The Collapse of the Dollar

[Siblesz]

Anyone else witnessing the fall of America's economic prowess?

Fears of dollar collapse as Saudis take fright

By Ambrose Evans-Pritchard, International Business Editor

Saudi Arabia has refused to cut interest rates in lockstep with the US Federal Reserve for the first time, signalling that the oil-rich Gulf kingdom is preparing to break the dollar currency peg in a move that risks setting off a stampede out of the dollar across the Middle East.

"This is a very dangerous situation for the dollar," said Hans Redeker, currency chief at BNP Paribas.

"Saudi Arabia has $800bn (£400bn) in their future generation fund, and the entire region has $3,500bn under management. They face an inflationary threat and do not want to import an interest rate policy set for the recessionary conditions in the United States," he said.

The Saudi central bank said today that it would take "appropriate measures" to halt huge capital inflows into the country, but analysts say this policy is unsustainable and will inevitably lead to the collapse of the dollar peg.

As a close ally of the US, Riyadh has so far tried to stick to the peg, but the link is now destabilising its own economy.

The Fed's dramatic half point cut to 4.75pc yesterday has already caused a plunge in the world dollar index to a fifteen year low, touching with weakest level ever against the mighty euro at just under $1.40.

There is now a growing danger that global investors will start to shun the US bond markets. The latest US government data on foreign holdings released this week show a collapse in purchases of US bonds from $97bn to just $19bn in July, with outright net sales of US Treasuries.

The danger is that this could now accelerate as the yield gap between the United States and the rest of the world narrows rapidly, leaving America starved of foreign capital flows needed to cover its current account deficit -- expected to reach $850bn this year, or 6.5pc of GDP.

Mr Redeker said foreign investors have been gradually pulling out of the long-term US debt markets, leaving the dollar dependent on short-term funding. Foreigners have funded 25pc to 30pc of America's credit and short-term paper markets over the last two years.

"They were willing to provide the money when rates were paying nicely, but why bear the risk in these dramatically changed circumstances? We think that a fall in dollar to $1.50 against the euro is not out of the question at all by the first quarter of 2008," he said.

"This is nothing like the situation in 1998 when the crisis was in Asia, but the US was booming. This time the US itself is the problem," he said.

Mr Redeker said the biggest danger for the dollar is that falling US rates will at some point trigger a reversal yen "carry trade", causing massive flows from the US back to Japan.

Jim Rogers, the commodity king and former partner of George Soros, said the Federal Reserve was playing with fire by cutting rates so aggressively at a time when the dollar was already under pressure.

The risk is that flight from US bonds could push up the long-term yields that form the base price of credit for most mortgages, the driving the property market into even deeper crisis.

"If Ben Bernanke starts running those printing presses even faster than he's already doing, we are going to have a serious recession. The dollar's going to collapse, the bond market's going to collapse. There's going to be a lot of problems," he said.

The Federal Reserve, however, clearly calculates the risk of a sudden downturn is now so great that the it outweighs dangers of a dollar slide.

Former Fed chief Alan Greenspan said this week that house prices may fall by "double digits" as the subprime crisis bites harder, prompting households to cut back sharply on spending.

For Saudi Arabia, the dollar peg has clearly become a liability. Inflation has risen to 4pc and the M3 broad money supply is surging at 22pc.

The pressures are even worse in other parts of the Gulf. The United Arab Emirates now faces inflation of 9.3pc, a 20-year high. In Qatar it has reached 13pc.

Kuwait became the first of the oil sheikhdoms to break its dollar peg in May, a move that has begun to rein in rampant money supply growth.

http://www.telegraph.co.uk/money/mai...cnsaudi119.xml

[Erik]

Anyone else witnessing the fall of the America's economic prowess?

I am.

America has a huge problem, and I think the situation is hopeless.
Not because America can't safe itself, but because they aren't even willing to recognize that they have a problem.

IMO cutting the interest rates was a big mistake, and a sign of how stubborn Americans are.
The "sub prime" crisis (funny name, 'cos "A" rated loans were also falling over) is caused by the fact that American consumers have been borrowing too much, thanks to Alan Greenspan's policy of lowering interest rates to encourage Americans to borrow themselves out of any recession.

Now that Ben Bernanke is in charge, at the first signs of recession, he too lowers the interest rates, continuing Greenspan's policy.
But the "sub prime" crisis has just shown that American consumers are already at or near their maximum borrowing capacity.
Plus: banks are weary now, they won't lent out money to consumers like they did before the crisis.
So it's very unlikely, or near impossible, that the latest interest reduction will have the desired effect of avoiding recession.
And there are huge disadvantages of lowering the interest rate (the article Sib posted exposes one of them).

My advice to America is to just face it: you are going to go trough a recession.
Now, you don't have to act all dramatical about it, Europe goes trough recessions roughly every 5 years.
Look at your bigger problem instead: you have been living off borrowed money for the past decades, and now it's time to pay back those debts or at least fix your balances.
It's not going to be pleasant, because your standard of living will drop dramatically, but if you don't face your financial problems now your entire economy will simply collapse.

[Woad-Warrier]

Que China taking over.

[Siblesz]

Erik speaks my mind.

Que China taking over.

China will face recession too if America's economy collapses. The whole world will, actually. This situation is extremely volatile. Some have dubbed it the start of the second great depression. I wouldn't go that far, though. But when an economy has lent itself out of bankrupcy for over twenty years, and has a public debt of about 9 trillion dollars, there should be red sirens going off everywhere. Unfortunately, the American public/media is so out of touch with reality that no American news is reporting the story, and nothing is being made to alleviate the crisis. The U.S. is inviting disaster.

[Erik]

China will face recession too if America's economy collapses. The whole world will, actually.

True, but it won't be anywhere as severe for the rest of the world.

Some have dubbed it the start of the second great depression. I wouldn't go that far, though.

I would, mostly because Americans have shown unwilling to take the necessary steps to avoid it.

But when an economy has lent itself out of bankrupcy for over twenty years, and has a public debt of about 9 trillion dollars, there should be red sirens going off everywhere.

The public debt (or "tax debt") is just the tip of the iceberg.
American household are a lot more in debt than that.

Unfortunately, the American public/media is so out of touch with reality that no American news is reporting the story

That's possibly the most surprising part.
A Dutch economic journalist recently explained why that was.
Can't really remember the details, but the bottom line was that it's bad for rating to bring negative news about the US economy.

[Siblesz]

An interesting article of relevance.

The Greater Depression
by Doug Casey

It's been said that if you spend 15 minutes a year thinking about the economy, you're wasting 13 minutes. That's generally true. But as an amateur historian, I can't help myself. And I'm forced to believe that this is a time when the subject is worth some real thought.

My view is that the longest, and certainly most important, trend in history is the ascent of man. I have little doubt that it will not only continue but accelerate. But that doesn't mean there won't be nasty setbacks along the way. As I have said before, possibly the best definition of a depression is a period when most people's standard of living drops significantly. You can also define it as a period when distortions in the economy and misallocations of capital are liquidated. The distortions are almost always the result of government intervention in the economy, through things like taxes, regulation and currency inflation.

Those are the factors that caused the unpleasantness that began in 1929. Since the government is exponentially more powerful and invasive today than it was in either the 1920s or the 1970s, I expect the consequences will be much worse this time around. Things could have come unglued, and almost did, back in the 1970s. I don't see how we'll dodge the bullet this time. Although that's not really a good analogy, for reasons we don't have time to explore in depth, a depression is probably inevitable this time.

The only serious question in my mind is whether it will be essentially deflationary in nature, as it was the case in the U.S. in the 1930s, or inflationary like in Germany in the 1920s. My guess is the latter because the government is so much more powerful today. Or it could actually be both at once, in different sectors of the economy.

How?

Inflation could drive interest rates to 20%. This would collapse the bond and real estate markets, wiping out trillions of dollars of purchasing power – which is deflationary. Meanwhile, that same inflation doubles the cost of food and fuel. In other words, the opposite of what we've mostly had for the last generation, when we had "good" inflation in stocks, bonds and property, but stable or dropping prices in "cost of living" items. This time the pattern could reverse, which would be a nightmare for most people.

And as people become more focused on speculation in a generally futile attempt to stay ahead of financial chaos, they inevitably divert effort from economic production, which will decrease the general standard of living even more.

The situation isn't made easier by the possibility that we're facing Peak Oil – the start of a secular decline in world oil production. Or the fact that Americans, both individually and collectively, are deeply in debt and living on the kindness of strangers. The problem with debt is that it artificially increases our standard of living. But when we pay it off, especially with interest, it reduces our standard of living in a very real way.

Wrap this economic environment around the so-called War on Terror, which is rapidly morphing into the War on Islam, which could easily turn into World War III, and you're looking at the perfect storm. The odds of a major conflagration are very high, and it's not being adequately discounted. If Bush starts a war against Iran, or if another incident like that of 9/11 occurs, or even if the trend of the last five years accelerates, the U.S. is going to be locked down like one of its numerous new federal penitentiaries. And that will be accompanied, and compounded, by mass hysteria among Boobus Americanus.

At that point, your investment portfolio will be among your lesser concerns. People forget that, in every country and time, there's a standard distribution of sociopaths and misdirected losers. In normal times, they seem like normal people. But when the time is right, they show their colors, and they love to get jobs with the government, where they can lord it over their betters.

You may be asking yourself: Is the Greater Depression really inevitable? How bad will it be? Is there another side to the argument? Can it be avoided?

I suppose it's not absolutely inevitable. Perhaps friendly aliens will land on the roof of the White House and present the government with a magic technology that can undo all the damage it's done. But we live in a world of cause and effect where actions have consequences. That being the case, I expect truly serious financial and economic trouble. And the government will make it vastly worse by trying to "do something" instead of recognizing itself as the cause and backing off. I don't see any way out.

How bad will it be? In historical terms, the last depression was relatively short and mild. The longest depression on record was the Dark Ages. Residents of the old USSR and Mao's China suffered through a depression that lasted decades. I'm not predicting it will be that bad, if only because the U.S. has basically much sounder traditions and institutions and vastly more accumulated capital. But it's hard to overestimate how serious this could be. I sometimes joke that it will likely be worse than even I think it will be.

Getting back to whether it's truly inevitable, it's a question of degree. The recession of the late 1970s and early 1980s involved a terrible stock market, 15% inflation with interest rates to match, 10% unemployment and a near war with the USSR. But the country not only hung together, it went on to a tremendous rebound. My guess is, however, that the last 20 years of good times will later be viewed as an economic Indian Summer before a harsh winter.

The good news, of course, is that no matter what the economic conditions, technology – which is the mainspring of human progress – will keep advancing. And many individuals will continue innovating, saving and improving conditions for themselves and their associates. Also, it's entirely possible to go through even the worst of times and not get hurt. Indeed, to profit from them. If the price of a house you want now but can't afford falls 75% (as outrageous as that may sound at the moment) while your own investments in the high-quality gold stocks we follow in our International Speculator quadruple, you're much better off. That house now really only costs you one-sixteenth of what it did before. Of course it's a problem for the guy who has to sell his house... but I always prefer to look at the bright side of the equation. There's time now to structure your affairs so that you're on the right side of the trade.

Keep your eyes peeled for signs that indicate it's about to get ugly. One obvious indicator to watch is how the price of gold is running. Gold is the only financial asset left in the world that's either safe or cheap. It's also underowned and largely unrecognized, which is why the smart money has been moving into it.

Then there's the CPI itself – although I don't think it's very accurate, in that all the adjustments, exclusions, weightings and what-nots the government has insinuated into it over the years makes the CPI as much of a floating abstraction as the dollar itself. It's funny how the government plays with figures for fear of hurting confidence. They believe the economy rests mainly on confidence, which, ironically, in today's world, is true. Unfortunately, confidence can blow away like a pile of feathers in a windstorm – and we have a class-5 hurricane coming. If the economy were sound and people for some reason lost confidence, the currency and the banks would be unhurt, and the next day things would go back to normal. But that's not the world we live in. So, higher CPI numbers are another thing that could destroy confidence and supercharge the gold price. They're coming.

Higher interest rates, which we're already seeing, will inevitably burst the real estate bubble, which is floating on a sea of mostly adjustable-rate debt, a lot of it interest-only or even with negative amortization. Higher rates will also crush bonds and probably stocks. And they'll devastate the economy since everybody is deeply in debt. However, I feel the Fed will keep short-term rates – which are really the only ones they control – as low as possible for as long as possible. For one thing, they don't want a recession, which this time could snowball into the Greater Depression. For another, my guess is that they want to gradually depreciate the dollar against other currencies, in part to decrease the chronic, massive trade deficit. And because increasing the number of dollars makes people think they're richer than they really are, it can stimulate some additional spending...but these days that spending is mostly done on credit, so it is only illusionary.

The biggest single problem, however, is that there are trillions of U.S. dollars outside of the U.S. Unlike Americans, foreigners have no reason to hold them. And at some point very soon, perhaps when the Fed finally hits the wall on its ability to raise rates, these overseas dollars are going to start flooding back home, while the products and titles to real wealth flow out of America.

Therefore, when the trade deficit starts turning around – which most people will think is a good thing – that will be the real tip-off the game is over. Trillions coming back to the U.S. will skyrocket long-term interest rates and inflation. The dollar will go into freefall.

But although I think these are the things to watch, to my way of thinking it makes no sense to wait until the stampede starts to try to get out the door. If you haven't done so already, take advantage of the current correction in gold to begin repositioning your portfolio for what's next.

June 8, 2006

Doug Casey is the author of the best-selling Crisis Investing and The International Man and editor and publisher of the International Speculator. This first appeared on Bill Bonner's Daily Reckoning.

Take note that this was written a year ago, take note of the parts in bold, and draw your own conclusions.

[Captain Arrrgh!]

An interesting article of relevance.
Take note that this was written a year ago, take note of the parts in bold, and draw your own conclusions.

China, if memory serves, is the single largest holder of US currency, and has stated recently to dump it all in exchange for Euros, creating a hyperinflation of US on the market, which would effectively topple the US economic house of cards. Their latest threat happened when North Americans became angry with tainted foods stuffs, lead paint, exploding tires and criticism of China's human rights record before the Olympiad.

The mistake, however, is to assume that those in the highest echelon of the power structure are stupid, don't know, or don't care about what is happening. They know exactly what they are doing.
By the way, certain stock options are going nuts, atm. The only times this much activiity was seen before was before 911 and during the economic crash of the the Depression. As is ususal, gold is going through the roof again. When the US economy does tank, you'll see enforcemnt of the law forbidding hoarding of gold again, ala Great Depression. If you're diversifiying your investments, I'd say **** 'em, and hoard anyway, for they do not have you best interests in mind.

[Duke_of_Bavaria]

True, but it won't be anywhere as severe for the rest of the world.

You mean like 1930...? Oh wait... Nevermind.

[Freddie]

Erik speaks my mind.


China will face recession too if America's economy collapses. The whole world will, actually. This situation is extremely volatile. Some have dubbed it the start of the second great depression. I wouldn't go that far, though. But when an economy has lent itself out of bankrupcy for over twenty years, and has a public debt of about 9 trillion dollars, there should be red sirens going off everywhere. Unfortunately, the American public/media is so out of touch with reality that no American news is reporting the story, and nothing is being made to alleviate the crisis. The U.S. is inviting disaster.

We have been enjoying a prolonged period of economic progress the time for decline or slow down is in my opinion overdue. I believe everything goes in cycles, you have an up cycle and a down cycle, the US has been enjoying an up cycle for the past 14 years (bar a mini rescission in 2003) so the time for a decline is due.

Sadly you’re right, if America suffers the rest of the world will as well, there’s an saying that goes "If America sneezes the rest of the world gets a cold". I disagree with Erik the situation is not hopeless, as in the US will never recover, that’s just plain wrong, but some hard times may be upon us.

[Erik]

I disagree with Erik the situation is not hopeless, as in the US will never recover

That's not what I meant.

I meant: I'm hopeless that the US will be able to avoid the coming (huge) recession.
I have no doubt that America will start to recover in, say, 15-30 years or so (not exactly sure how long this will last).

[Dance the older]

Some have dubbed it the start of the second great depression.

I read in the news paper today, that Jack Layton, NDP Leader in Canada hinted towards another Great Depression.

We B ed if that happens... It will be far worse this time around methinks

[Last Roman]

Que China taking over.

quite the opposite. If America's economy falls, so falls China's (or at least takes a huge hit)

cutting the interest rates is only a band aid solution. People need to stop buying what they can only barely afford.

[Carach]

quite the opposite. If America's economy falls, so falls China's (or at least takes a huge hit)

cutting the interest rates is only a band aid solution. People need to stop buying what they can only barely afford.

the pro-eu/euro dudes of the boards believe this brings in the dawn of the Euro era Not a Chinese rise

[Last Roman]

the pro-eu/euro dudes of the boards believe this brings in the dawn of the Euro era Not a Chinese rise

huh? you lost me. Woad warrier stated that the decline in the American dollar would allow China's economy to take over when it's really the opposite. If I missed something, I'm sorry.

Lower US consumption is what will cause the recession in the US, there is simply no way the US can offset lower consumption with higher exports

true, it will cause a recession in the short run, but (theoretically) Americans buy more American made products, then manufacturing jobs will increase in the US, spurring the economy out of said recession.

[Rush Limbaugh]

The dollar has no value because it is controlled by how much is in circulation under the Federal Reserve, a private bank who has a monoply on the american currency.

And thats the real problem. Everything else is just smoke and mirrors.

[Erik]

true, it will cause a recession in the short run, but (theoretically) Americans buy more American made products, then manufacturing jobs will increase in the US, spurring the economy out of said recession.

That's if the problem was a weak dollar.
Which I try to explain isn't.

The REAL problem is debts, not a weak dollar.
US consumers will primarily reduce spending because they won't be able to get more loans, not because their paycheck gets reduced (although lower dollar and thus paychecks will make the situation worst)

I think the recession will last until the US household debt is payed back in full.
That's also how long it took to turn the tide during the Great Depression, and the debt situation is actually very similar.
Just like during the GD, this can take decades because the household debt is huge (even a little bigger than it was before the great dip).

There were 2 recession when Greenspan was Fed Chairman, but who's counting.

When was that? (just curious).

At those who fear the Fed, would you rather idiotic politicians controlled interest rates?

I don't care if their background is political or not.
There are idiots and geniuses in both the private sector and the political arena.

[Carach]

huh? you lost me. Woad warrier stated that the decline in the American dollar would allow China's economy to take over when it's really the opposite. If I missed something, I'm sorry.

he isnt pro euro. i was just adding to the view that china will not be the one to profit from this (relatively)

[wilting]

the pro-eu/euro dudes of the boards believe this brings in the dawn of the Euro era Not a Chinese rise

I suspect we're more likely to see a multipolar world or a world "without power" in the future. Depending on who you talk to, this could a very good or a very bad thing.

[LoZz]

is the situation really that bad?

[Tiwaz]

is the situation really that bad?

Yes, if not worse.

You can't just spend your way through debt.

People have tried, and failed. Only way to get out of red is to either spend less or sell more.

USA has been doing neither.

This fall is going to hurt global economy, but fortunately EU has been showing signs of stability and progress in terms of economy. Hopefully that will take off the edge of recession for Europe and help us get nice boost for future.