Posted by Eric Solis on December 29, 2010 under Banking, Financial Crisis, General, Global/International, U.S. Treasury Markets, Uncategorized | 
Oil Prices-Surrogate Interest Rate; Low rates are the problem not the solution.
Oil is priced more like a bond than a commodity. As interest rates go down, prices of oil rise and as interest rates go up, oil prices fall. Why is this important? Because the Federal Reserve is choosing to leave interest rates at or near zero to keep oil prices artificially high. The result of this is that money that is being funneled to OPEC could be going to the American people by way of lower gas prices at the pump, heating oil and lower consumer prices. The distribution of freed up capital as a result of lower oil prices is far reaching when prices drop. The economic benefit hits the economy immediately and is spread far and wide across all socio economic classes. Low interest rates on the other hand, unevenly distribute relief to those persons owning assets which require financing in particular BANKS. The problem is that in an economic climate where savings not debt is the required behavior; lower interest rates are a bastardized strategy towards stimulating economic growth.
Even more disconcerting is that low interest rates are essentially a vehicle for funneling money to OPEC by way of artificially high interest rates. What do I mean by this? Think about it this way. If interest rates were to increase to 5% which is the historical average for 100 years, then oil would drop back to 1990 levels. Think about a world today with $1 gas prices at the pump and natural gas bills for heating your home cut by 65%.
This would distribute 100’s of billions of dollars immediately and tangibly right into the pockets of the American people. Instead what the government is doing is keeping rates at zero; so that oil prices remain high and thereby American consumers are channeling these hundreds of billions of dollars to Saudi Arabia instead. The other benefactor to this strategy is the BANKS. Since they borrow at 0%, they are basically getting free money at the direct expense to the consumer. The consumer is getting hoodwinked into thinking that low interest rates are stimulative to the economy. But you need not be an economist to determine that the supposed tsunami of capital that the government has injected through fiscal and monetary policy, is NOT finding its way into the hands of consumers. In fact it is being sucked out of the pockets of consumers by way of an artificially high oil price. This tax on consumers is then monetized by way of printing more dollars and then loaned to banks at zero percent.
IMHO
Posted by Eric Solis on December 20, 2010 under Global/International, Uncategorized |
December 20th, 2010
Paper Tigers
By: Eric Solis
America has imported low inflation and in exchange exported its wealth for the past half century. This Began with the Japanese following World War II and has continued with the Chinese for the past two decades. The similarities between these two paper tigers are astounding.
Prior to World War II, the Yen Dollar exchange rate was 3 to 1 and Japan was a vibrant economy with a strong currency. After The United States defeated Japan in 1945, General Mac Arthur was charged with revaluing the Yen. He looked at the Japanese flag and saw the red sphere representing a 360 degree angle; hence he pegged the Yen Dollar exchange rate at 360 to 1. Overnight, Japan went from being an industrial nation to a third world country with a weak currency. This currency devaluation guaranteed two things 1) Americans would be able trade dollars for cheap Japanese products and 2) America would provide the capital for Japan to rebuild after having two of its largest and most strategic industrialized cities demolished.
The Japanese finally de-peg the Yen from the USD after the US abandoned the gold standard in 1971. But, by then the forces of an artificially weak currency were already in motion. Japanese exports had become too cheap in the international markets, they had a huge trade surplus and inflation was escalating because of exploding money supply.
By the mid 1980’s Japan was buying assets at a blistering pace…everything from government bonds, landmark real estate, US equities and prestigious county clubs and golf courses and they ran a burgeoning trade surplus with America. Fear was mounting that Japan would soon own America.
But, the political and economic reality was that the Japanese had won their massive wealth through a planned and unsustainable competitive advantage that was built into the trade relationship with the United States following the war. As the Yen began to strengthen, causing prices to rise in the international markets, the Japanese became less competitive and by the end of the decade, their products were priced in line with American made products. After 40 years of being on the receiving end of American consumerism, Japan had become a wealthy juggernaut and America’s mission of rebuilding had been completed. Next up…American’s point there consumption across the bay towards China.
Japanese were a case study for the Chinese… a practice test, the beta, the crash dummy so to speak. Like Japan, the Chinese have also benefitted from an artificially suppressed currency value which has gained them an unfair and unsustainable competitive advantage against trading partners including the USA. But America has a goal just like it did with Japan; to open up the huge Chinese market and abolish communism.
This plan has been in the works for over 150 years reaching back in time to the Opium War of 1839-42. As a result of the Treaty of Nanking in 1842, the Treaty of Beijing in 1860, and The Convention for the Extension of Hong Kong Territory in 1898, the Chinese entered into a 99 year lease placing Hong Kong under British rule. The lease expired on July 1st, 1997 and the United Kingdom returned Hong Kong back to China. They received a world class society with a western style economy, free markets, vast technological and business infrastructure and a multi-party political system.
However, mainland China had made little progress during that time period economically, politically or socially. But the West now had a foothold into China that would give it the access it needed to begin breaking loose communisms chock hold on China, beginning with its currency. The Yuan-Renminbi has been pegged to the USD for decades which has played a pivotal role in China’s ability to dominate in international trade and become what it is today. But there oughtn’t to be an utterance of China amongst bona-fide world leaders until China proves that it can compete in the world of business and trade with a currency that trades freely and unabated and without being controlled or manipulated and whereby their society is protected by human and property rights.
To create a visual, imagine pushing a beach ball under water…keep pushing…keep pushing down…down…down…down further and deeper, keep going and then BOOM!!! Eventually the ball is going to rush to the surface with a vengeance. In economic and societal terms, this is what is happening within China as their wealth is being unevenly distributed and their massive trade imbalance is being hoarded by the government to control the value of the Yuan. These macro forces are giving the Chinese government indigestion as both tempers and inflation rise.
Having a large trade surplus is no better than having an equally large trade deficit. The goal is to balance the current accounts and bring equilibrium between imports and exports. This balance in trade is a sign of a healthy economy which indicates that investments are moving in both directions and there is not an excess of savings or spending.
The question is who has the easier problem to solve, America or China? China creates sweat shops and abuses its citizens to distribute cheap products around the globe and they care little about establishing a vibrant middle class or legal framework with defendable human and property rights. They have hoarded trillions of USD to manipulate the Yuan and now there is a crack in the levy.
On the other hand, the US has the lowest savings rates in the industrialized world and a thirteen trillion dollar national debt, a bad combination to be sure. But it has one of the most advanced economies in the world and is able to mass produce goods and services with global reach and distribution capabilities. The USA is home the most efficiently run companies and it has a robust middle class and it marks its markets to the market each and every day without interference.
As of this writing, the Chinese are feeling the pressure of an undervalued currency. The Chinese current accounts currently hold over $1.5 trillion USD which was an intentional transfer of wealth to open their market. But now, as China flexes its steroid built economic muscles, the United States will take away the needle. China is the proverbial “bull in a China shop” (pun intended) and they stand to wreak havoc on the tentative global economy if left unchecked.
Watch and listen as the United States power structure begins turn the screws on China and their currency. As baseball was to Barry Bonds, the markets will be to China as it imputes punishment on the Chinese for its ill gotten wealth. While the USA has its work cut out as it goes through the painful process of revaluation and deleveraging, it will fare far better than the Chinese who still must learn the basic fundamentals of how to operate within a free market economy.
It is true that the Chinese are a new, huge and profitable market and a major source of global growth, but will this translate into sustainable economic and political power? Not until they choose to recognize and enforce and embrace free markets, human rights, property rights and free speech; which are all pre-requisites to leading in the twenty first century.
As China runs its course, who will be next…India?
