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ATWDLimited (< 20)

The Official Dollar Report

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24

March 29, 2008 – Comments (12)

            Recent rate cuts, a weak economy, housing crisis, credit crisis and massive debt are all bad news for the dollar. I know there are a lot of dollar bashers, no I don’t think the Euro is good or the Yen, so don’t go there. But lets explore the underlying value of this fiat currency. More to the point why does it have value, and what backs it up?

 

            According to fiat currency, the US dollar is supported by its economy and credit as well as the government’s ability to back it up. There are 5 components giving the dollar value,

            The Positives:

- the US economy, measured in GDP stands at 13.84 trillion

- the credit line of the US, no real measurement, but is in poor shape

- Strength of the US government, its still powerful, we got a big military to enforce what we want 

- major debt/deposit currency for banks and businesses around the globe

- largest stock exchanges and most business  

            Thus the US dollars value is supported by each of these different components, although there may be many others like commodities demands vs supply, which I discuss in previous posts.

            And the negatives for the dollar:

- large amount of debt, 53 trillion of US economy/government debts

- government has huge fund shortages

- weakening economy, bad times for most people and business

- rise of economic rivals like China and India

- long term wars in the Middle East

- strong possibility of a high tax increase by democrats if elected

*Fed moves, and news or reports can be either pluses or minuses, although it seems to be more of a negative now. 

So what does it all mean for the actual value of the dollar, how does all of this give rise to the value of that green paper money? Well according to an estimate of US M3, which is about 13.1 trillion or perhaps more, the FED stopped reporting it a while back in 2006 we have that many transactions with US dollars both printed and as credit loans. The economy in terms of GDP for 2007 at years end stood at 13.84 trillion, so the ratio of liquidity to US economy seems to be undervalued, so the dollar should be stronger, wrong. This neglects the fact that the US has 53 trillion dollars in totals debt and another 53 trillion in obligations for medicare and social security, which are set to go bust in the next 20 years.

The ratio of debt to M3 is 3.82, which means the US has $3.82 in debt per dollar of M3 liquidity, while it only has $1.05 in GDP per M3. Now combine the two -3.82+1.05= -2.77. That means the US has -$2.77 per M3 dollar, which means the currency is leveraged over 2 and a half times. Looks to me like the dollars got along way to slide, because it’s just a little overvalued.

As in this chart bellow, M3 is going to multiply by 4X by 2024, while, the GDP, will at best grow at 3% annually, meaning $13.84 Trillion will grow to $22.2 Trillion, while the US economy will only grow by 1.6X, which means the difference between the M3 money supply and US GDP between it will separate, at a rate of 1.4X per year. By this year, the M3 dollar vs GDP dollars will have equaled each other, and the M3 supply, calculated at an average increase of 10% per year will fly way far faster than the economy. Also compare that to the debt, which will increase at a rate of about 4X as fast as the economy. Last year alone, 4.3 trillion was added to the total debt.

http://bp1.blogger.com/_jCzxc88Fac8/R-65HNxV4uI/AAAAAAAAAAM/8VcM8-R-WTo/s1600-h/Picture+3.png

Thus one can see that there is no real end tot his M3 cycle of inflation, debt and the economy, and if the debt bubble is popped, the M3 supply will go out of control, inflation will rise dramatically and the US economy, well it will have just about nothing to hold up its growth and it will collapse. In turn the dollar will fall apart and we will have, HYPERSTAGFLATION. Yes, you heard me there will be negative growth and massive inflation all at once, nailing the coffin  shut for the US dollar and perhaps the US economy and power for good. So now that we evaluated what backs the dollar, we can see that the last 20 or so years have been built on borrowed time, money and an ever increasing line of credit, waiting to fail.

This crash will be devastating, and since no one is actually going to fix it, it may be prevented, but it will happen eventually. In terms of devastation, this will be far worse than any economic collapse in the last few millennia, since the demise of Rome. So what should you do to stop the madness, and protect yourself for the coming collapse, save money, don’t borrow more money unless you need it, buy gold/silver, see previous posts on silver and gold, buy hedges in commodities and build up a position, where you can survive the turmoil after the collapse, things could get ugly.

 

Some Charts:

M3

http://www.babylontoday.com/437aa450.png

http://www.nowandfutures.com/images/m3b.png

Budgets and trade

http://www.nowandfutures.com/images/trade_budget_deficit.png

US Credit

http://www.nowandfutures.com/images/credit_all.png

http://www.nowandfutures.com/images/credit_types_roc_short_term.png

M3 and Credit

http://www.nowandfutures.com/images/m3_plus_credit_long_term.png

GDP and Money Creation

http://www.nowandfutures.com/images/US_GDP_and_money.png

Money Supply and Inflation

http://www.nowandfutures.com/images/m2m3_cpi_money_supply_and_inflation_link.png

Liquidity and Gold

http://www.nowandfutures.com/images/global_liquidity_gdp_cofer_rates.png

Stocks, hard assets, Commodities and Housing

http://www.nowandfutures.com/images/dow_gold_oil_crb1900-current.png

Recent

http://www.nowandfutures.com/images/dow_gold_oil_crb2000-current.png

 

Well that is all folks, hope you leaned a lot and make safe investments to shelter you from what will be the dollars fall from grace.

 

-ATWDlimited Research, with borrowed charts and data www.nowandfutures.com

 

12 Comments – Post Your Own

#1) On March 29, 2008 at 7:15 PM, ATWDLimited (< 20) wrote:

Hello fellow Caps bloggers, please be sure to check the images, especially the one in the middle, I made that one my self. Also check out the other images at the bottom and the website, it has great information. All of the calculations in the middle are mine, and based on best case scenarios of 3% GDP growth, only 3% inflation and 10% M3 growth per year.

Check out my other posts on gold and silver as well as my blog on the debt which I speak of in this post. Thank you for reading and come back soon. 

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#2) On March 29, 2008 at 8:27 PM, Tastylunch (29.29) wrote:

dude I can't ever get imgred to work either. I just upload my pics to photobucket. it's more time consuming but it works and there's no hotlinking issues . :-)

interesting write up man.

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#3) On March 30, 2008 at 12:20 AM, Hezakiah (90.48) wrote:

What is your jusitfication for M3 growing at 10% per year.  It seems to me that because of the current credit crisis, many financial institutions are tightening their lending standards and also deleveraging.  Wouldn't this lead to a contraction in M3?

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#4) On March 30, 2008 at 3:04 AM, cluelessmorgan (91.10) wrote:

Reserves.  Just something further to chew on and get some ginseng. Thinking of comparison historically of low-reserve tranche amounts vs. the steady yearly increase of exemption amounts.  It seems to suggest a disparity to me.  Why? 

  http://www.federalreserve.gov/releases/h3/hist/annualreview.htm#reservetranche

 http://www.federalreserve.gov/monetarypolicy/reservereq.htm

 

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#5) On March 30, 2008 at 11:46 AM, Contrarian7 (< 20) wrote:

those numbers are really scary...keep up the good work!

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#6) On March 30, 2008 at 12:30 PM, XMFSinchiruna (27.47) wrote:

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#7) On April 01, 2008 at 8:46 AM, GeordieMc (45.05) wrote:

Before I get into this, a disclaimer: I don't really know anything, so feel free to correct me if something seems outlandish.

I'm not convinced about your assertion that the dollar is directly related to GDP.  As I understand it, there is correlation, but correlation does not equal causation.

From my tiny bit of Macro education, I understand that the way the dollar is valued in the market is, like everything else, a function of supply and demand.  I'm going to focus on demand, but supply is essentially the inverse (although fed and the banks have a say in the quantity of money in the whole system, the quantity of money in the exchange market is driven by Americans doing business with the rest of the world and the rest of the world doing business with Americans).  Demand comes from foreigners buying either assets or goods and services.  When I (I'm Canadian) buy T-bills I supply Canadian dollars and demand American dollars.  Once I have completed that transaction I use the $US to buy my T-bills.  The same is true of foreigners traveling in the US, buying manufactured goods or legal services or stocks or anything else.

This implies to me that the strength of the dollar relies, not so much on the goods produced in the American economy, but the aggregate perceived value of American assets to foreigners, both to buy as an investment (T-bills, land, equity, etc) or to produce goods and services that they want to buy (exports).

GDP is perhaps the best way to value American assets, as it is only through the use of assets that Americans can produce anything.  But before you can estimate the value of total assets, you need some estimation of ROA. For this reason, I'm not sure that subtracting American debt from GDP makes sense.  It seems to me kind of like looking at a company's balance sheet and subtracting liabilities from net income.  For almost all companies such a calculation will yield a negative number.

Does any of that make sense?  Does anyone have any good way of making such a calculation?  I'd be interested in the community's response.

Take care,

Geordie 

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#8) On April 02, 2008 at 12:16 AM, lquadland10 (< 20) wrote:

That was all before the bail out of bsc and the rest of the other  firms. We are bankrupt. Thought you like this report. GLOBAL REAL ESTATE MARKETS FORUM
* Realty Reality *
Editorial

REALTY REALITY FSO ARCHIVES

The Invisible Hand
(of the U.S. Government)
in Financial Markets
by Robert Bell
April 3, 2005

Summary: The U.S. government is manipulating all major U.S. financial
markets—stocks, treasuries, currencies. This article shows how it is possible
and how it is done, why it is done, who specifically is doing it, when they do
it, and where they get the money to do it.

Most people probably believe that the major capital markets in the U.S. are
basically true markets with, occasionally, maybe very occasionally, a little bit
of rigging here and there. But evidence shows that the opposite is the case—the
rigging is fundamental with a little bit of true markets here and there. I have
discussed how this works concerning U.S. and some other stock markets in an
earlier article.[1] Here I will primarily discuss the rigging of currency and
U.S. Treasury markets.

Perhaps the main reason for the urban legend that major markets are not
generally rigged is that they are assumed to be too big; the millions of
independent buyers and sellers, worldwide because of globalization, make
effective and sustained coordination impossible. The implicit assumption is that
any market could be systematically rigged if it were small enough, or at least
small enough at some critical choke point.

Little Markets

In the case of the market for U.S. Treasuries, the Financial Times summed up
exactly how small it really is in two major stories, one just under the masthead
on page one, on 24 January 2005. One story began, “During the past few years the
US has become dependent, not so much on millions of investors around the globe
but on a few individuals in a few of the world’s central banks.”[2] In 2003
these central bankers bought enough treasuries to cover 83% of the U.S. current
account deficit, and 86% of those purchases came from Asian central banks.

The two main sources of money for U.S. Treasuries are the central banks of Japan
and China. Japan held about $715 billion in U.S. Treasuries, as of November
2004, and China held about $191 billion.[3] All the other nations’ central banks
hold altogether, about the same amount again, roughly another trillion.

As the total of all obligations is about $4 trillion, two central banks
obviously hold about one quarter of the total. They are in the position to pump
or dump the Treasury market all by themselves. They can sell what they have or
simply stop buying when the Treasury sells.

Since the money comes from a handful of foreign central banks, the possible
rigging of the Treasury market equals the possible rigging of the foreign
exchange markets. These central banks have to buy dollars before they buy
Treasuries. Even Alan Greenspan has acknowledged that the two go together,
admitting that Asian central banks “may be supporting the dollar and U.S.
Treasury prices somewhat.”[4]

U.S. stock markets are also capable of being systematically rigged, and for the
same reason—a handful of players can dominate if they coordinate their actions.
The key choke point is in the number of mutual funds, which themselves hold
about 20% of all the stock in the major markets. Of the over 8000 all-stock
mutual funds, a mere 497 hold roughly three-fourths of the stock. This is easily
a small enough number to pump the market, whether through coordinated buying
disguised as programmed trading, or simply a follow-the-leader mechanism. All
the other thousands of funds and the millions of individuals around the globe
putting their money into these markets can do little more than follow the
momentum. No major U.S. stock market writer, advisor or player seems to publicly
acknowledge this, as far as I know. But the CEO (PDG) of the French insurance
giant AXA has acknowledged it: Claude Bebear wrote in his 2003 book Ils vont
tuer le capitalisme (They are going to kill capitalism):

“… today, shareholders are relegated to the role of quasi-spectators. The small
shareholders that are now called ‘individual investors’ know that they have
little weight. All together, they only represent a small percent of capital
because the investments of households are more and more in the form of mutual
funds, pension funds (fonds communs de placement) or life insurance funds. The
shareholders today are thus the institutional investors.”[i] [5]

Bebear, in charge of one of the world’s biggest stock portfolios, adds:

“We are no more, in effect, in a world that one reads in the economic text
books, with innumerable investors of various characterizations, choosing each in
his own way the stocks that he’ll put in his portfolio; the results of their
millions of decisions generating a sort of changing market equilibrium, but a
stable one. The truth is that for several years, the reasoned investment on a
stock has almost disappeared in favor of more and more mechanical behavior.”[ii]
[6]
Plunge Protection

Programmed trading in an utterly concentrated stock market pretty much
guarantees the possibility of systematic and continual market rigging. But to
accomplish this, and coordinate it with the currency and Treasury markets, some
sort of orchestrating mechanism would need to exist. It does; it is known as the
President’s Working Group on Financial Markets, occasionally referred to in the
business press as the Plunge Protection Team. Then President Ronald Reagan
signed it into existence on 18 March 1988, with the specific intension to avoid
another stock market crash such as that of 19 October 1987. The Working Group’s
existence is no mystery. See for yourself. Go to Google and type in Executive
Order 12631. You will find the Executive Order, and even a 14 November 2003
statement from Secretary of the Treasury John Snow giving a brief history of the
Working Group, describing its policy advisory activities, and concluding with
these words: “It also is a forum used to exchange information during market
turmoil through ad hoc conference calls and meetings.”

Presumably Plunge Protection doesn’t hold these ad hoc conference calls and
meetings just to be passive bystanders. Executive Order 12631 specifically
authorizes them to coordinate buying: “The Working Group shall consult, as
appropriate, with representatives of the various exchanges, clearinghouses,
self-regulatory bodies, and with major market participants to determine private
sector solutions wherever possible.”

So not only is the fix in, it is legal.

In a 1989 Wall Street Journal article, then Federal Reserve board member Robert
Heller even suggested a market intervention strategy: “Instead of flooding the
entire economy with liquidity, and thereby increasing the danger of inflation,
the Fed could support the stock market directly by buying market averages in the
futures market, thus stabilizing the market as a whole.”

Guess Whose Money is Used to Buy Stock Market Insurance?

There is even a potentially unlimited source of money to do this pumping.
Federal government contractors operate under a special law, CAS, in their
defined benefits pension plans. This gives them stock portfolio insurance,
something which small fry players would obviously like to get, but can’t find
anyone willing to issue. Should the pension funds of the federal government
contractors lose money in their investments to the degree that they fall below
minimum reserve requirements imposed by other federal laws, they can simply make
up the difference by adding it on pro-rata to subsequent items sold to the
federal government. The vast sums of federal tax money devoted to plugging the
holes in the pension fund for the largest Pentagon contractor, Lockheed Martin,
were discovered by Ken Pedeleose, an analyst at the Defense Contract Management
Agency. He was concerned about staggering cost increases for the C-130J
transport but a chart he made public showed the mind boggling per plane cost
increases for a number of Lockheed Martin airplanes. The chart amounted to a
Rosetta Stone for the military-industrial complex. It showed, essentially, how
the military-industrial complex linked to the stock market through the Lockheed
Martin pension fund, and by extension through all the others covered by the same
law.

Is there a corresponding source of tax money to pump the currency and Treasury
markets? There is an official one for currency, the Exchange Stabilization
Fund. It was established in 1934 to prop up the dollar in foreign exchange
markets. But it can be used for any purpose determined by the Secretary of the
Treasury. In mid-1995, the fund contained $42 billion.[iii] The actual amount
varies depending on how well the Treasury does on its currency transactions. The
money originally came from the sale of U.S. government gold, but the Treasury
kept the money as a private fund, not under Congressional control. Since it is a
finite amount of money, not appropriated by Congress, it probably is not often
used to pump the stock market or even the market for Treasuries.

The markets for Treasuries, and also currency, are being pumped using the tax
code and pension fund laws. But to understand this we have to first look at why
pumping might be necessary.

Treasuries Exchanged for Jobs

The U.S. Treasury holdings of Japan and China are essentially a consequence of a
trade imbalance between the U.S. and these two countries, with the balance
heavily tilted to the latter. To maintain the imbalance, which they both clearly
want to do, both countries must keep their currency pegged against the dollar at
a lower rate than it might otherwise be. If they did not do that, the Toshiba
computers, Toyota cars and other quality items made in Japan would be more
expensive, and so Japan wouldn’t sell as many of them in the U.S. A similar case
holds for vast numbers of Chinese manufactured items sold pretty much
everywhere, but notoriously at Wal-Mart. To keep the items relatively cheap,
the central banks of those countries keep their currencies cheap by buying a
corresponding amount of dollars, thus supporting the dollar against their
currencies. The dollar may essentially collapse against the euro, but not
against the yen and the yuan.

With the dollars the Japanese and Chinese central banks have bought, they can
buy something denominated in U.S. dollars; the item of choice is U.S. Treasuries
since it is like holding dollars that pay interest. So this has the effect of
pumping the price of Treasuries too. Because the items made in China and Japan
are cheaper than those of corresponding quality made in the U.S. (in the case of
many Japanese items, there may not be U.S. items of similar quality), the effect
is to create manufacturing jobs in those countries while simultaneously losing
them in the U.S. In effect the jobs are exported and foreign currency is
imported to buy dollars and then Treasuries.

This has an advantage for the Bush administration, which has the ruinously
ridiculous policies of simultaneously cutting taxes and waging wars or building
up for them. In effect, the basic racket is: the Bush administration exports
jobs to these countries, and in turn they finance Bush’s fiscal deficit so he
can continue his wars and cut taxes for his friends. The deficit for 2005 will
be at least $400 billion, according to the Congressional Budget Office.[7] The
Pentagon budget for 2005 was about $400 billion. Add in two supplemental
requests for the costs of his Iraq war and the Pentagon figure is roughly $500
billion. “It is interesting to note that the military budget is about the same
order of magnitude as the fiscal deficit,” said veteran Pentagon waste fighter
Ernest Fitzgerald.

The tax cuts were at least in part intended to stimulate spending—the purchase
of all those Toshibas, Toyotas and Chinese whatnots. So the fiscal deficit is
intimately linked to the current account deficit. If the money had been taxed
away to pay for Bush’s current war and arms build-up for future ones, it would
not be in people’s pockets to pay even for the down payments on the Toyotas.

But won’t the Japanese and Chinese central banks ultimately get burned by
holding vast quantities of dollar denominated assets? Sure, if the dollar ever
collapses against their currencies too. The dollar having fallen roughly 30%
against the euro since the beginning of the war in Iraq, the same fate or worse
could await these Asian currencies. With currently issued Treasuries paying a
coupon rate of no more than 4%, they would be materially shafted on their
investments in U.S. Treasuries. Then why don’t they bail out?
The Emperors’ Revenge

For the Chinese, the basic racket is too delicious and too ironical. They
industrialize their country at the expense of the de-industrialization of the
U.S. Not only is it sweet revenge for more than a hundred years of humiliation
at the hands of Europeans and Americans, but also at the end they are relatively
strong and the U.S. is relatively not. What do they care if the deal isn’t quite
as good as it would be in a perfect world and they lose a third, half,
two-thirds of their savings in U.S. Treasuries? Besides, in an even mildly less
imperfect world, the U.S. President would not make such a blatantly corrupt
bargain against the people of the U.S. Billionaire investor Warren Buffett calls
this system of indebting U.S. citizens to foreign governments “a sharecropper’s
society,” to distinguish it from Bush’s supposed “ownership society.”

No wonder Chinese central bank governor Zhou Xiaochuan told a press interviewer
at the time of the G-7 session in London in early February, “now is not the
time” to revalue his currency, the yuan.[8] Of course it is not. He is clearly
not stupid. The time to revalue is after China has sucked all the remaining jobs
out of the U.S. that it can or just before the U.S. gets a less dishonest
government. For the Japanese, the basic sweetness of the deal plus geopolitical
strategic reasons may keep them tied to the U.S. There is also the spirit of J.
Paul Getty’s famous line: “If you owe the bank $100 that's your problem. If you
owe the bank $100 million, that's the bank's problem.” Some Japanese clearly
think they have a problem. Prime Minister Junichiro Koizumi said on 11 March
2005 concerning his government’s U.S. dollar holdings, “I believe
diversification is necessary.” This instantly shook the currency markets,
causing the director of the Japanese finance ministry’s foreign exchange
division, Mastatsugu Asakawa, to blurt out, “We have never thought about
currency diversification.”[9]

Mr. Asakawa has been kept busy making this point. On 23 February 2005 he had
already stated, “We have no plans to change the composition of currency holdings
in the foreign reserves and we are not thinking about expanding our euro
holdings.”[10] He added, “Valuation loss is not our primary concern. My opinion
is that I don’t have to care seriously about that.”[11]

There are, of course, other major single party buyers of dollars and Treasuries
besides the central banks of Japan and China. In fact Mr. Asakawa’s earlier
remark was precipitated by a market panicking statement on 22 February from the
Bank of Korea. They indicated they were considering diversifying some of their
$200 billion in currency reserves, 70% of which were in dollars. The dollar
plunged 1.2% against both the yen and the euro. Part of this was due to
programmed trading which kicked in with sell orders after the dollar hit a
threshold of $1.3210 to the euro.[12] After the dollar suddenly fell, South
Korean officials quickly announced they wouldn’t sell any of their existing
dollar reserves, leaving open the possibility of putting new reserves into other
currencies.

South Korea, presumably, can be muscled. Other central banks are less
susceptible to pressure. On 5 February 2005 Russia announced that it would no
longer peg the ruble to the dollar, but instead to a shifting weighting of
dollars and euros. Russia had been selling dollars and buying euros since
October 2004, during which time the U.S. dollar had tumbled significantly
against the euro.[13] This of course corresponded to the period when Bush was
seen to be back in power for another four years.

The overwhelming consensus of financial writers was that both the dollar and
Treasuries would really hit the skids in the new year, 2005. The consensus was
global. For example, the French financial paper, Les Echos wrote in its edition
of 21-22 January: “Until now, it was a question of the great bet adopted nearly
unanimously by foreign exchange traders—the dollar will fall in 2005.”[14]

Of course, as implied by the quote, the dollar did not fall. Nor, of course, did
its fat twin, U.S. Treasuries, which are little more than interest paying
dollars. Is this because the trade deficit improved? Not really, although it
showed a slight gain in early February, long after the dollar and Treasuries had
materially improved. The dollar had gone up 3.6% from 1 January 2005 until 22
February 2005. Why? Did Bush raise taxes, thereby erasing some of the fiscal
deficit? Not at all. On the contrary, he cut taxes—as usual for a select
group—and that’s why the dollar rebounded.
Plunge Protection’s New Cash

In late October 2004, the U.S. public was looking the other way when the tax cut
was passed. Most people were obsessing over who would win the presidential
election. Few were paying much attention to what the Republicans in Congress
were doing, which was giving billions in tax cuts to U.S. corporations which had
profits parked in tax havens around the world, such as in Ireland or Singapore.
Bush signed the law enabling this tax giveaway on 22 October 2004. The tax
changes were noted by a few at the time, even before the law changed. But the
general level of financial journalism is so bad that they got no real echo in
the press. Most people speculating against the dollar had no idea they were
about to get stung. Obviously a few knew what the implications of the tax law
were. They made out, more or less literally, like bandits. But one cannot
legitimately claim insider trading since the tax law changes were publicly
available knowledge, and even made it to the internet on various accountant
websites in October. But they don’t seem to have gone much beyond these
specialists. On 15 January 2005, I had a long talk in Paris with a top European
stock market guru. Well connected and with a devoted following which he
obviously did not want to burn, he had in all sincerity advocated buying gold to
a gathering of thousands of his devotees a couple of months earlier, in
November, after the passage of the U.S. tax law.

Most speculators were caught unaware on this source of currency pumping money,
so it is unreasonable to assume that there will not be other surprises, which
will be announced in due course.

The law Bush signed in late October 2004 goes by the obscenely false name, the
American Jobs Creation Act. If there is one thing it will not do is to create
jobs. It will instead create takeovers, which nearly always produce losses in
jobs—in the name of synergy. Takeovers are on the limited menu of activities
companies are permitted to do with the money they can “repatriate” under this
law. Not that the limited menu makes much difference, since the money brought in
does not have to be fenced off in any way. So if $10 billion were spent by a
company on takeovers, that frees up another $10 billion to do whatever was
prohibited under the law, such as paying dividends, buying back stock, or
filling the pockets of executives with extra bonuses. Normally such profits
earned in foreign subsidiaries of U.S. companies would be subject to a tax rate
of 35% if they were brought home, which is why the money had stayed parked in
the tax havens. But the law gives companies a one-year window for the
“repatriation” of this cash at a tax rate of only 5.25%. Nobody knows how much
will be brought in. When the law was passed in October, the general expectation
reportedly was that the figure would be about $135 billion.[15] But one player
has estimated it at $319 billion. “This has some investment bankers salivating,”
wrote David Wells in the Financial Times.[16] But how much would be converted
into dollars from other currencies? According to two different investment banks,
the figure is somewhere around $100 billion.[17] That would be the minimum
available from this source to pump the dollar for one year. Recall that the
Exchange Stabilization Fund has less than half that for eternity.

The Bush administration’s use of repatriated foreign profits to pump domestic
markets shows that they are not going to let “thin ice” signs stifle their
version of the economy, at least not without a fight. However, the underlying
weakness of the economy because of the twin deficits remains, so basically all
that Bush and his Plunge Protection team are doing is moving the “thin ice” sign
out onto thinner and thinner ice. The weight of the Bush team will eventually
crash through that ice into exceedingly cold water.

But what about those drooling investment bankers? They will claim that this
harvested money used in takeovers will eventually produce U.S. jobs, despite
initial job losses due to the takeovers themselves. Investment bankers, who
engineer many if not most takeovers, nearly always argue that the takeovers
ultimately create jobs in the long term. The investment banks themselves,
however, nearly always insist on being paid substantially in the short term
through the transaction fees. Their employees, the investment bankers, are also
substantially paid short term through annual salaries and bonuses. They get paid
now; others can wait for the long term.

Panic Buying

One short-term thing the money has already done is to pump the dollar. The
mechanism by which this is accomplished is quite simple and is signature Plunge
Protection. It is the device of the short covering rally. This is what happens
when speculators sell an asset—stocks, Treasuries or dollars—short. With stocks,
this means that they sell the asset without actually owning it. They borrow the
shares they sell, betting the stock will fall. They then buy it at the reduced
price and return those shares. Another way to accomplish essentially the same
thing is through options. The risk in a short sale is that the stock will not go
down but instead go up. The short seller literally is exposed to unlimited
losses in this case. This is the basis for a short covering rally. Non-shorters
buy in sufficient volume to force up the price. The price rise scares the
shorters into buying right away before the price goes too high and they lose too
much. This results in panic buying as large numbers of short sellers feel
compelled to buy to limit their losses. Often when the stock market suddenly
blasts up out of a long slide for little or no reason, we are watching a short
covering rally. There have been several such rallies in the currency and
Treasuries markets so far this year, and there will probably be quite a few
more.

According to a J.P. Morgan survey, the year 2005 began with most U.S. and
international speculators holding short positions on U.S. bond markets.[18]
Obviously this is because they had foolishly looked at the underlying economic
reality, and failed to understand the profound import of the American Jobs
Creation Act. Most people were utterly unaware of it until at least January 13,
when the U.S. Treasury, under whose direction the Plunge Protection team works,
announced the specifics of what the grand skim could and could not be spent on.
As noted, the list included stock market pumpers—takeovers.

The $100 billion (minimum) that will be brought in is not petty cash. One
currency strategist at ABN Amro, Greg Anderson, has been quoted as saying, “The
U.S. trade deficit is probably $600 billion in 2005, so this flow will be
financing a sixth of the deficit all by itself.”[19] Thus this amount is clearly
enough to have some impact on currency markets, especially if used to trigger
short covering rallies.

Whatever is the actual amount that is brought in, it is exceedingly unlikely to
be all brought in at about the same time. The companies have full discretion as
to when to bring it in, and Plunge Protection is there to make sure they don’t
do it at the wrong time. Various of the “ad hoc conference calls” referred to
above by Secretary Snow could include fund managers and Chief Financial Officers
of companies with chunks of cash lined up to bring in. Would this incestuous
network of essentially insider traders be legal? It would be very difficult to
prosecute without impeaching the President himself. As cited above, Section 2b
of Executive Order 12631 states: “The Working Group shall consult, as
appropriate, … with major market participants to determine private sector
solutions wherever possible. (emphasis added)” Obviously a major currency plunge
is exactly what Plunge Protection is charged with avoiding.

The major market participants involved in these money pumping rackets would not
only be making money, but would view each other as true patriots. They would
simultaneously serve themselves and serve the national interest. And, if the
story ever got out, they would be unlikely to serve any time. They would also
get the reputation for being currency-timing geniuses. Each time they brought in
cash from euros or pounds, the foreign currency subsequently fell. Their timing
would appear impeccable. Never mind that they and some government officials are
creating the timing.

How big are these chunks of cash? Johnson & Johnson announced in February that
they would bring in $11 billion.[20] Pfizer put its planned figure at $37.6
billion.[21] But are these figures big enough to pump the dollar? You bet. An
ABN Amro currency strategist, Aziz McMahon, has been quoted as saying, “The sums
are so large that if even a small proportion is transferred from other
currencies, the positive impact on the dollar could be substantial.” According
to that bank’s calculations, each $20 billion pumped in from other currencies
pumps the dollar against a broad index of currencies about 1%.[22] So the
announced amounts would be sufficient to trigger both momentum trading in the
dollar and trigger short covering rallies which themselves would trigger further
momentum trading.

Even the announcements of the currency repatriations can trigger short covering
rallies. ABN’s McMahon added, “The psychological impact a wave of announcements
could have on structural short-dollar positions should also not be
underestimated.”[23]

Just Printing Money to Pump Markets

Short covering rallies certainly played a role in the prolonged stock market run
up which followed an initial Iraqi War bombing rally in March 2003. But there is
more. A respected gold market analyst, Michael Bolser, has shown how the Fed
quite simply pumped money into the markets during this period, with massive cash
injections often timed at local stock market bottoms. His article, “Repurchase
agreements and the Dow,” should be required reading for anyone who wants to
understand rigged markets.[24] According to Bolser’s analysis, the Fed was
simply flooding the economy with liquidity just before and during that rally.
Using data available on the Fed website, Bolser plotted the injections of cash
from the Fed when it bought Treasuries on the open market, which means buying
them from the 22 banks that deal directly with the Fed. The simple buying of
existing Treasuries by the Fed is called a “Permanent Open Market Operation”
(POMO). By contrast, buying back a certificate with a specific repurchase
(buy-back) date is called a “Temporary Open Market Operation” (TOMO). Bolser
observes, “There were four closely spaced Permanent Open Market Operations just
prior to the 1,000-point mid-March DOW launch. In addition, there was another
POMO on March 13th of $710 Million coupled with a net TOMO injection of $3.25
Billion which resulted in a 303 point DOW gain on that day.”

Bolser also clarifies the relative market impacts of these cash injections:
“Permanent Open Market Operations [POMOs] are usually much smaller in magnitude
than Temporary operations but have a far greater effect on the market. Experts
have suggested that there is a nine times market multiplier effect inherent in
permanent open market operations.”
Stuffing Wads of Treasuries into Pension Fund Holes

But what about all those billions that are already parked in dollar denominated
tax havens, such as Puerto Rico? Among the Treasury Department permitted uses
of the repatriated cash, is benefit plans, including pension benefits. Most of
these plans are nowhere near recovery from losses suffered during the late
1990’s bubble. Normally, the repatriated money would go straight into the stock
market, thus pumping it--except for one thing. A number of companies do not
have sufficient money in the reserves of their defined benefits pension funds to
meet their contractual obligations to their retirees. If a pension fund goes
broke, a federal agency, the Pension Benefit Guaranty Corporation (PBGC) takes
on some of the obligations—typically pensioners collect 25 cents on the dollar.
But the PBGC is itself broke, with companies defaulting or threatening to do so.
For example, the PBGC has moved to take over the defined benefits pension funds
of United Airlines.[25] And this is probably just the start of many such
takeovers. By November 2004, the plans PBGC insured were under-funded $450
billion, an increase of $100 billion in just one year. Companies whose debt was
evaluated at less than investment grade (a group that could soon include General
Motors) were under-funded by $96 billion, an increase of $12 billion from the
previous year.

So the PBGC could require another gigantic federal bailout, “Some have compared
this to the savings and loan crisis of the early nineties,” said James Moore,
who is in charge of pension products at a major bond fund, Pimco.[26]

But the U.S. government is also broke—because of Bush’s pro-war, anti-tax policy
combination. Are there solutions? Sort of. One is just to fake the numbers,
reducing the required reserves in these pension funds. Bush also plans to change
the rules for investing for defined benefits pension plans in a way to reduce
their likelihood of defaulting. Stocks can be down when pension payout demands
are up. The right kind of bond could deliver the money at the right time. The
new rules have not yet been announced, but seem certain to encourage the buying
of Treasury Inflation Protected Securities (TIPS) by the depleted pension funds.
Some funds are already jumping in to avoid even higher prices later. With the
long dated TIPS pumped, the dollar looks less unattractive to Chinese and
Japanese central banks and others. Masayuki Yoshihara, who manages, with others,
over $9 billion at Japan’s fourth biggest life insurance company, Sumitomo Life
Insurance Company, said “Pension funds will continue to be overweight the
long-end of the curve. We expect the yield curve to flatten even more,” [27]
What? Translating from finance-ese, he says that pension funds will keep buying
long dated Treasuries, which will pump up their price and thus reduce their
effective interest yield. (The interest is fixed, literally printed on the bond.
So if buyers pay more to get the same printed interest rate, their effective
yield goes down.) With long term interest rates falling and short term ones
rising, the graph which represents these rates is becoming more and more of a
flat straight line.

So there are a lot of relatively new sources of money for official manipulation
of markets: federal contractor pension fund money, nicely insured under CAS;
POMO and TOMO money, freshly printed by the Fed; the American Jobs Creation Act
money, conveniently parked off shore; trading “partner” money, sometimes
willingly given, sometimes extorted.

One nice thing about rigged markets is that they permit updating trite stock
market axioms, such as “Buy on the rumor, sell on the news.” For Treasuries,
this has now become, “Buy on the rumor, buy again on the news, and then sell it
to the Chinese or Japanese central banks.”

All who imagine that the mythical market forces will prevail seem to
deliberately avoid actually looking at what the so called markets really are,
including their concentrations, Plunge Protection mechanisms, and Plunge
Protection’s extensive access to a variety of pools of other people’s money.
The mechanisms and the market concentrations permit the Bush administration to
systematically sell off U.S. assets to pay for its more wars/less taxes
policies. The Bush administration is comparable to a group of corrupt trustees
for the family fortune of a lazy and incompetent heir. They siphon the money out
by selling off the inheritance while the heir is too stupid or drunk to notice.
He still has his mansion, his fleet of big cars and his monthly check, and he
doesn’t notice that the assets are shrinking. He may not for a while. This
family’s fortune is big and there are a lot of assets still to sell off.

© 2005 Robert Bell

Robert Bell, Chairman of the Economics Department, Brooklyn College, N.Y., is
the author of seven books, including: Beursbedrog (The Stock Market Sting), De
Arbeiderspers, Amsterdam, 2003; Les peches capitaux de la haute technologie (The
Capital Sins of High Technology), Seuil, Paris, 1998; Impure Science, Wiley,
N.Y., 1992

REFERENCES

[1] See “The U.S. Government’s Bubble Blowing Machine.”
[2] “U.S. Dollar Becomes Dependent on Handful of Central Banks,” Financial
Times, 24 January 2005, p. 2
[3] “Treasuries Drop Before U.S. Begins Auctioning $51 Billion of Debt,”
Bloomberg.com, 8 February 2005
[4] “U.S. 10-Year Treasury Note Rises on Optimism For Tame Inflation,”
Bloomberg.com, 7 February 2005
[5] “…aujourd’hui, les actionnaires sont cantonnes das un role de
quasi-spectateur. Les petits actionnaires – que l’on appelle aujourd’hui <<
actionnaires individuals >> savent qu’ils ont peu de poids. Tous ensemble, ils
ne representent que quelques pour cent du capital car l’investissement des
ménages est de plus en plus sous forme de Sicav, de fonds communs de placement
ou d’assurance vie. Les acctionnaires, aujourd’hui, ce swont donc les
investisseurs institutionnels.” (p. 187)
[6] “Nous ne sommes plus, en effet, dans le monde que l’on decrit dans les
manuels d’economie, avec des investisseurs innombrables aux determinismes
varies, choisissant chacun a sa maniere les titres qu’il va mettre en
portefeuille – la resultante de leurs millions de decisions generant une sorte
d’equilibre de marche changeant, mais stable ! La verite, c’est que, depuis
quelques annees, l’investissement raisonne sur une valeur a presque disparue au
profit de comportements de plus en plus mecaniques.” (p. 122)
[7] “$1.3 trillion deficits forecast over decade,” latimes.com 25 January 2005
[8] “Dollar Rises Versus Yen; Chin’s Zhou Says Yuan Not Undervalued,”
Bloomberg.com 7 February 2005.
[9] “Koizumi puts markets in spin,” Financial Times, 11 March 2005, p. 1
[10] “Feisty Greenback Inches Ahead,” Financial times, 24 February 2005, p. 30
[11] “Central Banks Seek to Calm Dollar Fears,” Financial Times 24 February
2005, p.7
[12] “Dollar Has Weekly Decline on Concern Banks May Slow Purchases,”
Bloomberg.com 26 Feb 2005
[13] “Russia Ends De Facto Dollar Peg and Moves to Align Ruble With Euro,”
Financial Times, 6 Feb 2005
[14] “Jusqu’a present, il s’agisait du grand pari adopte par la quasi unanimite
des cambistes: le dollar baissera en 2005.”
[15] “U.S. Tax Amnesty Could Rake in $100 Billion,” Financial Times, 31 January
2005, p. 17
[16] “Repatriated Cash Raises M&A Hopes,” Financial Times, 31 January 2005
[17] “U.S. Tax Amnesty Could Rake in $100 Billion,” Financial Times 31 January
2005, p. 17
[18] Andrew Coggan, “The Short View,” Financial Times 12 February 2005, p. 15
[19] “U.S. Tax Amnesty Could Rake in $100 Billion,” Financial Times 31 January
2005, p. 17
[20] “Repatriated Cash Raises M&A Hopes,” Financial Times 2005
[21] “U.S. Tax Amnesty Could Rake in $100 Billion,” Financial Times, 31 January
2005, p. 17
[22] “Positive Signs For Dollar Emerge,” Financial Times, 21 January 2005, p.
28
[23] “Positive Signs For Dollar Emerge,” Financial Times, 21 January 2005, p.
28
[24] http://financialsense.com/editorials/bolser/2003/0602.htm
[25] “Battle over United pension plans heats up,” Financial Times, 12-13 March
2005, p. 8
[26] “A Case of Pension Deficit Disorder,” Financial Times, 24 February 2005, p.
31
[27] “Treasuries May Fall Amid Concern Demand Will Fall At Auctions,”
Bloomberg.com, 9 February 2005
[i] Claude Bebear, Ils vont tuer le capitalism, Plon, Paris 2003, p. 186
[ii] Claude Bebear, Ils vont tuer le capitalism, Plon, Paris 2003, p. 122
(translated from the French by R. Bell)
[iii] “The Exchange Stabilization Fund: How It Works,” Economic Commentary,
Federal Reserve Bank of Cleveland, December 1999

Report this comment
#9) On April 03, 2008 at 5:36 PM, cubanstockpicker (20.93) wrote:

Great posts by everyone, but Iguanas post was a killer, great find and link. This guy should be our fed chariman, and not Ben Bernanke, then again, why does everyone the governemtn hire to run our money, seem to not take advantage of the bad market to negotiate blockbuster deals for OUR meaning THE US's Benefit.

Why Does JPM get to own BEAR STERNS at only a 1 billion dollar risk. Knowing full well, that in the long term JPM will benefit the most out of the deal. Why couldnt the fed profit from that and therefore find more creative ways of pyaing down our national debt?

What we take the 90% of the risk and none of the profit? CRAP, I would like to see 20% of JPM under the feds portolio under a CLASS A PREFFERED STOCK, with an option to sell at a set price. Wouldnt that help pay down the national debt, or help shore up all this crap money we are printing?

 

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#10) On April 09, 2008 at 11:43 AM, AnomaLee (28.64) wrote:

Everytime I read the articles about the 'Invisible Hand' I am amazed. A lot of it is true, but some of it is full of the tin-foil wearing/UFO government conspiracy type, but it is a good read nonetheless.

The FED couldn't take ownership in Bear Sterns because it would cause political unrest that a private company was bailed out using tax payer dollars. That is already the issue. However, considering the UK's action to resolve the Northern Rock situation I don't see how Bear Sterns could have been so different. You must consider that it is an election year.... 

Simply put... the U.S. dollar is a fiat currency and since every policy maker including Paul Volcker believes that deflation is destructive to credit then it is only inevitable that the fiat currency is doomed unless policy reform is enacted.

However, fiat currencies are easily manipulated and can aslo be easily be replaced which is why they are favored. All the doom & gloom about currencies are overdone and you all have the sounding of Ross Perot even if you/we are correct about their inevitable failures. The resurrection of the Russian Ruble, Brazilian Real and the Nuevo Peso are proof that they are easily replaced and can easily be manipulated. The 16-year old Euro is now rising in popularity faster than the U.S. Dollar. Despite the fact, they are all doomed to fail eventually because of their policymakers share the same beliefs.

The only logical reason supporting inflation vs deflation is the expansion of credit. During times of deflation credit becomes more burdensome and vice versa during an inflationary enviroment. The problem remains that we have continued to rapidly expand credit over the past 3+ decades at an accelerating pace, and that trend will continue until the currency collapses.

In the Nuclear-Oil Age, we have become less dependant on the use of durable goods for trade despite the fact that they are the only true things of value. The fiat currency will continue to be used as a proxy of a trade, but in the long run they are doomed, but as the saying goes... In the long run we're all dead... 

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#11) On May 14, 2008 at 4:23 PM, ATWDLimited (< 20) wrote:

Look, 10% is too low, now it grows at 20%, this is terrible, the chart is haunting Me, because it is becoming reality as I type.

Report this comment
#12) On May 14, 2008 at 4:24 PM, ATWDLimited (< 20) wrote:

Look, 10% is too low, now it grows at 20%, this is terrible, the chart is haunting Me, because it is becoming reality as I type.

Report this comment

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