.


Such losses would lead to a political storm on Capitol Hill and risk a crisis of confidence. The paper -- "Crunch Time: Fiscal Crises and the Role of Monetary Policy" -- is co-written by former Fed governor Frederic Mishkin, Ben Bernanke's former right-hand man:

http://research.chicagobooth.edu/igm/usmpf/download2.aspx

It argues the Fed is acutely vulnerable because it has stretched the average maturity of its bond holdings to 11 years, and the longer the date, the bigger the losses when yields rise. The Bank of Japan has kept below three years.

Trouble could start by mid-decade and then compound at an alarming pace, with yields spiking up to double-digit rates by the late 2020s. By then Fed will be forced to finance spending to avert the greater evil of default.

"Sovereign risk remains alive and well in the U.S, and could intensify. Feedback effects of higher rates can lead to a more dramatic deterioration in long-run debt sustainability in the US than is captured in official estimates," it said.

Europe has its own "QE" travails. The paper said the ECB's purchase of Club Med bond amounts to "monetisation" of public debt in countries shut out of global markets, whatever the claims of Mario Draghi.

"We see at least a risk that the eurozone is on a path to become more like Argentina (which of course is why German central bankers are most concerned). The provinces overspend and are always bailed out by the central government. The result is a permanent fiscal imbalance for the central government, which then results in monetization of the debt by the central bank and high inflation," it said.

In America, the Fed would face huge pressure to hold onto its bonds rather than crystalize losses as yields rise -- in other words, to recoil from unwinding QE at the proper moment. The authors argue that it would be tantamount to throwing in the towel on inflation, the start of debt monetisation, or "fiscal dominance." Markets would be merciless. Bond vigilantes would soon price in a very different world.

Read the rest here

http://www.telegraph.co.uk/finance/comment/ambroseevans_pritchard/989108...



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