The Fed Resorts To Shock Tactics

So here we have it near zero interest rates in the United States for the first time ever, the Federal Reserve reduced the federal funds rate, the interest that banks charge each other, to a range of zero to 0.25 percent. That is down from the 1 percent target rate in effect since the last meeting in October. So why such an aggressive cut? The reason banks simply are not lending despite the stimulus package credit is not flowing from the banks into the economy. The banks are busy shoring up balance sheets and have dropped the ball, so the Government “the lender of last resort” has an even more aggressive plan they plan to flood the economy with billions of dollars by doing so the banks will be awash with cash and will in turn start lending again. This experiment is not without risks. There is the potential for very high inflation down the line if the Fed is successful. But, does the Fed have a choice? It seems that it is looking at deflation or depression on the one hand or stagflation on the other. Take your choice.

This method of flooding the economy with money (or simply turning on the printing presses) is known as Quantitative Easing. Quantitative easing was a tool of monetary policy that the Bank of Japan used to fight deflation in the early 2000s.

The BOJ had been maintaining short-term interest rates at close to their minimum attainable zero values since 1999. More recently, the BOJ has also been flooding commercial banks with excess liquidity to promote private lending, leaving commercial banks with large stocks of excess reserves, and therefore little risk of a liquidity shortage.
The BOJ accomplished this by buying much more government bonds than would be required to set the

interest rate to zero. It also bought asset-backed securities, equities and extended the terms of its commercial paper purchasing operation.

But this policy of excess money supply leads to inflation right? Yes we just have to take a look at Zimbabwe and notice how they have got it horribly wrong and now have rampant hyper-inflation and a worthless currency they simply lost control and did not have the expertise in controlling money supply.

Printing money is effective because it has the effect of putting more high-powered money into circulation. The aim is to increase bank reserves enough so as to increase lending that results from those reserves.And Fed Chairman Ben Bernanke knows this. He is a student of the Great Depression and deflation, a well-regarded economic historian. Bernanke earned the moniker “Helicopter Ben” a few years back as a result of some comments he made in 2002 at the National Economists Club regarding quantitative easing to avoid deflation before he became the Fed Chairman. Here is what he said as quoted on the Federal Reserve’s website:

“As I have mentioned, some observers have concluded that when the central bank’s policy rate falls to zero–its practical minimum–monetary policy loses its ability to further stimulate aggregate demand and the economy. At a broad conceptual level, and in my view in practice as well, this conclusion is clearly mistaken. Indeed, under a fiat (that is, paper) money system, a government (in practice, the central bank in cooperation with other agencies) should always be able to generate increased nominal spending and inflation, even when the short-term nominal interest rate is at zero.
The conclusion that deflation is always reversible under a fiat money system follows from basic economic reasoning. A little parable may prove useful: Today an ounce of gold sells for $300, more or less. Now suppose that a modern alchemist solves his subject’s oldest problem by finding a way to produce unlimited amounts of new gold at essentially no cost. Moreover, his invention is widely publicized and scientifically verified, and he announces his intention to begin massive production of gold within days. What would happen to the price of gold? Presumably, the potentially unlimited supply of cheap gold would cause the market price of gold to plummet. Indeed, if the market for gold is to any degree efficient, the price of gold would collapse immediately after the announcement of the invention, before the alchemist had produced and marketed a single ounce of yellow metal.
What has this got to do with monetary policy? Like gold, U.S. dollars have value only to the extent that they are strictly limited in supply. But the U.S. government has a technology, called a printing press (or, today, its electronic equivalent), that allows it to produce as many U.S. dollars as it wishes at essentially no cost. By increasing the number of U.S. dollars in circulation, or even by credibly threatening to do so, the U.S. government can also reduce the value of a dollar in terms of goods and services, which is equivalent to raising the prices in dollars of those goods and services. We conclude that, under a paper-money system, a determined government can always generate higher spending and hence positive inflation.
Of course, the U.S. government is not going to print money and distribute it willy-nilly (although as we will see later, there are practical policies that approximate this behavior).8 Normally, money is injected into the economy through asset purchases by the Federal Reserve. To stimulate aggregate spending when short-term interest rates have reached zero, the Fed must expand the scale of its asset purchases or, possibly, expand the menu of assets that it buys. Alternatively, the Fed could find other ways of injecting money into the system–for example, by making low-interest-rate loans to banks or cooperating with the fiscal authorities. Each method of adding money to the economy has advantages and drawbacks, both technical and economic. One important concern in practice is that calibrating the economic effects of nonstandard means of injecting money may be difficult, given our relative lack of experience with such policies. Thus, as I have stressed already, prevention of deflation remains preferable to having to cure it. If we do fall into deflation, however, we can take comfort that the logic of the printing press example must assert itself, and sufficient injections of money will ultimately always reverse a deflation.”

So what happens now? Well the Dollar will weaken it will buy less, President Elect Obama for his stimulus package will spend Trillions not billions as he and the Fed will do what ever is necessary to kick start the US economy. The concern right now is to get these banks lending, also to contain the deflationary spiral. Consumers need to start spending and whilst the markets like the rate cut we have now entered unchartered waters. I like the plan, well at least the Americans have a plan, we here in Euro land just talk a good a lot and show very little action.

Mr. Bernanke the whole world hopes your gamble comes off…

What's this thing called Deflation is it bad?

Yes you have probably heard about the dreaded "D-Word" So what is it? Well Deflation is the most feared of economic blights, it refers to sustained falls for goods and services.

Don't we already have falling prices for some products? Yes, For goods such as many types of clothing, Britain has got used to steadily cheaper prices as a result of intense high street competition, and cheap imports from Asia.

Sounds good. What’s the problem?
For individuals, this trend can sound like a money-saving bonanza. A short-lived burst of deflation for just a few months need not be a disaster. The problems start when consumers curb their spending, constantly waiting for cheaper prices to come. In turn, this sucks the lifeblood of demand out of the economy. With spending falling sharply, businesses sell less, are forced to cut wages and lay off staff, leading to less spending and lower demand, and sharper falls in prices. A vicious downward spiral takes hold that can spell deep and prolonged recession.

Are there any other effects?
Unfortunately, yes. A bigger headache still comes from debts. Where prices and incomes are falling in a bout of deflation this means that the real value of people’s debts, relative to falling incomes, rises. People’s debts become an ever bigger burden, stretching the time needed to pay them off. This is known as “debt deflation”. In an economy like Britain’s, where households have the highest debt of any leading economy, it poses a severe danger.

Are we likely to suffer deflation?
There is a significant risk that, as Mervyn King, the Governor of the Bank of England, has admitted, inflation could turn negative for several months. However, a protracted bout of “full-blown” deflation remains a relatively limited threat, given the aggressive action being taken by the Bank and the Chancellor to stave off the danger. It is still a threat that should be taken seriously, however.

How do economies escape deflation?
With great difficulty. Deflation is like quicksand. Once in it, it is very hard to escape the mire, as Japan found after enduring years in such a bogged-down economy. Potential solutions to “reflate” the economy are found in flooding the financial system with ultra-cheap money.

Ben Bernanke the Fed chief wrote a paper a few years ago with regards to his fears regarding to Deflation in the United States what a pity his cock handed handling of the US Federal Reserve has done the complete opposite to combatting deflation, this the guy who would drop money from helicopters to help the economy, be careful what you wish for.

Auto makers Bailout will it happen?

Don't know if you are following the auto industry bailout? You should bear in mind that the government be it Bush or Obama cannot afford to let the industry disappear with millions of jobs at risk. It would have a catastrophic affect on the already battered economy. Trouble is you and I know they need more than $25bn, GM burned through $11bn in 3 months so the automakers bosses know how much they need just to scared to state the figure. By December 8th we will know if they get the money, but be prepared for one automaker to survive, three simply cannot exist, you are watching history as we witness the demise of the once great American car industry, how the mighty have fallen.

Until next time........

Read the book "The Dollar Crisis" Gives a detailed description of how we got into this mess.

What's up with AIG?

It seems everyday you pick up the newspaper or tune into the financial news the name AIG always appears. AIG hit the news big time September 2008 when it came apparent the company could collapse causing panic and fear to an already battered financial system. Treasury secretary Hank Paulson already fire fighting with Lehman Bros decided to bail out the troubled insurer to the tune of $85bn. The bailout covered toxic mortgage-backed securities and a backstop for its credit default swap agreements. We all thought that was the end of AIG's problems then they went cap in hand to the Fed again who provided a further $38 billion supplementary lending facility. AIG is also arguing that the original $85 bn facility is unfairly expensive, compared to the 5 percent plus some warrants charged by the US Treasury for its capital injection into nine large US commercial banks.

The thing with AIG how much more must the tax payer pay into this failing business ? - Willem H. Buiter of the FT argues "AIG’s current modus operandi and business model is obviously not sustainable. Indeed it is not viable even in the short run. What if the US authorities reduce the cost of the existing facilities and dole out a further $200 billion or so to see them through to Thanksgiving? AIG will no doubt be back for another $200bn when the turkeys have been digested, to see them through to Christmas. This is getting very silly indeed.
There are two viable options. The first is to put AIG into receivership immediately. It has quite a lot of viable businesses (anything that did not touch CDS and complex structured products). The currently commercially viable bits could be sold off severally or jointly or re-launched as going concerns. The rest could either be liquididated or taken into public ownership and operated that way until a decision can be made about the private commercial viability of the publicly owned bits when order returns to global financial markets, in a year or two.
The authorities (the State of New York Insurance Department is the regulator of this global insurance giant!) have had at least a couple of months to prepare for a possible bankruptcy protection filing by AIG, so this should not come as a surprise and there should be a contingency plan ready for use.

The size of AIG’s balance sheet ($ 1 trillion at its peak, probably rather less now) looks less awesome now that governments all over the world are guaranteeing private liabilities and funding capital injections worth multiple hundreds of billions and even trillions of dollars at the drop of a hat.

No doubt a lot of CDS contracts written on AIG debt would be activated by a default, but the aftermath of Lehman’s filing for bankruptcy protection demonstrated that the process of unwinding and settleing the CDS claims was remarkably orderly and much less destructive than feared. The Conservator for AIG (or whatever the Administrator of AIG’s insolvency regime is called) should be given a public mandate not to liquidity assets in a hurry, so as not to intensify the vicious spiral of illiquid asset fire-sales, further asset price declines, margin calls, further forced liquidations of assets and further price declines and deepening market illiquidity and funding illiquidity.

The second viable option is to take AIG completely into public ownership. The government already has 79.9 percent of the equity. I believe that any increase in that government ownership share would trigger a technical default on some of the outstanding CDS taken out against an AIG default. It such is the case, so be it. It may seem that, with the government already owning almost 80 percent of the equity, the orginal $85 bn facility is largely the US Federal Reserve making an expensive loan to the US Treasury. That, however, is incorrect.
By keeping AIG technically solvent, the bond holders and other senior unsecured creditors of AIG are kept current on interest and principal. AIG’s debt sells at a steep discount relative to US Treasury bills and bonds, reflecting the market’s perception of its fragile solvency. If the government were to nationalise AIG now, while it is still technically solvent and a going concern, the senior unsecured creditors would all be made whole - AIG’s debt would effectively become US Treasury debt. Saving AIG’s unsecured debt holders and other unsecured creditors would be unfair. It would also be a terrible distortion of future incentives, by encouraging reckless lending to large financial institutions - institutions deemed to large, to interconnected or too politically well-connected to fail. It would be the mother of all moral hazard.
Here we run again into the incomprehensible fact that, almost 15 months after the start of the crisis, the US Federal authorities have not yet created a special resolution regime (SRR) with prompt corrective action (PCA) powers that would allow a duly appointed Administrator or Conservator to take any systemically important institution into Administration/Conservatorship before the normal tests for insolvency (balance sheet insolvency or liquidity insolvency) have been met. The Conservator would replace board and management and suspend the voting rights and other decision rights of the shareholders. No dividends, share repurchases or other transfers of resources to the old shareholders could take place while the Conservatorship is in effect. The Conservator should be able to impose charges (haircuts) on all unsecured debt holders and other unsecured creditors, regardless of seniority. The Conservator would also be able to impose mandatory debt-to-equity conversions on all unsecured creditors and debt holders, with or without first extinguishing the equity of the old shareholders. The Conservator would have full authority to sell assets and to restructure the balance sheet and the activities of the business in any way deemed appropriate and lawful. Finally, the Consevator would have the power to liquidate the company.
No SRR with PCA powers was in place for investment banks. So we were treated to the disgraceful spectacle of Bear Stearns’ last-minute sale to JPMorgan. Bear Stear’ demise took place 7 months into the crisis, so perhaps the authorities had not yet woken up to the fact that an SRR for investment banks might be a good idea. No such excuse was on offer, however, when Lehman Brothers hit the wall in September 2008, more than a year after the start of the crisis. The Treasury, the SEC and the Fed have failed miserably to get the appropriate regulatory framework in place. And we know what an SRR ought to look like: the FDIC has adminstered one for years for the federally insured commercial banks.

When it became obvious that AIG too was too large or too interconnected to fail, the SRR net should have been extended to AIG also. Surely someone in a position of responsibility in Washington must have a little list with the names of the systemically important financial institutions? There has to be an SRR with PCA powers for all these institutions. There is no excuse for the absence of such a regime for all financial institutions except for commercial banks.
In the absence of a proper SRR for AIG, nationalisation of AIG threatens to make all unsecured creditors whole. That would be disastrous for medium and long-term financial stability. I very much hope a way will be found to impose a charge/haircut on all unsecured creditors if AIG gets nationalised completely. I also hope that, if the authorities decide not to nationalise AIG completely at this stage, they will still succeed in making the senior unsecured debt holders and creditors of AIG pay a hefty price for this undeserved financial support."

Put simply it's sink or swim time someone has to make a decision regarding AIG, the tax payer does not possess a bottomless pit of money, the $700bn bailout plan by Mr Paulson has attracted other businesses apart from banks, with the Auto makers expecting help who and what else is next? The Government simply cannot afford to save all companies.

1968 - 2008 40 Years of Change

To my family and friends who live in the United States we here in Europe this United Kingdom celebrate with you the election of president elect Barack Obama and as you usher in a new era of change, hope and leadership let me pray that all, not only Americans will benefit from his government.

I am not going to go all political but what opened my eyes to America and her period of unrest was 1968 the assassinations of Dr King and Bobby Kennedy I was eight years old and have never forgotten the ITN news bulletin of these slayings. Furthermore I had family who lived in the South and when old enough I wanted to see for myself Birmingham Alabama, Atlanta Georgia and gather up for my understanding the historic significance of these places and people.

So fast forward 40 years and we have a black man elected president in America. America a country we were told was so racist and intolerant to people of different colours that they have produced Senators, Congressmen and women, doctors, astronauts, bankers, CEO’s, Pilots, teachers, scientists, celebrated sports stars and actors and now a black president. What do we have to show in the UK and Europe as a whole?

I want to say we are living in such an interesting time filled with technological advances, medicine advances, artificial intelligence, Jets that travel faster than sound, MP3 players Plasma and LCD High Def screens, music downloads, email, internet can we keep up? everything changes so quickly and if you blink you miss it, but we are also living in changing political times, Russia, China and the Middle East are now more dominant have extreme wealth and natural resources. Presiden Elect Obama's work is Geo-political, dealing with a multitude of challenges.

The road ahead is of uncertain terrain, a road that has not been mapped, a road with twists and turns then straights with unfamiliar markings.

My challenge to my family and friends is to keep moving, keep evolving, educate and motivate travel and see the world if you dream it you can achieve it. What happened in America on November 4th 2008 has reverberated around the world President elect Obama takes office January 20th 2009 and I plan to be in DC to witness this historic moment lets wish him the very best and success to the start of his presidency.

We truly are living in exciting and uncertain times.

God bless you all,
Eric

Not worth the paper it's printed on

Wow I am back 6 months later and a lot I wrote about has come true, but who would have guessed this financial economic mess would be this bloody? Bear Stearns, Merrill Lynch, Lehman Bros, Wamu,Wachovia, HBOS, Bradford and Bingley all gone and a footnote in history. Billions of dollars written down and sadly now a $700bn bailout for Wall Street led by the clueless Hank Paulson.

I am not going to dwell on the causes of this crisis but will add that when this broke in August 2007 the lie by the media was that poor broke bad credit people were the cause. Nothing could be farther from the truth what about the guy who has two more properties and just carried on borrowing and stacking up debt on overvalued mortgaged to the hilt property? A economy built on debt cheap money, greed and more greed. The sooner we move away from Fiat currency and into Gold and Silver the better many of us will become.

Let's look at Fiat Currency what is it?

The terms fiat currency and fiat money relate to types of currency or money whose usefulness results, not from any intrinsic value or guarantee that it can be converted into gold or another currency, but instead from a government's order (fiat) that it must be accepted as a means of payment. The Central Banks can create inflation and other economic imbalances as the money they create has no backing ie Gold or Silver. Put in a nutshell the dis-advantage of Fiat money is that the Central bank can print as much as it likes this is a blessing and a curse as it normally leads to inflation or hyper-inflation (take a look at Zimbabwe) Where as with Gold it cannot be duplicated and is in limited supply.

So where do we go from here? The Dow like the most people's houses in America and Britain is still overvalued. There is a bigger fall to come and any banking bailout can only delay the inevitable. The underlying problem is that America's housing buble burst, making the mortgages beneath it untenable and sending the US economy into a tailspin. Buying off the banks does not address the issue; it merely removes $700bn that could have been spent on a proper stimulus package.

The dark truth about the US economy is that it doesn't benefit most people. That growth you always hear about means nothing to most of the population for whom wages have not risen since the 1970's

How many of you have read " The Dollar Crisis"? If you really want to get a true understanding of what is happening you must read this book. As McCain and Obama battle out the election campaign whoever wins will have very little room to move what great plans they both had for the Country will have to be scaled back simply put this generation and generation to come have been mortgaged to the hilt it will take years to un-ravel this almight mess.

I am going to check out my pension portfolio and seriously look at adding Gold and Silver.

Bear Stearns, Bernanke and the Economy

Dear All, it’s been a while since my last input but I did forecast this meltdown didn’t I as we bounce around from one crisis to the next. This crisis since August 2007 still has some way to go already some experts predict we are at the bottom of crisis but I say no way we still have a way to go investors are spooked and fortunes lost. Banks simply are not lending to each other fear of the unknown is the main factor right now plus the Federal Reserve stoking inflation flooding the market with liquidity is one thing but what the Fed is not providing is capital and boy do some of these banks need capital as the Sovereign Wealth Funds sit back and survey the inflation problem the Federal Reserve is creating. Yes the markets love the rate cut and rallied but this is a false dawn. Last week we heard Bear Stearns was in trouble and the Fed injected $200bn of liquidity the markets responded well and we were told all is well at Bear Stearns, well the rest is history, today the market again rallied but this is short term all the Federal Reserve has done is stick a band aid on a huge wound which won’t stop bleeding it’s simple folks it’s all short term what about the long term who is going to take all these assets bought by the Fed? Simple the tax payer but this is only part of the story the total the Fed can hold on it’s balance sheet is $800bn, it has already pumped into the system $400bn so what about the next crisis? The Fed has limits and can only do so much right now inflation is not its major concern but they are storing up problems for the long term.

Has JP Morgan Chase stolen Bear Stearns? Did the Federal Reserve force Bear Stearns to accept JPMorgan’s all share offer of $2 per share at a rock bottom price. Whatever the reason JP Morgan Chase have them selves the bargain of the century. The deal will cost JP Morgan in total around $6bn this is made up of severance pay and retention to waves of litigation and asset writedowns. But my concern is that Bear Stearns wanted a $30bn loan from the Federal Reserve over 9 months but as the Fed were in control of the situation they forced the merger of Bear Stearns with JP Morgan this has opened up investigations by the SEC that some funds shorted Bear Stearns and circulated the rumour of liquidity problems, Bears could not sustain the run on the bank over 3 days and went hand in cap to the Fed.

Things were already bad at Bear Stearns they were heavily exposed to the troubled US mortgage market and unlike many of its peers; it had no deposit business to offset its losses. The bank also was a heavy lender to hedge funds, some of which have collapsed in recent weeks after losing money on mortgage-related investments. Senior managers made mistakes and should have sought capital injections earlier but whilst dealing with the Chinese for capital inflows talks took longer than expected.

So what now for the US economy do we have another bank on the verge of collapse?

My concern now turns to the currency markets with the dollar at all time lows against major currencies and these sovereign wealth funds sitting on huge dollar reserves it is only a matter of time before they start dumping the dollar stating enough is enough as they themselves import inflationary pressures. Bush’s fiscal tax stimulus won’t take affect till the summer and even then consumers will probably pay down on debt and not spend as expected, Bernanke risks higher inflation and a weakened dollar however at the back of his mind must be zero interest rates will America follow the path taken by Japan and enter an era of deflation?

Federal Reserve Fueling Inflation

Its official The Federal Reserve under Ben Bernanke has made it clear the priority is to "support growth" by cutting interest rates as needed at the expense of rising inflation in the US economy. So the Fed has weakened the US dollar, printed more dollars to fund the Iraq war which has led to an increase of the money supply added to this Bush's fiscal tax cut, and a President out of step with reality as the consumer is hit with high energy prices and rising food costs. The Dollar this week has taken a pounding due to the dismal economic news coming out of the economy, the dollar against the Euro has for the first time breached €1.50 to the greenback also the Yen is at a three year high. The weakened dollar may help the trade deficit but it is storing up problems for a pro-longed down turn in the US economy as inflation takes hold.

My major concern as aired before is that the US is headed for a period of Stagflation this was backed up by a report in the FT dated Feb 20th. Also the "Market Oracle" has this to say,

"The Bernanke Fed's aggressive rate cuts have doing more harm than good for the US economy, by leaving the US consumer with slumping home prices on the one hand, and soaring food and energy prices on the other hand, otherwise known as the “Stagflation” trap. According to Bill Gross, chief investment officer at Pimco, the Fed's rate cuts of 2.25% since September have not brought mortgage rates lower, with the Fannie Mae 30-year mortgage rate stuck at 5-3/4 percent. “Here is the startling point, the markets that the Fed is trying to affect haven't changed,” he said. Gross thinks the housing downturn is still in its early stages, and expects a 20% decline in total. “A 20% decline in housing prices is confidence destabilizing, its credit imploding,” he added. And how long can US Treasury yields stay under the exploding rate of inflation, or negative rates of interest?

Commodities investment guru Jim Rogers said on Feb 25th, “the Fed is printing money and are trying to prevent the recession, they are putting on Band Aids,” he told an investor conference in Dublin, Ireland. Rogers added, “as long as the US central bank and the federal government keep making mistakes, you will have a longer period of slowdown, and it will be perhaps, one of the worst recessions we have had in a long time in America,” Rodgers predicted.

Put simply the printing of money then having that money injected into the money supply will cause inflation, but with falling house prices, a weak currency and consumer confidence at a all time low we need to be prepared for this recession, Stagflation and then possibly deflation to be around for some time. Reckless economic policies by the Bush administration is at the core of this major crisis. As Bernanke lowers interest rates the credit markets tighten lending it has a knock on affect to all corners of the economy. If you are smart enough to see what's going on you will sense that the inflation rate as published by both the US and UK central banks is a lot higher to what's being said. We can feel it in our pockets every time we shop at Tesco's or Sainsbury, transport costs have also risen is UK inflation really 2.1% I think not.

UK Banks have announced they have written off over £6.8bn in individual household debt as families struggle to meet repayments also mortgage loans approved in January 2008 totalled 74,000 the second lowest since 1999.

As Gold edges to $1,000 oz it shows investors are truly worried about the world economy and inflation, Oil was up this week as high as $107 a barrel, Platinum, Wheat, Soybeans,and Iron Ore .

I am worried that neither Hilary, Barack or Senator McCain have a clear plan for the US economy, as many will be looking for a leader to announce clear and concise plans of how to get back on track.

I expect the BOE and ECB to keep interest rates on hold as inflation this side of the Atlantic is a major concern.

US Debt and Inflation

January 2009 America will inaugurate its 44th President. The pressures of being the leader of the world's superpower is a huge one but consider this. George Bush would have left behind a legacy of debt and deficits that will constrain his successor. Those planned tax cuts and social programmes will be nothing more than dreams for it will take more than 8 years to undo the damage heaped on the United States economy by spendthrift Bush. In 2001 he inherited a surplus that could have helped pay down the $5 trillion federal debt. So Bush's $3.1 Trillion dollar budget will see military spending increase by 5% at the cost of medicaid, social security,medicare and a host of social programs. As the graph to the left depicts America under Bush has surely lived beyond her means. So as America moves into Recession and probably Stagflation just who is to blame? Without a doubt the economic policy makers in the Bush Administration the policy of spend and print has wreaked havoc on the economy. You can also add to this a weak dollar that the administration has allowed to weaken over the years. On the lips of the Central bank is the worry of inflation and god forbid Deflation and not growth both Greenspan and Bernanke are guilty of being yes men putting political idea logy before commonsense economics and the folly will continue for the foreseeable future.

Some weeks ago I warned about the impending dangers of Inflation, as the Central banks flood the markets with liquidity the real danger is that the Pound and Dollar in your pocket is worth less. Inflation erodes wealth your purchasing power is diminished as prices increase and your wages remain stagnant.

Why is inflation a problem?
Not for the reasons most people think. It may be tempting to say, "because everything is more expensive," but that is not it. Deflation can actually be just as damaging as inflation. The problem with inflation is one of redistribution: inflation makes some people worse off, but it makes others better off. This redistribution is due to three effects:

Price effects. As the average level of prices increase, some prices increase faster than others, so some people are more affected than others. The increase in gasoline prices in the summer of 2000 hurt truckers a lot, but barely affected people who live close to work and drive economy cars. College tuition has risen almost twice as fast as average prices over the past 20 years, which hurts you a lot, but may have little impact on a married couple with no children.
Income effects. Prices for goods and services mean incomes for someone else. So as some prices increase faster than others, some incomes increase faster than others. Oil companies posted record profits in the summer of 2000.

Wealth effects. Inflation redistributes income between borrowers and lenders. Suppose you borrow $100,000 for a 30-year mortgage at 7% interest, giving you a monthly house payment of about $665. During the next 30 years, as prices rise, that $665 buys less and less. So as a borrower, the real value of your house payment declines. Thus a borrower may gain from high inflation. The lender however, receives $665 per month, so the lender loses. If inflation is high enough the $239,400 the lender receives in loan and interest repayment over the next 30 years ($665 x 12 months x 30 years) will be worth LESS in real terms than the $100,000 the borrower receives today. Inflation hurts lenders but benefits borrowers, especially if it is unexpected. So the Wall Street banker is much more worried about inflation than Joe Average with a mortgage and a car payment. The costs of inflation go beyond redistribution, and have negative implications for the economy as a whole. If inflation is low, the effects may be small. But in periods of high inflation, known as hyperinflation, the negative effects will cripple an economy. What are the macro implications for inflation?

Uncertainty. Future prices are unknown, making it difficult to plan investment and consumption decisions. This means that some production will not be undertaken because firms are not certain about profitability.

Shorter time horizons. Due to uncertainty over prices, firms and consumers are less willing to commit to long-term plans, like a 30-year mortgage, or building a new housing development over 10 years. Again, production falls due to uncertainty.

Diverting resources from production. When inflation gets to be very high, firms and consumers spend more time and resources trying to avoid inflation, and less time on productive activities. For example, in Germany in 1923, prices doubled every week. Workers would be paid several times a day, and would immediately rush out and spend their wages. People had to bring wheelbarrows full of money to buy one loaf of bread. All of this results in time and resources being devoted to inflation-related activities instead of the production of goods and services. So inflation not only redistributes income, it also reduces the growth of real GDP which has negative implications for employment and standard of living for everyone.

The Bank of England has set in place a target of 2.1% for UK inflation and will act accordingly o make sure the UK economy stays within these parameters, the ECB also pays attention to inflation and will do what it takes to keep in check the inflation rate. The Federal Reserve on the other hand has deep and widening problems with the US economy and are using interest rates and fiscal stimulus to lessen the blow of the recession in the US. Other counties who have vast holdings of Dollar reserves are also worried about inflation and will dispose of the US currency to lessen the impact.

The Dollar versus Gold? There's no contest
I have been very bullish on Gold for several months and if you check my past blogs you would have seen the price of a ounce of Gold steadily rising, now approaching $1,000 per ounce what is really behind this increase. Well several factors the scarcity of the precious metal, China and India's insatiable appetite for Gold (demand) the world losing confidence in all the currencies issued by central banks but particularly in the dollar. America's huge trade deficit with the world and attitude to do nothing about it. As this decline continues the demand for Gold will increase as more and more Chinese and Indians will hoard gold as a store value of wealth as well as a hedge and safe haven against inflation. The Americans have abandoned the notion of safe money and are suffering from years of easy credit and living beyond one's means, Gordon Brown on the other hand must be kicking himself after disposing of half the UK's gold reserves at about the a third of the present price. There's also the supply problems in South Africa so where next for Gold? How about $1,000 per ounce by year's end you heard it here first.

On closing I keep getting asked what should I do where do I invest? Well I would advise you to seek advice from a qualified financial advisor but I will add the following:

Eliminate your debts- the ones that charge the highest interest
Live within your means
Adopt the discipline of saving - The US and UK are suffering a savings crisis.
Invest wisely
Own the home you live in (if you can)
Think long term

Until next time-stay in touch

What's Bernanke's game plan?

The Federal Reserve moved aggressively for the second time in eight days to lower interest rates and signaled it was ready to do more as needed. But was is Ben Bernanke's game plan for the US economy? Agreed he and the Fed are worried about Recession, the housing market and the credit crunch but I can't help thinking all this short-term tinkering will only make things worse. About a year ago Bernanke was worried about the threat of high inflation in the economy but by cutting rates so aggressively he has opened the door for high inflation and the dollar to take another pounding against major currencies. My worry about Ben Bernanke is that he never seems to disappoint the markets, he always seems to cave in and bows to market pressures he is also treading a fine line and copying monetarists policies from the 1970's that caused havoc on economies and markets, time for Bernanke to "Man up" and not be Mr predictable. The reaction to the rate cuts were as expected dollar weakness and a rise in commodities but if the Fed are so aggressive to cut rates should inflation be a problem will they raise interest rates? Are they really worried about inflation well those countries holding large reserves in US dollars are probably weighing up when is the right time to dump dollars. For all Mr Bush's talk about the resilience of the US economy the basic fundamentals are not quite right, a weak currency $9 trillion dollars in debt, slow growth and rising unemployment all caused by years of bad economic policies and it will take years to put right by the new President.

Let's take a look at what's happening in the UK as house prices fall and mortgage approvals fall to a 13 year low. Bank of England figures show that 73,000 new mortgages were approved down from 117,000 in December 2006- a 37% drop. All this centres around just how much lenders are willing to risk as the credit crunch bites. As sub prime write downs hammer the banks balance sheets the assets (Houses) held by the banks are worth less as owners default and will hardly repay what they have outstanding. Many owners crippled by huge debt are struggling under increased energy prices, travel and food prices whilst salaries have failed to keep pace with rising costs inflation really 2.1% I think not. Meanwhile independent experts think the UK Govt will raise taxes to fund a £8bn shortfall you would think with the rising prices in Petrol and the amount they skimp off us tax payers they would have enough money in the kitty, surely the UK tax payer cannot take anymore?

Over the next couple of days the spot light will be on the Bond Issuers as rating agencies begin down grading their assets. MBIA and Ambac in particular will probably announce huge losses from exposure to residential mortgage-backed securities and collateralized debt obligations (CDOs)

More bad news emerged late Wednesday when Standard & Poor's downgraded hundreds of billions of dollars of sub prime mortgage-backed securities and CDOs. That was the largest number of ratings actions S&P has taken in the sub prime mortgage market so far, exceeding big downgrades in July.

Are we witnessing the unravelling of the Western Financial system? As we end the first month of 2008 I predicted that this year would be rough but I never expected so much so soon. Now is not the time to panic but we can already see we are in for a very difficult year.

Until next time...........

Why we are facing the biggest crisis since 1929

I have just come back from a trip to the United States I was in the state of Maryland (Baltimore). However not content on seeing consumer reaction to the problems in the US I also travelled to New Jersey and New York to see further proof that we live in two worlds.
World one is the daily hustle and bustle of Wall Street and the FTSE where stock and shares are traded and we continually get sound bites that all is OK this will just be a slight recession with recovery in a few months. World Two is where you and I live where we do daily battle with inflation high transport and energy costs and where food prices just keep rising. You see the financial experts and politicians just don't have a clue what is going on. On my recent trip I did notice most Americans are careful with money as the credit crunch bites. They are more concerned about the housing market, and high energy bills a severe winter will really test American resolve. More Americans are going to the cinema, buying and playing video games and ordering take out (Pizza, etc) you see they simply don't have it as most are saddled with high debt and are juggling car and house payments.

So what now for the Fed the US economy and us here in the UK? Well the 0.75% cut in US rates last week was Mr Bernanke bowing to market pressure the Federal reserve simply don't have the luxury of a Budget surplus or increased production capacity putting it mildly they are screwed. A Huge budget deficit currently around $9 trillion dollars, a weak dollar and inflation at 4.1% the highest in 17 years money men and markets have abandoned basic economic fundamentals. The Fed is willing to gamble with inflation and the possibility of deflationary pressures. The Fiscal policy of the Bush administration have now ordered a tax cut that will give the average family $800 but by time the IRS gets around to issuing the cheques we are looking at May/June 2008 probably to late for any impact on the economy. But hang on if the Federal Reserve decide to cut rates again on Jan 30th by .50 - or 0.75% percent points it would be reckless and open season on already weakened dollar. As I have mentioned above the US are only giving lip service to these major macroeconomic problems. They have been in denial for years as they have abandoned the basics of home keeping.

The US and UK have common problems large current account deficits and weak currencies they simply don't have the room for much tinkering with the economy. Mervyn King at the Bank Of England will have to carefully look at how he will order interest rate cuts that have already been factored in by the markets, my major concern is the lack of honesty by Gordon Brown as the UK battles a general slowdown and affects caused by the sub-prime crisis and the credit crunch. Is the inflation rate in the UK really at 2.1%? I suspect higher for these figures are open to government manipulation. Whilst the Fed is willing to gamble with inflation and probably order more rate cuts I think due to the nature of the English and ECB they will be more caution around rate cuts. The Bank of England will probably take into consideration its reputation and won't bow to retail and market pressure it's time for someone to stand up and take on the markets and all the money men.

The US has been exporting inflation for years and as these Sovereign Wealth Funds build up huge reserves of US dollars (currently £2,100bn) they watch as the US crumbles under a crippling debt pile picking and choosing where to invest with US banks being the benefactor of over $25bn of foreign funds to shore up damaged balance sheets.

It will get worse if the US and UK release monetary controls and flood the markets with dollars and pounds what this will lead to is higher inflation and more importantly the currencies losing value it will erode the value of these currencies for us as consumers. The dollar may be on it's last legs as the currency of value around the world for all the nay sayers who ridiculed Gold who is having the last laugh now? With basic economic principles simply not being followed it's time to bid farewell to the money men and markets and seriously consider where to put you hard earned savings.

Read more for yourself why we are facing the biggest crisis since 1929, you can do no wrong by buying a copy of" The Dollar Crisis" by Richard Duncan

More worries at Citigroup

Hello Readers,
9 days into 2008 and so much activity in the markets and the economy. Gold once again hits the highs closing tonight at a all time high of $881.50 an ounce this equates to about £448 if you have not gotten into gold what are you waiting for it's not that far off from $1,000 an ounce. I have been writing about gold for months and would urge you to adding some to your portfolio here's why:

Gold's long-term fundamentals leave little room for interpretation:

• Production supply problems have emerged, speculative demand is surging...
• Crude oil prices show no signs of cooling off...
• The US dollar is being bombarded, along with continued fear of inflation.

I could be looking at $1,000 per ounce of gold in the very near future.

Of course, profit-taking always remains a risk for the gold market in the $800 levels. However, keep in mind that most analysts on the street expected a significant profit-taking correction at $720 and $750 and again $780.

Gold, simply put, is under-valued, under-owned and under-appreciated. And it most assuredly is not well understood by most investors.

Now to Citigroup the United States biggest bank may be forced to writedown $16 billion in the fourth quarter and post a larger loss than previously estimated, Merrill Lynch analyst Guy Moszkowski said.

Moszkowski almost doubled his estimate for Citigroup’s loss to $1.43 a share, from 73 cents, in a note to clients on Tuesday. Moszkowski, the top-rated US bank analyst according to Institutional Investor magazine, maintained his ‘neutral’ rating on the New York-based bank.

Sanford C Bernstein and Goldman Sachs Group have also cut their estimates for Citigroup on concern the bank will mark down some of its $55 billion of subprime and collateralised debt obligation holdings. The US subprime-mortgage defaults have forced financial institutions to announce about $100 billion of asset writedowns and losses on bad loans.

I expect significant writedowns from Citigroup (Jan 15th Q4 announcement) and Merrill Lynch (Jan 18th)sad to announce that Merrill Lynch has already started redunancies at the company as the losses continue and the credit crunch continues.

Tomorrow all eyes are on the Bank of England as they decide whether to cut UK interest rates or hold them. With what has been a disappointing Christmas for retail sales the economy has slowed as consumers reign in spending but spare a thought for BOE officals for the decision won't be easy.The BOE will want to show it still is concerned about rising inflation bought on by high oil prices, rising food prices and just about most items going up in price. So who are calling for the cut in interest rates? Most retailers are just take a look at the sales figures for M&S in the 13 weeks to the end of December, M&S like for like sales in the UK slipped 2.2% shares sank 89p to 414.5p wiping £1.5bn from the company's market value. I beleive the BOE will hold rates tomorrow and until February before adding to December's cut.

The sad thing about the banks they don't always pass the rate cut on to mortgage holders they are not obliged to and some of them argue that the cost of their own borrowing on the money markets remain so high that they can't afford to slash standard variable mortgage rates.

The pound has also lost ground to the dollar and Euro as the prospects of lower interest rates and a slowing UK economy worries investors add to this the credit crunch and stricter lending by banks that affect mortgage and credit card applications that will lead to a slowdown and a fall in housing prices as embattled owners take on higher energy prices and general living costs, consumer led recession a possibility? Yes.............

Hello 2008

HAPPY NEW YEAR AND A PROSPEROUS 2008

Well here we are 4 days into 2008 and already we have oil at $100.09 a barrel, Gold at a record high of $869.10 and possibly going higher why what's going on? Well with turmoil in Kenya after dodgy elections, the death of Benazir Bhutto in Pakistan and sabotage in Nigeria around it's oil facilities investors are again heading for the safe haven of gold that has returned 31% over 2007, compared to 6.4% if you invested in the US stock market.

2008 promises to be a very interesting year with tight money (credit crunch), more fallouts from the sub-prime debacle, a US presendential election year, a slowing housing market, rising commodities the rise and rise of sovereign wealth funds, rising oil prices, high food costs, inflationary pressures and the real chance that the US will plunge into recession. I have general concerns for all of the above as many are trying to ignore the cold facts and spending money they don't have with no care for the consequences.

What we will see in 2008 is more bank writedowns amongst the major banks namely Merrill Lynch and Citigroup. Many banks are having to turn to Sovereign wealth funds for additional cash injections as the major source of cash tries up, many banks are still wary and are sitting on huge reserves despite the intervention of the central banks.

Both Merrill Lynch and Citigroup report Q4 figures in January so look out again sadly for huge bank writedowns expect anything between $6-10bn writedown for Lynch and a further $5-10bn for Citigroup.Dates for reporting are:

Citigroup 15-Jan US FY2007 Q4 Earnings

Merrill Lynch 18-Jan US FY2007 Q4 Earnings

Deutsche Bank AG 07-Feb DE Preliminary Final

Credit Suisse 12-Feb CH FY2007 Final Earnings

Expect the Federal Reserve to cut interest rates but they have a fine balancing act with the prospect of higher inflation for the US economy, the Bank of England are also under immense pressure to cut rates in the UK as figures from manufacturing and retail sales show a general slowdown in the UK economy coupled with this high oil and food prices, above inflation travel costs for season tickets and the real threat of high inflation currently at 2.1%

Oil prices will continue to rise despite OPEC probably agreeing to increase production, tensions around the globe, low US oil stocks and the chances of a frigid US winter will raise prices added to this demand from China and India.

So what about Gold, Silver and other metals? Yes they will rise many investors will look for a safe haven as the dollar has lost it's sheen and vigour. Gold has already hit a 27 year high trading above $850 a oz and many experts will tell you by year's end we could be looking at $1,000-$1,200 a oz. Silver and Platinum will also see gains due to demand from manufacturers and emerging economies it's never been a better time to invest in gold it's a good hedge against inflation and seen as a wealth creator so get in now.

Now to the presedential elections it will be close but whoever wins will have a major job to turn round a ailing economy, address issues around immigration, the Iraq war and a general concensus that the US is up for sale. With the problems surrounding the banks and liquidity sounds are already being made about the amount of foreign money buying american assets . Such is the power of these wealth funds estimated to be worth in excess of $12 trillion dollars they will become the drivers of asset prices in 2008 expect more dramatic bailouts this year who said macroeconomics isn't fun?

On closing is China a bubble waiting to burst?