Category: zerohedge

 

I was blown out by the Labor Force Participation Rate (LFPR) data released Friday. Down 4 tics to 62.8%. That sounds like no big deal, but it is. Either there is something out of whack with the data, and it will be revised, or there will have to be some serious rethinking by the folks who develop long-term economic models, and also at the Federal Reserve.

Consider the short term consequences. The Fed has hung its monetary hat on an unemployment rate of 6.5%. We have been told, time and again, that if the magic number of 6.5% unemployment is reached, the madness of US monetary policy will be relaxed. Should the LFPR continue to drop, the hurdle rate for changes to Fed policy will come sooner than is anticipated.

The Atlanta Fed has an interactive tool that looks at this (Link). It takes into consideration the variables of the unemployment picture and produces a report of how many jobs are needed per month over a given period, to achieve the 6.5% level. A few examples:

 

As you can see, the Fed's target can be reached in the next 12 months if the LFPR falls a bit further. I'm quite certain that should things unfold like this the new head of the Fed, Janet Yellen, will change the 'rules' and ignore the 6.5% target and continue along with ZIRP and QE. But if she does that, it will be at her (and our) risk.

 

Then you have the long-term side of declining LFPR. A low LFPR means that there are less workers earning taxable income. That translates into less government revenue. Payroll taxes (Social Security and Medicare) total 15% of wages. For an average worker making $40,000 a year that comes to $6,000. When the LFPR drops by 0.1% it means that there will be 180,000 less workers filling the tax bucket. The .1% drop translates into $1Bn less in tax revenue. The .4% drop in October therefore means $4Bn in lost revenue. It adds up quick.

All of the models used to forecast future federal deficits rely on a much higher LFPR assumption than today's reality. The Congressional Budget Office did a long term forecast of LFPR. The CBO hung its hat on a LFPR that is higher than 62.8%, meaning the forecasts of future tax receipts (and subsequent deficits) were wrong.

 

 

The 64.4% assumption the CBO used versus the 62.8% that exists today translates into 4m less workers contributing to the system, and those 4m workers (and their employers) will not pay $25B in payroll taxes. A 1/4 trillion adjustment over ten-years just due to a revision of the LFPR. That's real money.

I've looked at long-term forecasts for LFPR from CBO and BLS. They all have the participation rate dropping over time, but they do not have the drop occurring in the present. What if the 'New Normal' is a participation rate that hangs in the low 60% level for the next decade? It translates into much larger deficits at the Federal and State levels. It means that there will be less consumption as there will be fewer paychecks, and that means a much lower rate of growth of GDP.

So either the LFPR turns around and starts headed higher very soon (and stays higher for another decade), or the USA is in for a prolonged period of sub par growth and very high annual deficits.

Consider this chart of LFPR. The drop is accelerating. What are the odds that the long-term trend towards lower participation is going to turn around soon? I would say, "Not high".

 

Note: This analysis only looks at the consequences to payroll taxes from a drop in LFPR. There is is also lost revenue from State and Federal income taxes, and there is the broader drop in consumption to add into the mix. All in, the drop in participation is a very big deal.

 

 

via Zero Hedge http://feedproxy.google.com/~r/zerohedge/feed/~3/Y_jJiizOnug/story01.htm Bruce Krasting

Submitted by F.F. Wiley of Cyniconomics

M.C. Escher And The Impossibility Of The Establishment Economic View

It’s easy to show that public institutions such as the Federal Reserve and Congressional Budget Office (CBO) are routinely blindsided by economic developments. You only need to compare their past predictions to real events to see these organizations’ deficiencies.

More importantly, we can demonstrate that their struggles are all but certain to continue. This may sound like a difficult task, but we’ll argue that it’s easier than you think. Using historical data and basic economic concepts, we’ll explain not only why the establishment view is wrong but that the underlying principles are fundamentally flawed. The implication is that existing policies are destined to fail.

To make our case, we’ll start with the CBO’s current forecasts for real per capita GDP (economic growth net of inflation and population growth):

Our regular readers already know that the CBO is abnormally bullish on near-term growth, based on its long-standing assumption that the gap between actual and potential output will swiftly close. But this won’t be our focus here. In fact, we’ll assume the CBO gets this part of its outlook right. We’ll be shocked if it does, but let’s pretend.

We’ll then examine the forecasted path for interest rates:

The interest rate outlook is an offshoot of the policy establishment’s overall approach. Monetary stimulus is expected to be removed as it guides the labor market toward full employment, allowing interest rates to return to normal levels.  At that point, natural economic forces are believed to be strong enough to preserve a normal, healthy economy. Establishment economists have near complete faith that this is a sound and reliable process.

But closer examination reveals a few cracks. Consider that the chart above shows quite a jump in interest rates, which begs the question: How will the economy weather such a development?

We’ll look to history for possible answers. We calculated the change in rates on three month Treasury bills for every eight quarter period since 1953, which breaks down like this:

We then reviewed past economic outcomes conditioned on the rate buckets above. Note that the forecasted 2015 to 2017 rate change of 3.2% (the leap from 0.2% to 3.4% in Chart 2) falls in the final bucket. Therefore, this bucket is especially relevant to the economy’s likely performance in the next rate cycle. We circled it in the charts below:

While the results speak for themselves, I’d be remiss if I didn’t add qualifiers. For one, the sample sizes fall as you move from left to right across the charts. Moreover, history doesn’t always foretell the future; this time could be different.

But the thing is: the data makes perfect sense. Higher interest rates have obvious effects on risk taking and debt service costs. It stands to reason that the economy won’t just sail through the large rate hikes needed to restore historic norms.

If anything, the charts likely understate the future effects of rising rates, because today’s debt levels are far higher than average historic levels. Any normalization must also include a wind-down of unconventional measures such as quantitative easing, which presents additional challenges.

Yet, the official outlook calls for steady improvement both through and beyond the rate jump. As shown in Chart 1, the CBO predicts that per capita GDP growth will accelerate to over 3% before settling back to a trend rate of 1.2%.  Forecasts for 2018 and 2019 average a healthy 1.5%, despite the figures in Chart 5 showing virtually no growth after large interest rate increases in the past.

Here’s the corresponding outlook for employment, followed by two more reasons to expect forecasts to fail:

 

(See here for background on the corporate leverage multiples and here for more on the stock valuation figures.)

In a word, the CBO’s projections are preposterous. They ignore effects that are clear in the data and obvious in real life. But the charts reveal more than just forecasting flaws at a single governmental institution. More broadly, the assumption of a smooth and lasting return to normality is standard practice for mainstream economists, particularly those at the Fed.

Essentially, economists are hardwired to focus on the near-term effects of policy stimulus, while dismissing long-term effects that are often far more important. Standard models fail to account for either natural cyclicality or the payback seen in Charts 4 to 6. Although establishment economists often speak about sustainable growth, they really mean any growth that restores GDP to where they believe it should be. They don’t seriously contemplate the unsustainable growth that occurs when the economy is over-stimulated through credit and financial asset channels. And the charts above demonstrate these deficiencies.

Worse still, this analysis doesn’t tell the whole story. We could have easily tripled the chart sequence with other indicators of Fed-fueled credit and asset market froth – from record margin debt to lax loan covenants to soaring public debt – that also show heightened risks of another bust.

We suggest giving some thought to the data shown abo
ve and considering its message for the future. Send it to the smartest people you know and get their opinions. In the meantime, here are our conclusions:

1: Even if the economy returns to full employment under existing policies, it won’t remain there after (and if) interest rates normalize.

2: Based on today’s debt and valuation levels (charts 8-9, for example), rising interest rates will have an even harsher effect than suggested by the 60 year history (charts 4-6).

3: Contrary to the establishment’s “sustainable recovery” narrative, the most plausible outcomes are: 1) interest rates normalize but this triggers another bust, or 2) interest rates remain abnormally low until we eventually experience the mother of all debt/currency crises.

Conclusion 3 restated: We’re stuck in an Escher economy (see below), thanks to the impossibility of the establishment economic view, and this will remain the case until the existing structure collapses and is rebuilt on stronger policy principles.

via Zero Hedge http://feedproxy.google.com/~r/zerohedge/feed/~3/xljTsgugtG0/story01.htm Tyler Durden

Submitted by F.F. Wiley of Cyniconomics

M.C. Escher And The Impossibility Of The Establishment Economic View

It’s easy to show that public institutions such as the Federal Reserve and Congressional Budget Office (CBO) are routinely blindsided by economic developments. You only need to compare their past predictions to real events to see these organizations’ deficiencies.

More importantly, we can demonstrate that their struggles are all but certain to continue. This may sound like a difficult task, but we’ll argue that it’s easier than you think. Using historical data and basic economic concepts, we’ll explain not only why the establishment view is wrong but that the underlying principles are fundamentally flawed. The implication is that existing policies are destined to fail.

To make our case, we’ll start with the CBO’s current forecasts for real per capita GDP (economic growth net of inflation and population growth):

Our regular readers already know that the CBO is abnormally bullish on near-term growth, based on its long-standing assumption that the gap between actual and potential output will swiftly close. But this won’t be our focus here. In fact, we’ll assume the CBO gets this part of its outlook right. We’ll be shocked if it does, but let’s pretend.

We’ll then examine the forecasted path for interest rates:

The interest rate outlook is an offshoot of the policy establishment’s overall approach. Monetary stimulus is expected to be removed as it guides the labor market toward full employment, allowing interest rates to return to normal levels.  At that point, natural economic forces are believed to be strong enough to preserve a normal, healthy economy. Establishment economists have near complete faith that this is a sound and reliable process.

But closer examination reveals a few cracks. Consider that the chart above shows quite a jump in interest rates, which begs the question: How will the economy weather such a development?

We’ll look to history for possible answers. We calculated the change in rates on three month Treasury bills for every eight quarter period since 1953, which breaks down like this:

We then reviewed past economic outcomes conditioned on the rate buckets above. Note that the forecasted 2015 to 2017 rate change of 3.2% (the leap from 0.2% to 3.4% in Chart 2) falls in the final bucket. Therefore, this bucket is especially relevant to the economy’s likely performance in the next rate cycle. We circled it in the charts below:

While the results speak for themselves, I’d be remiss if I didn’t add qualifiers. For one, the sample sizes fall as you move from left to right across the charts. Moreover, history doesn’t always foretell the future; this time could be different.

But the thing is: the data makes perfect sense. Higher interest rates have obvious effects on risk taking and debt service costs. It stands to reason that the economy won’t just sail through the large rate hikes needed to restore historic norms.

If anything, the charts likely understate the future effects of rising rates, because today’s debt levels are far higher than average historic levels. Any normalization must also include a wind-down of unconventional measures such as quantitative easing, which presents additional challenges.

Yet, the official outlook calls for steady improvement both through and beyond the rate jump. As shown in Chart 1, the CBO predicts that per capita GDP growth will accelerate to over 3% before settling back to a trend rate of 1.2%.  Forecasts for 2018 and 2019 average a healthy 1.5%, despite the figures in Chart 5 showing virtually no growth after large interest rate increases in the past.

Here’s the corresponding outlook for employment, followed by two more reasons to expect forecasts to fail:

 

(See here for background on the corporate leverage multiples and here for more on the stock valuation figures.)

In a word, the CBO’s projections are preposterous. They ignore effects that are clear in the data and obvious in real life. But the charts reveal more than just forecasting flaws at a single governmental institution. More broadly, the assumption of a smooth and lasting return to normality is standard practice for mainstream economists, particularly those at the Fed.

Essentially, economists are hardwired to focus on the near-term effects of policy stimulus, while dismissing long-term effects that are often far more important. Standard models fail to account for either natural cyclicality or the payback seen in Charts 4 to 6. Although establishment economists often speak about sustainable growth, they really mean any growth that restores GDP to where they believe it should be. They don’t seriously contemplate the unsustainable growth that occurs when the economy is over-stimulated through credit and financial asset channels. And the charts above demonstrate these deficiencies.

Worse still, this analysis doesn’t tell the whole story. We could have easily tripled the chart sequence with other indicators of Fed-fueled credit and asset market froth – from record margin debt to lax loan covenants to soaring public debt – that also show heightened risks of another bust.

We suggest giving some thought to the data shown above and considering its message for the future. Send it to the smartest people you know and get their opinions. In the meantime, here are our conclusions:

1: Even if the economy returns to full employment under existing policies, it won’t remain there after (and if) interest rates normalize.

2: Based on today’s debt and valuation levels (charts 8-9, for example), rising interest rates will have an even harsher effect than suggested by the 60 year history (charts 4-6).

3: Contrary to the establishment’s “sustainable recovery” narrative, the most plausible outcomes are: 1) interest rates normalize but this triggers another bust, or 2) interest rates remain abnormally low until we eventually experience the mother of all debt/currency crises.

Conclusion 3 restated: We’re stuck in an Escher economy (see below), thanks to the impossibility of the establishment economic view, and this will remain the case until the existing structure collapses and is rebuilt on stronger policy principles.

via Zero Hedge http://feedproxy.google.com/~r/zerohedge/feed/~3/xljTsgugtG0/story01.htm Tyler Durden

With the help of the unexpected ECB rate cut and better than expected US economic data, the US dollar showed the kind of strength the technical reading suggested was likely last week.  However, the market appears to have run ahead of itself and the immediate risk is for a setback in the dollar.

 

The fundamental drivers may have been exaggerated.  The ECB’s refi rate cut is largely symbolic in nature as the interbank rate trades closer to the zero deposit rate and is largely unchanged from where it was prior to the ECB’s surprise move.  The implied yield of the December 2014 Euribor futures contract was three basis points lower on the week.  

 

Similarly, the 14 bp jump in the US 10-year Treasury yield in response to the stronger than expected establishment survey exaggerates the likelihood of the introduction of tapering at the December FOMC meeting.   What looks like improvement is really noise around a signal of steady but gradual improvement in the labor market.  The 3-month average of private sector payroll growth is just below 190k.  The 6-month average is 175k, while the 12-month average stands at 196k.  

 

Moreover, price pressures, as shown by the core PCE deflator of 1.2%, are still threatening deflation and was recognized as such by none other than Bernanke himself, when he was a Governor on the Federal Reserve in the early 2000s.   Without inflation moving back toward the Fed’s target, there is no urgency to taper.  

 

Euro:  Convincingly violated the July-September up trend line and the 5-day moving average has crossed below the 20-day average.  The US jobs data failed to drive the euro below the ECB-spurred lows, which correspond to a (50%) retracement of the rally since July (~$1.3290).  The euro traded below its 100-day moving for the first time in two months, though was unable to close the North American session below there.  The euro is also flirting with the lower of its Bollinger Bands set at two standard deviations below the 20-day moving average.    Technical indicators allow scope for further euro losses, but they may prove limited before a bounce.  Resistance is now seen in the $1.3450-80 area.  

 

Yen:   Remains well within a consolidative range that has been carved out over the past six-months. The US Treasury premium (10-year) over JGBs has widened by about 25 bp over the past week or so to reach a new two-month high above 215 bp.  At the same time, the Nikkei appears to have found support near 14000.  While these developments should underpin the greenback and the technical readings are constructive,  it is not clear that the upside has much to offer.   The dollar has not enjoyed two consecutive closes above JPY100 in four-months.  

 

Sterling:  Appears to be continuing to carve out a top of some importance.  Sterling spent last week within the range established the previous week and the upticks were capped be a (61.8%) retracement objective of the pullback since recording what we suspect is the second of a double top near $1.6260. The neckline, seen near $1.5900 contained sterling downticks at the start of the week and the soft close ahead of the weekend warns of a potential retest.  However, like we suggested with the euro, those downticks are likely to be short-lived.  

 

Swiss franc:  Shed a little more than 4% against the US dollar since October 24.  The greenback is trading at two-month highs against the franc.  It was kept in check at the end of last week by the (38.2%) retracement of the slide since May (~CHF0.9250) and coincides with the 100-day moving average.   While we anticipate additional gains (~CHF0.9350-CHF0.9475), we are more inclined to buy dollar pullbacks than chase this rally.  

 

Canadian dollar: Slipped to its lowest level in two-months before the weekend.  The US dollar hit down trend line drawn off the mid-July, late-August and early-September highs a little above CAD1.05.   Technical indicators and the cross-over of the 5- and 20-day averages are constructive.  A move above the trend line would target CAD1.0560 initially, with stiffer resistance near CAD1.06.   Support is seen ahead of CAD1.04.  

 

Australian dollar:  Encouraged by a dovish monetary policy statement by the Reserve Bank of Australia, the Aussie was pushed convincingly below $0.9400 for the first time in a month.  The down draft halted near the (50%) retracement of the advance off the August 30 low, which was found near $0.9325.   Scope for corrective upticks extends toward $0.9400-25.   The New Zealand dollar is particularly interesting from a technical perspective.  The US dollar has carved out a potential head and shoulders pattern.  A convincing break of the  $0.8200 neckline would suggest potential toward $0.7850.

 

Mexican peso:  After approaching the Oct high near MXN13.3450, the dollar revered course before the weekend.   However, the pullback failed to violate the greenback’s uptrend.  Support is seen around MXN13.10 and the upper end of the multi-month trading range is near MXN13.45.  

 

 

Observations of speculative positioning in the CME currency futures:  

 

1.  There were two significant position adjustments.  The gross long euro positions were slashed by 32.7k contracts.  Gross short yen positions grew by 12.6k contracts.    Ten of the remaining 12 gross positions we monitor were changed by less than 5k contracts.  

 

2.  All the currency futures, but the Australian dollar, saw gross short positions increase.  The gross short Australian dollar position was reduced by less than 1k contracts.    Gross long currency futures positions were mostly trimmed, with the exception of  yen and Mexican peso.  

 

3.  The modest decrease in gross long sterling positions and a modest increase in gross shorts was sufficient to swing the net position back in favor of the shorts for the first time since late September.  

 

4.  The Commitment of Traders report shows that speculators were reducing their short dollar position ahead of the ECB meeting, where a surprise rate cut was delivered, and stronger than expected US jobs data.  It ought not be surprising to see these trends continue into the next CFTC report.

via Zero Hedge http://feedproxy.google.com/~r/zerohedge/feed/~3/Io65p7EC2Yg/story01.htm Marc To Market

Submitted by Michael Krieger of Liberty Blitzkrieg blog,

America has become a gigantic gulag over the past few decades and most of its citizens don’t know, or just don’t care. One of the primary causes of the over incarceration in the U.S. is the absurd, tragic failure that is the “war on drugs”, and indeed nearly half of the folks in prison are there for drug related offenses. Making matters worse is a rapidly growing private prison system, which adds a profit motive to the equation. Recently, I wrote an extensive rant against the private prison system and provided details on how it works in:  A Deep Look into the Shady World of the Private Prison Industry.

Now here are some of the sad facts. There are 1.57 million people in federal and state prison (does not even include county and local jail) according to the Department of Justice. That’s above the nation’s 1.53 million engineers and 1.05 million high school teachers.

 

More from the Huffington Post:

If sitting in a prison cell was a job, it would be one of the most common jobs in the United States. In 2012, there were some1,570,000 inmates in state and federal prisons in the U.S., according to data from the Justice Department.

 

By contrast, there were about 1,530,000 engineers in America last year, 815,000 construction workers, and 1 million high school teachers, according to the Bureau of Labor Statistics.

 

There were also 750,000 car technicians.

Yep, you know it. USA! USA!

Full article here.

via Zero Hedge http://feedproxy.google.com/~r/zerohedge/feed/~3/wmwjYqSIJ4Y/story01.htm Tyler Durden

We previously highlighted Didier Sornette’s excellent work trying to identify pre-crash conditions in financial markets and John Hussman’s chart below suggests we are indeed heading that way. His warning, however, “Don’t rely on further blow-off – but don’t be shocked – risk dominates… Hold Tight.“

 

 

Via @Hussmanjp

via Zero Hedge http://feedproxy.google.com/~r/zerohedge/feed/~3/wPhU0HSFpzk/story01.htm Tyler Durden

Submitted by Peter Schiff of Euro Pacific Capital,

Most market watchers expect that Janet Yellen will grapple with two major tasks once she takes the helm at the Federal Reserve in 2014: deciding on the appropriate timing and intensity of the Fed’s quantitative easing taper strategy, and unwinding the Fed’s enormous $4 trillion balance sheet (without creating huge losses in the value of its portfolio). In reality both assignments are far more difficult than just about anyone understands or admits.
 
Unlike just about every other economist, I knew that the Fed would not taper in September because the economy is still fundamentally addicted to stimulus. The signs of recovery that have caused investors and politicians to bubble with enthusiasm are just QE in disguise. Take away the QE and the economy would likely tilt back into an even more severe recession than the one we experienced before QE1 was launched.
 
Given the Fed’s failure to initiate a tapering campaign in recent months (when it was highly expected) it is surprising that most people still believe that it will pull the trigger in the first quarter of 2014. But if the Fed could not take action in September, with Ben Bernanke at the helm and the nation as yet untraumatized by the debt ceiling drama and Obamacare, why should we expect tougher treatment from Janet Yellen? This is particularly true when you consider Yellen’s reputation as an extreme dove and the uninspiring economic data that has come in recent months. 
 
Rather than explicitly describing the possibility of a reduction of asset purchases, recent Fed statements have merely said that policy would be “adjusted” according to incoming data. It has never said what direction that adjustment may take. Yet somehow the market has concluded that an imminent reduction is the only possibility. But the opposite conclusion is more likely. Recession avoidance is really the Fed’s only concern and it will always come down on the side of accommodation. Therefore an expectation for a 2014 taper is just wishful thinking.
 
But that does not mean that QE will go on forever. It will come to an end, but not because the Fed wants it to, but because the currency markets give it no choice. A dollar crisis would ultimately force the Fed’s hand, and the longer the Fed succeeds in postponing the inevitable, the more damage its policy mistakes will inflict on our economy.
 
Yellen’s second task will be equally impossible. Since the QE campaign began in 2010 the Fed has more than quadrupled the amount of bonds that it holds on its balance sheet,to more than $4 trillion of Treasury and mortgage-backed bonds. To accumulate this massive cache, the Fed has become by far the largest buyer in both markets. Its purchases have pushed up the prices of those bonds and have kept long term interest rates low for both consumers and businesses.
 
When the QE was first launched, Ben Bernanke tamped down fears of the program by saying the Fed would one day sell the bonds that it was buying. But as the Fed’s balance sheet ballooned, many in the market began fearing that the unwinding of these trades would crush the market for Treasuries and mortgage-backed securities. Bernanke soon allayed these fears by saying that the Fed would not actively sell, but would simply allow bonds to mature. But this is just a convenient fiction.
 
If stock or real estate prices were to enter into bubble territory (which I believe has already happened), or if inflation were ever to surge past the Fed’s low target range (which I believe is certain to happen), then the Fed would have to sell bonds to get in front of these trends.
 
Through Operation Twist, the Fed has already swapped a very large portion of its short-term bonds for long-term bonds. The slow process of waiting for bonds to mature is unlikely to slow down asset bubbles or inflation. The argument also does not account for the fact that the Treasury will have to sell new bonds in order to retire the principle on the maturing bonds. Since the Fed is the primary buyer of Treasury bonds, the Fed would have to add to its balance sheet when it’s trying to shrink it. Such a cycle is just a debt rollover that leaves the size of the Fed’s balance sheet unchanged.
 
Unless other buyers of Treasuries or MBS can be found to replace the Fed’s prodigious buying, the Fed will remain the only game in town. Given these realities, how can we possibly expect Janet Yellen to actually diminish the amount of assets the Fed holds? She won’t be able to do it and any expectations to the contrary are pure fantasy.
 
So we should not be asking when Ms. Yellen will begin withdrawing stimulus and shrinking the Fed’s balance sheet. Instead we should be asking how the markets will react when she runs out of excuses for delaying the taper, or ultimately decides to expand QE rather than contract it.

via Zero Hedge http://feedproxy.google.com/~r/zerohedge/feed/~3/99qbKfST0pE/story01.htm Tyler Durden

Submitted by Peter Schiff of Euro Pacific Capital,

Most market watchers expect that Janet Yellen will grapple with two major tasks once she takes the helm at the Federal Reserve in 2014: deciding on the appropriate timing and intensity of the Fed’s quantitative easing taper strategy, and unwinding the Fed’s enormous $4 trillion balance sheet (without creating huge losses in the value of its portfolio). In reality both assignments are far more difficult than just about anyone understands or admits.
 
Unlike just about every other economist, I knew that the Fed would not taper in September because the economy is still fundamentally addicted to stimulus. The signs of recovery that have caused investors and politicians to bubble with enthusiasm are just QE in disguise. Take away the QE and the economy would likely tilt back into an even more severe recession than the one we experienced before QE1 was launched.
 
Given the Fed’s failure to initiate a tapering campaign in recent months (when it was highly expected) it is surprising that most people still believe that it will pull the trigger in the first quarter of 2014. But if the Fed could not take action in September, with Ben Bernanke at the helm and the nation as yet untraumatized by the debt ceiling drama and Obamacare, why should we expect tougher treatment from Janet Yellen? This is particularly true when you consider Yellen’s reputation as an extreme dove and the uninspiring economic data that has come in recent months. 
 
Rather than explicitly describing the possibility of a reduction of asset purchases, recent Fed statements have merely said that policy would be “adjusted” according to incoming data. It has never said what direction that adjustment may take. Yet somehow the market has concluded that an imminent reduction is the only possibility. But the opposite conclusion is more likely. Recession avoidance is really the Fed’s only concern and it will always come down on the side of accommodation. Therefore an expectation for a 2014 taper is just wishful thinking.
 
But that does not mean that QE will go on forever. It will come to an end, but not because the Fed wants it to, but because the currency markets give it no choice. A dollar crisis would ultimately force the Fed’s hand, and the longer the Fed succeeds in postponing the inevitable, the more damage its policy mistakes will inflict on our economy.
 
Yellen’s second task will be equally impossible. Since the QE campaign began in 2010 the Fed has more than quadrupled the amount of bonds that it holds on its balance sheet,to more than $4 trillion of Treasury and mortgage-backed bonds. To accumulate this massive cache, the Fed has become by far the largest buyer in both markets. Its purchases have pushed up the prices of those bonds and have kept long term interest rates low for both consumers and businesses.
 
When the QE was first launched, Ben Bernanke tamped down fears of the program by saying the Fed would one day sell the bonds that it was buying. But as the Fed’s balance sheet ballooned, many in the market began fearing that the unwinding of these trades would crush the market for Treasuries and mortgage-backed securities. Bernanke soon allayed these fears by saying that the Fed would not actively sell, but would simply allow bonds to mature. But this is just a convenient fiction.
 
If stock or real estate prices were to enter into bubble territory (which I believe has already happened), or if inflation were ever to surge past the Fed’s low target range (which I believe is certain to happen), then the Fed would have to sell bonds to get in front of these trends.
 
Through Operation Twist, the Fed has already swapped a very large portion of its short-term bonds for long-term bonds. The slow process of waiting for bonds to mature is unlikely to slow down asset bubbles or inflation. The argument also does not account for the fact that the Treasury will have to sell new bonds in order to retire the principle on the maturing bonds. Since the Fed is the primary buyer of Treasury bonds, the Fed would have to add to its balance sheet when it’s trying to shrink it. Such a cycle is just a debt rollover that leaves the size of the Fed’s balance sheet unchanged.
 
Unless other buyers of Treasuries or MBS can be found to replace the Fed’s prodigious buying, the Fed will remain the only game in town. Given these realities, how can we possibly expect Janet Yellen to actually diminish the amount of assets the Fed holds? She won’t be able to do it and any expectations to the contrary are pure fantasy.
 
So we should not be asking when Ms. Yellen will begin withdrawing stimulus and shrinking the Fed’s balance sheet. Instead we should be asking how the markets will react when she runs out of excuses for delaying the taper, or ultimately decides to expand QE rather than contract it.

via Zero Hedge http://feedproxy.google.com/~r/zerohedge/feed/~3/99qbKfST0pE/story01.htm Tyler Durden

Speaking, ironically, at the Economic Club of Detroit in 1988, Ron Paul warns oh-so-prophetically of a coming economic crisis and the profound implications of the government’s fiscal and monetary program largesse.

 

via Zero Hedge http://feedproxy.google.com/~r/zerohedge/feed/~3/mHZX5_pra2Q/story01.htm Tyler Durden

Submitted by Michael Snyder of The Economic Collapse blog,

The death of the dollar is coming, and it will probably be China that pulls the trigger.  What you are about to read is understood by only a very small fraction of all Americans.  Right now, the U.S. dollar is the de facto reserve currency of the planet.  Most global trade is conducted in U.S. dollars, and almost all oil is sold for U.S. dollars.  More than 60 percent of all global foreign exchange reserves are held in U.S. dollars, and far more U.S. dollars are actually used outside of the United States than inside of it.  As will be described below, this has given the United States some tremendous economic advantages, and most Americans have no idea how much their current standard of living depends on the dollar remaining the reserve currency of the world. 

Unfortunately, thanks to reckless money printing by the Federal Reserve and the reckless accumulation of debt by the federal government, the status of the dollar as the reserve currency of the world is now in great jeopardy.

As I mentioned above, nations all over the globe use U.S. dollars to trade with one another.  This has created tremendous demand for U.S. dollars and has kept the value of the dollar up.  It also means that Americans can import things that they need much more inexpensively than they otherwise would be able to.

The largest exporting nations such as Saudi Arabia (oil) and China (cheap plastic trinkets at Wal-Mart) end up with massive piles of U.S. dollars…

Instead of just sitting on all of that cash, these exporting nations often reinvest much of that cash into low risk securities that can be rapidly turned back into dollars if necessary.  For a very long time, U.S. Treasury bonds have been considered to be the perfect way to do this.  This has created tremendous demand for U.S. government debt and has helped keep interest rates super low.  So every year, massive amounts of money that gets sent out of the country ends up being loaned back to the U.S. Treasury at super low interest rates…

And it has been a very good thing for the U.S. economy that the federal government has been able to borrow money so cheaply, because the interest rate on 10 year U.S. Treasuries affects thousands upon thousands of other interest rates throughout our financial system.  For example, as the rate on 10 year U.S. Treasuries has risen in recent months, so have the rates on U.S. home mortgages.

Our entire way of life in the United States depends upon this game continuing.  We must have the rest of the world use our currency and loan it back to us at ultra low interest rates.  At this point we have painted ourselves into a corner by accumulating so much debt.  We simply cannot afford to have rates rise significantly.

For example, if the average rate of interest on U.S. government debt rose to just 6 percent (and it has been much higher than that at various times in the past), we would be paying more than a trillion dollars a year just in interest on the national debt.

But it wouldn't be just the federal government that would suffer.  Just consider what higher rates would do to the real estate market.

About a year ago, the rate on 30 year mortgages was sitting at 3.31 percent.  The monthly payment on a 30 year, $300,000 mortgage at that rate is $1315.52.

If the 30 year rate rises to 8 percent, the monthly payment on a 30 year, $300,000 mortgage would be $2201.29.

Does 8 percent sound crazy to you?

It shouldn't.  8 percent was considered to be normal back in the year 2000.

Are you starting to get the picture?

We need other countries to use our dollars and buy our debt so that we can have super low interest rates and so that we can afford to buy lots of cheap stuff from them.

Unfortunately, the truly bizarre behavior of the Federal Reserve and the U.S. government over the past several years is causing the rest of the world to lose faith in our currency.  In particular, China is leading the call for a "de-Americanized" world.  The following is from a recent article posted on the website of France 24…

For decades the US has benefited to the tune of trillions of dollars-worth of free credit from the greenback's role as the default global reserve unit.

 

But as the global economy trembled before the prospect of a US default last month, only averted when Washington reached a deal to raise its debt ceiling, China's official Xinhua news agency called for a "de-Americanised" world.

 

It also urged the creation of a "new international reserve currency… to replace the dominant US dollar".

So why should the rest of the planet listen to China?

Well, China now accounts for more global trade than anyone else does, including the United States.

China is also now the number one importer of oil in the world.

At this point, China is even importing more oil from Saudi Arabia than the United States is.

China now has an enormous amount of economic power globally, and the Chinese want the rest of the planet to start using less U.S. dollars and to start using more of their own currency.  The following is from a recent article in the Vancouver Sun…

Three years after China allowed the yuan to start trading in Hong Kong’s offshore market, banks a
nd investors around the world are positioning themselves to get involved in what Nomura Holdings Inc. calls the biggest revolution in the $5.3 trillion currency market since the creation of the euro in 1999.

And over the past few years we have seen the global use of the yuan rise dramatically…

International use of the yuan is increasing as the world’s second-largest economy opens up its capital markets. In the first nine months of this year, about 17 percent of China’s global trade was settled in the currency, compared with less than one percent in 2009, according to Deutsche Bank AG.

Of course the U.S. dollar is still king for now, but thanks to a whole host of recent international currency agreements this status is slipping.  For example, China just recently signed a major currency agreement with the European Central Bank…

The swap deal will allow more trade and investment between the regions to be conducted in euros and yuan, without having to convert into another currency such as the U.S. dollar first, said Kathleen Brooks, a research director at FOREX.com.

 

"It's a way of promoting European and Chinese trade, but not doing it with the U.S. dollar," said Brooks. "It's a bit like cutting out the middleman, all of a sudden there's potentially no U.S. dollar risk."

And as I have written about previously, we have seen a bunch of other similar agreements being signed all over the planet in recent years…

1. China and Germany (See Here)

2. China and Russia (See Here)

3. China and Brazil (See Here)

4. China and Australia (See Here)

5. China and Japan (See Here)

6. India and Japan (See Here)

7. Iran and Russia (See Here)

8. China and Chile (See Here)

9. China and the United Arab Emirates (See Here)

10. China, Brazil, Russia, India and South Africa (See Here)

But do you hear about any of this on the mainstream news?

Of course not.

They would rather focus on the latest celebrity scandal.

Right now, the global move away from the U.S. dollar is slow but steady.

At some point, some trigger event will likely cause it to become a stampede.

When that happens, demand for U.S. dollars and U.S. debt will disintegrate and interest rates will absolutely skyrocket.

And if interest rates skyrocket that will throw the entire U.S. financial system into chaos.  At the moment, there are about 441 trillion dollars worth of interest rate derivatives sitting out there.  It is a financial time bomb unlike anything the world has ever seen before.

There are four "too big to fail" banks in the United States that each have more than 40 trillion dollars worth of total exposure to derivatives.   The largest chunk of those derivatives is made up of interest rate derivatives.  In case you were wondering , those four banks are JPMorgan Chase, Citibank, Bank of America and Goldman Sachs.

A huge upward surge in interest rates would absolutely devastate those banks and cause a financial crisis that would make 2008 look like a Sunday picnic.

Right now, the leader in global trade seems content to use U.S. dollars for most of their international transactions.  China also seems content to hold more than a trillion dollars of U.S. government debt.

If that suddenly changes someday, the consequences for the U.S. economy will be absolutely catastrophic and every single American will feel the pain.

The standard of living that all of us are enjoying today depends largely upon China.  They can bring down the hammer at any moment and they know it.

via Zero Hedge http://feedproxy.google.com/~r/zerohedge/feed/~3/xaS_69VFWJ0/story01.htm Tyler Durden