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WATCHING THE US
DOLLAR -- CLOSELY
In the June 2001
Moneychanger I interviewed Dr. Walker Todd on “The Amazing
Levitating US Dollar.” My concern, then and now, is the value of
the dollar. Translation: I’m afraid the US dollar might
suddenly collapse. For over a year Greenspan has been
increasing the money supply at near-banana-republic rates (20% a
year on MZM), and sooner or later that must gut the US dollar’s
value.
INTEREST RATES &
INFLATION EXPECTATIONS
In addition to
increasing the supply of dollars, events have simultaneously forced
Greenspan to lower interest rates. To appreciate how he has painted
himself into a corner, you have to ponder how interest rates affect
a currency’s exchange rates.
Normally the interplay
of two elements determines a currency’s exchange rate:
interest rate and inflation expectations. If the market expects
that currency to depreciate due to inflation, it lowers the value of
the currency. At the same time, holders of that currency demand
some kicker to remain in the currency and bear the expected loss by
inflation and risk that inflation will become even worse. That
kicker shows up as a higher interest rate; the risk is greater, so
the reward must be greater, too. In fact, chronically high interest
rates always point to a rip-roaring inflation.
Here’s an example.
Suppose you can choose to hold your money in US dollars or Italian
lira. Say you expect the lira to depreciate 10% this year, but lira
CDs are paying 14.5%. Your investment would gain an
inflation-adjusted 4.5% (assuming nobody in Rome really goes
crazy). Say that at the same time you expect the US dollar to
depreciate 8% this year, but banks are only offering CDs that pay
2%. Thus by year’s end your US dollar-denominated CDs will lose
six percent.
What does that mean for
Greenspan? If the US dollar’s value starts dropping, he has to
raise interest rates to defend the dollar’s exchange rate, right?
But if he does that, he makes money more expensive for each and
every participant in the economy. Oh, you remember the economy,
the one that is staggering from recession into depression, right?
The faster he raises interest rates, the faster the stock market
tanks. Greenspan has painted himself into a tight corner.
Luckily for Greenspan,
all his competition stand in mud just as deep as his. The Japanese
are wallowing in a decade-long recession, and have to keep the yen
low or their exports will sink into the quicksand. The Euro . . .
well, the Euro was issued at $1.20 and has sunk deeper and deeper
until its lips are just barely above the waterline – and the
European economies are sinking, too. Greenspan sits in the same
enviable position of the only Ford dealer in town when the two other
dealerships are Hupmobile and Stanley Steamer. But that could
reverse at any time, with the dollar on bottom and the others on
top.
SIGNS OF TROUBLE
When I interviewed Dr.
Walker Todd last June the dollar was just peaking. Heavy on my mind
was a dollar disaster, so I asked Dr. Todd about warning signs for
the dollar. Below is an excerpt from that interview. (You can
order the back issue with the complete interview from us for $10.00
each.)
DR. TODD SAID
MONEYCHANGER
What signs should we look for that the
dollar is coming unglued? One thing we haven’t mentioned yet is the
huge chunk of US government debt that foreigners own. Two years ago
that stood at 40%.
TODD It’s still in that
neighbourhood, a little over $2 trillion. Ironically, the
proportion of foreign ownership may keep rising as the
Treasury redeems debt. The denominator is the total publicly
held debt and the numerator is the foreign held part. That
foreign-held percentage will keep rising in the near future, even if
they don’t buy another dollar of debt. Any significant liquidation
of the foreign position in US government debt would be a major
danger signal.
MONEYCHANGER
Where would we find that?
TODD The only way you see it regularly
is in the Fed’s Board of Governors H.4.1 Release, the weekly
statement of condition of the Federal Reserve banks. They also
publish a monthly summary of that in the Federal Reserve bulletin.
A line item entry there shows “US government securities held in
custody by the Federal Reserve Banks for foreign official and
international accounts.” You can always look at that total to see
whether it’s rising or falling. The benchmark number is $600 – 700
billion, where it has been in recent years.
[Go to <
http://www.federalreserve.gov/releases/H41/>, where you
will find a list of dates to choose from. Choose the latest
report. After the body of numbered items, you will find the first
remark. “On June 6, 2001, the face amount of marketable U.S.
government and federal agency securities held in custody by the
Federal Reserve Banks for foreign official and international
accounts was $709,699 million, a change of $ + 2,692 million for the
week.” -- FS]
MONEYCHANGER A liquidation of any
significant portion of that debt would signal trouble.
TODD Say the Japanese, with problems
of their own, decide to cash in their dollars, you might see $300
billion walk out the door. You’d notice that in the Fed total. You
might also see it in the long bond rate.
MONEYCHANGER
Driving the value of long bonds down
by drastically increasing their supply.
TODD Another signal would be a sudden,
unexplained rise in the Euro. If the Europeans hold their interest
rates more or less steady (and currently they are signalling that’s
exactly what they will do) and still the Euro started rising
rapidly against the dollar, that would be a signal that people are
bailing out of the dollar. [end of interview quotation]
HOW DOES IT LOOK
LATELY?
A quick trip to the
Fed’s website and a few wretched hours of downloading their H.4.1
release for the last five years reveals a trend. From 1997 through
half of 1998 foreigners were trimming their holdings of US
government securities. However, from late 1998 through the first
quarter of 2000, foreign US debt holdings at the Fed soared from
$570 billion to $720 billion. Back in the summer the level dropped
down to about $700 billion, but all those monetary injections after
9-11 appear to have boosted it.
Where did that foreign
buying come from? One guess says that the Fed was sterilising
that cash pumped in for Y2K. “Sterilising” is Fed lingo for
pouring some in at the top and draining some out at the bottom to
keep the whole pot from boiling over. Y2K terrified Greenspan so he
pumped as much liquidity into the system as he could, but wait.
If he pumps in too much, prices start rising and that
begs an attack on the dollar, so he has to sterilise their
effect, that is, he has to quarantine their effect from the system.
But how? Simple: twist the stranger’s arm. Use your
macho-Americano Fed muscle to twist the arm of foreign central banks
and force them to buy more government debt.
But all that matters to
our point here is that foreigners are still buying big loads of US
government debt, so there’s no evidence of a panic out of the
dollar. However, bear in mind what Dr. Todd said. Any major
liquidation of foreign holdings of US government debt would signal
big danger for the dollar, and the Japanese, the major holders of
that debt, have problems enough of their own.
WHY THE MONEY?
To coin a phrase, the
world is a complicated place. The only refuge for the simple is to
latch onto the truth, and hold on. The truth is that money is the
lifeblood of the economy, and when the money goes bad everything
else will soon follow, economy and morals. When the US launched
into a fixed policy of inflation some 90 years ago, the door was
opened to a multitude of evils. I don’t understand everything by
any stretch, but the money issue is fairly plain, and points plainly
to certain results. I have gathered a slew of monetary data here
and present it in charts so you could see for yourself exactly what
The Masters of The Universe, led by Demi-God Alan Greenspan, are
doing to your money.
BALANCE OF PAYMENTS
Look at the charts on
Balance of Payments, “US balance on current account, Q1’60 –
Q2-‘01”. The long term chart shows that the US balance of payments
entered a deficit in 1991 and has plummeted ever since. The second
chart shows the Balance on Current Account since 1998.
What does it mean?
Think about it this way. You gave your son in college a checkbook
and a checking account. You told him you were only going to put
$100 a month into the account. The first month his checks totalled
$100. The second, $110. The third, $120, and so forth, until the
cops show up at his dorm. The balance of payments shows how much
more we are buying abroad than we are selling. It’s like
writing bad checks, only when the end comes they don’t cart you off
to jail – your currency collapses.
INTEREST RATES
Bonds give everybody a
headache. In the first place, they’re all upside down. The
interest rate that determines the value of the bond is upside
down to the value of the bond, so when rates rise, bond values
fall, and vice versa. And bond traders are more sensitive to
any whiff of inflation than Cyrano de Bergerac to jokes about his
nose.
That’s why the Feds
killed the 30 year bond on Halloween. The 30 year bond was the lead
dog for all long term interest rates. Mortgages, for instance, were
set off the 30 year bond, and if mortgage rates won’t fall,
construction won’t happen. But the bond traders had refused to play
Alan Greenspan’s game. No matter how much he lowered interest
rates, they just wouldn’t play along. So the Treasury just shot
the messenger, and announced, “We just won’t issue any more 30 year
bonds.”
Instant shortage,
instant price rise. You can see that it worked for a very short
time as rates dropped sharply (bond prices rose). Look at the
downward spike on the chart at Halloween. Just as suddenly, it
stopped working and rates shot back up to the pre-bondicide previous
level. I didn’t prepare a bond price chart because by the time I
finish you’ll have more charts than you want. But if I had, you
could see that the bonds have broken down, just the opposite of Mr.
Greenspan’s plan. High long term rates, low short term rates, an
inverted yield curve and a recession. The worst of all
possible worlds.
Remember in the meantime
that the current account deficit is grinding away at confidence in
the dollar. And Greenspan has been lowering interest rates, which
ought to rise to compensate for the increased inflation risk
in the dollar implied by the deficit. Wow, this is fun.
CURRENCY
Now look at the currency
component of Money supply. What I’ve shown is the Year Over Year
trailing increase. That means I just divide this month’s currency
amount by the same month last year to determine how much it
is increasing.
The longer term chart
just shows the pattern of increasing US inflation since 1960.
That’s bad enough, but the shorter term Trailing chart gives you a
good feel for the loosey-goosey way Alan hits the accelerator pedal
when he’s anxious. That big spike leading up to 2000 shows Alan
pumping up the money supply in case Y2K really hit hard. Then he
hit the brakes just as suddenly. However, I’ve also charted the
currency component’s year over year increase on a projected
basis. That means I take the rate of increase for one month and
project it out for the next year. Say the currency component is
$100 in June, and Alan increases it to $101 in July. If he kept on
pumping in the paper at that same rate, currency would increase 12%
that year. Charting it this way shows even more clearly how hard
Alan hits the gas, then slams on the brakes, from nearly 30% in
December 1999 to negative 16% in February 2000. In August
2001 it increased at a 19% rate, in September at 11.5%, in October
at 7.4%.
BANK RESERVES
Bank reserves are the
high powered money in the banking system ready to make loans.
Nothing exciting here, until you come to September, 2001 when Alan
really hit the gas. Reserves jumped from $40,218 million on
9/5/01 to $76,000 million on 9/12 and 9/19, then back to $42,800 on
9/26. Once again, that shows Alan’s dilemma. If he hits the gas
too hard, he has to slam on the brakes just as hard when events
prove the gas unnecessary. “Sterilising”, they call it.
M1, MZM, M2, & M3 MONEY
SUPPLY MEASURES
These various measures
of the money supply hinge on academic arguments in what really
should be counted as the money supply. That right there
ought to give pause to anybody. If the fiat money system
attenuates the definition of money to such ethereal limits that even
the experts can’t agree what money is, what kind of mess are
we in? Well, they don’t, and not too long ago Congressman Ron Paul
backed Alan Greenspan himself into admitting in a congressional
hearing that he couldn’t define money, so there you are.
Anyway, the difference
is primarily one of liquidity. It’s a limited comparison, but say
you’ve got a pocketful of change, a wallet with ones and tens and
one hundred, and also a checkbook. When you’re buying a package of
gum, you’ll dip into your change first. You won’t break the hundred
or write a check. These various Ms measure encompass more and more
illiquid (less likely to be spent) forms of money as you go
from M1 to M3.
But let’s not quibble,
let’s just see what the general tendency of the money supplies is.
After all, since inflation is defined as “an increase in the money
supply” (and not an increase in prices) we can just look at
money supply and see for ourselves whether Alan has been inflating
or not. This is where we can smell it on his breath, so to speak.
Alan, Alan, you’ve
been hanging out in low dives! You’ve
been increasing M1 Money supply at a 4% trailing rate, and then you
jumped to 9% in September; at a projected rate you increased M1 by
over 58% in September. Alan, you’re going to have to lay off the
sauce.
What about MZM? Whoooo,
it climbs from 9% trailing in January to 15% in September, and then
to 19% in October. On a projected basis MZM grew 38% in September,
and 15.8% in October.
The picture for M2 and
M3 isn’t much better. Since January 2001 M2 money supply has grown
by a rate increasing from 6.6% to 8.8% in August. In September it
took off at 10.5%, and settled back down to only 9.9% in
October. That’s on a trailing basis. On a projected basis
it grew by 26.7% in September and shrank at a 1.49% annualised rate
in October. Gas –brakes! Gas! Brakes. M3 got the same
treatment. It opened 2001 growing at 9.75 (trailing), but that
increased to 10.9% by August, then goosed to 12.3% in September, and
12.9% in October. The projected rates were 25% in September and
10.6% in October.
WHAT DOES IT MEAN?
It ought to be obvious
form this that Alan is using his chief weapon – liquidity,
a.k.a., pumping up the money supply – overtime. Alan Greenspan
is inflating the money supply. No sane person can question
this. Every sane person, of course, can question whether this
is any way to run the money of the most productive and largest
economy in the world. Anybody but a politician or an economist
would tell you no!
This inflation will
eventually destroy the United States dollar, period. Greenspan
et al. Hope that it will restart the economy and the stock
market, but it won’t. The excesses of the bubble the same increases
in money supply caused are now being wrung out of the market, and
this is just the beginning.
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