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3 minute synopsis of a recent interview with Jim Rickards, author of Currency Wars and The Death of the Dollar, Senior Managing Director at Tangent Management Partners, by Ticky Fullerton from ABC News Australia.
Tapering into Weakness
Threshold for Raising Interest Rates
Jim reminds us that what he said over the course of last summer was that the FED would not taper in September. Everyone expected that they would, and they did not.
He says it wasn’t a crystal ball – the FED said it was data dependent. Jim looked at the reports – August employment was lousy and consumer confidence was going down.
Going forward to December 2013, the data was still bad. Jim thought they still wouldn’t taper but they did. That told him something else was going on. The FED said it was data dependent and the data did not support tapering.
They are tapering into weakness and it is likely to cause a Recession in 2014.
This could be Bernanke trying to tie Yellen’s hands and leave a legacy, saying that he got them into it and now is was going to get them out.
Or perhaps they are concerned about their balance sheet.
If you went back to 2009 and told the FED that if they did QE they would have a $4 trillion balance sheet in 2014, they wouldn’t have believed it. They expected the economy to grow.
So here they are.
TAPERING INTO WEAKNESS
Jim believes they think they have to taper because the balance sheet is too large. The FED is insolvent on a mark-to-market basis.
If the FED was a hedge fund instead of a Central Bank, and you marked their assets to market, they have a lot of loan duration assets, and five and seven year notes etc.. They’re leveraged 100 to 1. They would actually wipe out their capital.
The FED looks like a bankrupt hedge fund right now.
They’re concerned about the balance sheet. They’re concerned about systemic risk. That’s why they started tapering.
But the FED have not met the criteria that they laid down themselves.
Inflation is about 1% and they said they wanted 2 1/2%.
President Evans of the Chicago Fed has said he wants 3 – 3 1/2% inflation.
So they’re nowhere near the targets but they are tapering anyways. As a result they are tapering into weakness.
THRESHOLD FOR RAISING INTEREST RATES
Their threshold of unemployment at 6 1/2% before they raise interest rates is meaningless, and they are going to have to throw it out.
1. If you’re looking for a job but don’t have one then you’re ‘job ready’
2. If you’ve left the labour force then it’s more inertia to get you back into the labour force.
So the weakness in real wages and the decline in labour force participation tells Janet Yellen that we are nowhere close to inflation.
Not even close.
So she can ease monetary policy without having to worry about inflation.
They’ll probably pause the taper around mid year. They’ll definitely do another $10 Billion in March – that’s kind of baked in the pie.
They’ll pause the taper around May or June, and maybe reverse policy and increase asset purchases later in the year, because of the weakness in the economy.
Money will continue flowing out of the emerging markets.
Jim was recently in South Africa, Qatar, and Central Europe. He’s been in a lot of these countries, and met with their policy makers, and their Central Bankers and parliamentarians.
These countries are shaking their heads. They’re saying that they are doing everything that Jim told them to do – trying to be prudent and run their economies – but they are getting whipped around by the FED’s Stop-Go policy.
In the carry trade people borrow US dollars, buy emerging market stocks, and those stocks go up.
But the minute you hint at a possible rate increase, which is what is happening in the US, they unwind the trade.
So they dump everything, come back to dollars and pay off their dollar debt.
So if the FED is taping into weakness, which Jim believes the data indicates they have, and we get into a borderline or a Recession later this year, then the FED is going to pause.
That is going to cause an emerging markets rally in the second half of the year.
So Jim expects continued turmoil in the emerging markets for now but by June or July if the FED pauses, then the whole thing reverses.
It’s hot money – money in, money out.
It’s the way things are in these emerging markets. The emerging markets don’t like it but that’s the way capital markets operate.
A lot of the damage in Australia is self inflicted.
Australia, like every other economy in the world, is affected by FED policy, because the dollar is the leading reserve currency.
All the dollars sloshing around the world, the capital flows, is important to exchange rates.
Australia made the problem worse through a series of rate cuts. Jim met with RBA officials two years ago and said, “You’re not going to help exports, and you’re not going to improve your economy – all you’re going to get is inflation.”
That’s exactly what’s happened.
They got inflation and now the RBA has to think about raising rates.
This is the same mistake Brazil made.
Brazil had a very strong currency in 2011. They began a process of cutting rates in 2012 – 2013. Guess what? They got inflation.
That’s the problem with the currency wars.
The only way you win is by not fighting them.
We’re not always in a currency war, but when we’re in one they can go on for five, ten or fifteen years.
This currency war started in 2010. Jim isn’t surprised that it’s still going on in 2014.
Ben Bernanke gave a very important speech in 2012 in Tokyo. He said the FED was going to keep printing, so you – our trading partners – if you want to peg to the dollar, you’re going to have to print your own money to soak up all the dollars that are coming into your country, in order to maintain the peg. That’s going to cause inflation.
If you don’t like inflation, then let your currency rise, in other words let the US dollar go down, and that will take care of the inflation.
Trading partners said, yes, but it’s going to hurt our exports and hurt our growth and why is that a good deal for us?
Bernanke said that the only other alternative is worse for everyone, which is that the US doesn’t print, the US goes down and takes everyone with it.
So all the markets, emerging markets and developed markets, are faced with this Hobson’s Choice:
1. Peg to the dollar and you get inflation because you have to print money to maintain the peg
2. Let your currency go up and it hurts exports
This is going to be a drag on world growth.
This is going to get worse.
It’s already getting ugly.
According to Secretary of the Treasury, Jack Lew, we’re already past the debt ceiling – the level where the US Treasury would have liked to have had more borrowing authority.
They have games they can play, they can defer certain payments, and there are tax receipts in April.
Lew says they’ll be out of games somewhere around the middle of March. There’s no exact date.
The government won’t shut down this time.
The Republicans may be inclined to be confrontational because they’re not going to suffer the shut down damage they suffered last time.
Jim believes it might get a little more tense by the middle of March.
Another Week on Wall Street
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