QE2 and the Great Economic Misdiagnosis, Insolvency Not Illiquidity

     

The backdrop has turned dire on several front simultaneously. The great millstone around the USEconomy’s neck continues to drag it down. CoreLogic reported 2.1 million units have created a swamp in Shadow inventory of the housing market. That equates to 23 months inventory, whereas normal is 7 months. They tallied the growing tumor of bank owned properties as a result of home foreclosures, also called the REOs (real estate owned). Look for no housing market recovery for at least another two years. Starting in summer 2007, the Jackass forecast each year has been for another two years of housing market declines, all correct. Ireland might be squarely in the news, but the big enchalada is Spain. The Irish banks have presented a grand headache for the European banks, with a $150 billion exposure. Ironically, Ireland has done more to reduce its budget spending effectively than any EU member nation, yet is left to twist in the soft rain. They cut their government budget by 20%.

The USGovt budget grows every year without remedy or remorse. Few seem to remember that Irish fund managers lost the German civil service pension funds a couple years ago, a source of hidden tension and great resentment. Spain will rock Europe and the Euro currency in the springtime. The gold price consolidation will center on the Spain debt crisis hitting fever pitch, with the Euro hit. Thenagain, perhaps a mammoth new wave of European gold demand will neutralize any USDollar stability. On Tuesday this week, the Euro fell by 200 basis points, but the gold price was stable like a rock. That is notable strength. But the bigger story of strength is with silver. The round robin of destruction to major currencies that makes the Competing Currency War, the race to the bottom in rotated currency debasement, it will lift gold & silver in a round robin of strong demand.

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MISDIAGNOSIS: INSOLVENCY NOT ILLIQUIDITY

The US bankers often go home to mommy and order a giant slosh of monetary inflation whenever in deep intractable trouble, like after the previous mistake in QE1 when ordering a giant slosh of monetary inflation. The USFed, led by the academic professor with no business experience, has ordered a fresh supply of gasoline from a lit fire hose, but he does so on a collapsing building. Bernanke has very erroneously diagnosed lack of liquidity within the system to be the underlying problem. He has prescribed a huge swath of ‘free money’ to be sent into the bond market as a solution. He has prescribed that cheap money continue to be delivered to the USEconomy. Bernanke has failed to notice the insolvency in banks, and has failed to notice that 0% has yet to prompt any revival in lending among banks. Bernanke is fighting INSOLVENCY with LIQUIDITY for a second time after learning nothing the first time.

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The USTreasury 10-year yield has risen from a grand bond market dare, not at all from evidence of growth. Bond players dare the USFed to create another $1 trillion in new money. In no way does another lift in retail spending constitute a recovery. Household insolvency rises every month from worsening home loan balances. The USFed wants households to spend more on borrowed funds, yet they have depleted home equity and vanished income security. No, US bankers are confused with their wrecked financial engineering aftermath and the broad banking system insolvency that they refuse to acknowledge or discuss. Ever since the April 2009 decision by the USCongress to bless the falsified accounting practices by the Financial Accounting Standards Board, the big US banks have masked their ruined balance sheets, sold stock for their dead entities, and pretended to act as banks. Instead they are mere carry trade shells taking advantage of the USTreasury yield differentials, and storing the cash profits in the USFed, where it earns interest.

Finance minister Wolfgang Schauble from Germany was hostile in public remarks toward the desperate monetary decisions. At the recent G-20 Meeting, Schauble called USFed Chairman clueless openly (his word), describing his policies as reckless (his word). He ridiculed the USGovt approach to urge China and Germany to reduce their trade surpluses. Take surpluses as signs of success and competent industrial and policy management, where the US is void. He gives his nation credit for a strong competitive industry. He cites a direct contradiction. Schauble said, "The American growth model, on the other hand, is in a deep crisis. The United States lived on borrowed money for too long, inflating its financial sector unnecessarily, and neglecting its small and mid-sized industrial companies. There is no lack of liquidity in the USEconomy, which is why I do not recognize the economic argument behind this measure." Exactly on both counts!!! The USFed is fighting insolvency with liquidity rather than debt restructure for a second time, after learning nothing the first time. The US economists have lost their way so badly, that they no longer comprehend the concept of legitimate income. The US counselors push for putting more cash in consumer hands, regardless of where it comes from. Call it heresy, or call it incompetence, or call it blindness from the Keynesian bright lights that burn bright in the inflation laboratory.

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New money does not cure an insolvent banking system or insolvent households. No sterilization of QE2 is in the plan, to serve as protection for the USEconomy. Not in QE2!! My forecast is for the hollowing out of the USEconomy from a massive cost drain with puny export benefit, compounded by continued income erosion. Price inflation will be labeled as growth, even income growth, the chronic sins. The borrowing costs have been near 0% for 18 months with no economic response, making Bernanke’s points again vacant, myopic, and deficient. He is fighting an endemic insolvency problem with amplified monetary inflation. A voice with hint of wisdom came from former New York Fed President E Gerald Corrigan Corrigan. He said, "Even in the face of substantial margins of under-utilization of human and capital resources, efforts to achieve an upward nudge in today’s very low inflation rate make me somewhat uncomfortable." His experience came under ex-USFed Chairman Volcker during the late 1970 decade, who raised interest rates to 20% to combat inflation, pushing the economy into the 1981-82 recession. That was the final chapter of anti-bubble USFed chieftain linneage. Since the Greenspan Era, it has been full speed ahead with inflation engineering, asset bubble creation, erudite apologists, permitted bond fraud, careful collusion, and reckless management. They have systemic failure to show for it.

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The claim by Bernanke and a supporting chorus of economists that QE2 will bolster USEconomic competitiveness is fallacious, and patently backwards as usual. It will push the US further into a wasteland, a vestibule to the Third World. The higher cost structure uniformly imposed will render great damage in a profit squeeze for businesses and discretionary spending squeeze for households. New money does not cure an insolvent banking system or insolvent households. It presents a new problem of significiant price inflation. They want it, so they can call it growth!! Producing high value products efficiently and cost effectively makes the nation competitive. Imposing a fair tax structure that is stable, reasonable, and with proper incentives makes it competitive. Having an active legal prosecution staff to combat bond fraud and defense appropriation fraud makes it competitive. Having a strong education system makes it competitive. A weaker currency raises the cost structure, increases import costs, and assists the export trade if a nation has one. The United States has shipped a large segment of it away in the last 10 years to China, after having shipped a larger segment away in the 1980 decade to the Pacific Rim. Not only did the US promote its financial sector, but it denigrated the industrial sector as dirty. By removing a significant portion of the nation’s capacity to generate legitimate added value income, the USEconomy was left vulnerable to debt overload and insolvency. The US Ship of State was hoisted on its own petard. For those ignorant of naval terminology, that means the US killed itself in a great display of cannon backfire in recoil. The QE2 initiative will be disastrous from many angles, certain to push the nation into an Inflationary Depression, from the current chronic Deep Recession.

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MARGIN HIKE AS FINAL LIMP WEAPON

Increases to the silver margin requirement in futures contracts should be viewed as the final act of desperation. It is a device to control price within the paper silver arena. However, in a grand backfire, a higher margin produces a lower price for the physical buyers, who eagerly step up to place and fill orders. The margin maintenance hike on November 9th was six times greater for silver than for gold. The Big Four US banks are caught in an historically unprecedented short squeeze, bleeding $billions. Tuesday November 9th saw a powerful gold & silver price downdraft. The COMEX raised the silver margin requirement in a bland attempt to slow a raging bull market amidst a broken global monetary system. One week later they raised the margin again for both monetary metals. The price downdraft continued. But some calmer winds in Europe enabled precious metals prices to recover. Silver has snapped back much more than gold.

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The Chicago Mercantile Exchange raised the margin requirements for silver on November 9th. It was highly motivated. They wanted to prevent a blowout upside move in silver past $30 before Christmas, and to relieve some of the pain to the Big Four US banks. Unlike gold & silver, no margin hikes were doled out for soybeans, corn, sugar, or cotton despite their concurrent price gains. The message is clear, that desperation has set in relative to precious metals, as conditions are breaking down badly. The CME sent out a memo raising the margin maintenance requirements for silver futures by up to 29%, from $5000 to $6500 per contract. Initial positions have a slightly higher margin. It is their right, being the market maker. Let not their fast disappearing silver inventory deter their path. Less than two weeks later, the CME raised the silver margin maintenance requirement another 11.5% to $7250 in a sign of desperation. They also raised the gold margin, but only by 6% from $4251 to $4500 in a symbolic gesture. The CME motive is less about risk mitigation concerns and more driven by the desire to restrain the bull market movement. The investment world will regroup long before Christmas, like in the next week or two. Just when the European woes focused on Ireland, and a rescue aid package seemed in the offing, the silver price jumped upward by $2.00 on a single day, November 18th, a strong telegraph across the paper-physical silver table. The Powerz cannot halt the silver juggernaut, which will see $30/oz by January. If a double hike in the silver margin is the best they have, then they are truly whistling in the grave yard.

The demand for gold is global, diverse, and motivated by the gradual disintegration of the monetary system. Sovereign bonds that support the major currencies are in deep trouble the world over. The consensus actions toward Quantitative Easing, also known as hyper monetary inflation, have boosted demand for gold & silver monumentally in a natural offset. Dozens of nations and billions of people around the world are slowly awakening to the grand deception of money itself and the crumbly foundation that make up fiat currencies. They are losing money in supposedly safe government bonds, a trend without precedent. Most of Southern European nations will declare debt default within two years. Foreign central banks are attempting to diversify their oversized US$-based reserves without causing a run on the USDollar. Gold is gradually being seen as part of the solution, at least in private wealth preservation. Gold is the new reserve safe haven asset, since it is true money.

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November 26, 2010