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INTEREST RATES ON THE RISE - WELCOME TO DEBT TRAP TERRITORY!
"There has always been a large buffer between the level of our federal debt and our capacity to borrow, but that´s disappearing now. I´m finding it very difficult to look into the future and not worry about that."
~ Alan Greenspan, former Chairman of the Federal Reserve, in a recent interview
Dear Mountaineers,
As the prospects for the global economy appear to brighten, we should not forget a new financial burden lurking ahead: a sustained period of rising interest rates. After more than three decades of decreasing interest rates, the interest rates of G7 countries have hit rock-bottom and are starting to rise. In America, the epicenter of the global easy money conundrum, rates are also starting to turn upwards - visibly, for all to see.
Some might consider this a welcome sign of recovery. Others see it as the inevitable outcome of a nation´s ballooning debt and the renewed prospect of inflation as the economy surfaces from the depths of the recent recession. A few will recognize this for what it is: a bad place to be. We have termed this "place" the Debt Trap and have warned our Mountaineers of its implications several times over the past year.
No matter which way you look at it, one thing is for certain: financing the growing public debt burden is rapidly growing costlier.
Interest rates surge as demand for US debt fades
Like Greece, the US too is finding it increasingly difficult to place their Treasury paper in open markets. Interest rates have surged in the bond markets in the last few weeks after government debt auctions drew only tepid demand.
In October of 2008, at the height of the ‘Lehman crisis´, US Treasury 10-year paper closed above 4.00 percent. It has not done so since. On the same day, the Fed cut its funds rate to 1.50 percent. On December 16th, 2008, the Fed completed their rate cuts by fixing the fed funds rate at 0.00 - 0.25 percent.
On March 22nd, 2010, President Obama signed the ‘health care´ bill into law.
On March 23-24, the yield on Treasury 10-year paper bolted upwards by almost 20 basis points (0.20 percent) to 3.88 percent, its highest level since October 2008. This was in the midst of yet another record week for US Treasury auctions of its debt paper. Ominously, the "bid to cover" ratio was the lowest in at least half-a-year.
The disappointing turn-outs at these auctions raises the prospect that investors´ appetites could be waning for Washington´s IOUs. It´s very simple logic: When demand for debt drops, the government is forced to pay higher interest rates to attract investors.
The drop in demand has sent yields charging higher. It also soared higher on the benchmark 10-year Treasury note maturing in February 2020. That could translate to higher costs for consumers because the 10-year yield is linked to interest rates on mortgages and other consumer loans.
The rate for a 30-year fixed rate mortgage has risen over half a point since December, hitting 5.31 last week, the highest level since last summer. Along with the sell-off in bonds, the Federal Reserve halted its emergency $1.25 trillion program to buy mortgage debt, placing even more upward pressure on rates.
The shift will come as a shock to US consumers who have developed spending habits that were shaped by the historic 30-year decline in the cost of borrowing. Americans are only just now realizing that the pendulum swings both ways. It was a great party -- a credit feeding frenzy on the way down. How will the American consumer handle the way up? How will the mortgage markets handle it? What will happen in the commercial real estate sector?
The years of "simple" QE-policies (quantitative easing) are over
Quantitative easing and low interest rates -- or, as we like to call it,
easy money policies -- have allowed for easy financing of the growing public debt load. In America, a growing share of public financing over the past years was done with short-term Treasury paper rather than the traditional long-term approach. The US Treasury moved MORE THAN HALF (!!) of their total debt into the very short end of the yield curve.
Obviously, this was done to minimize interest expenses. However, as a consequence, a huge load of this debt needs to be renewed, or "rolled over" under the prospect of much higher interest rates in the next few months and years. In the next 30 months, the US has to ‘roll over´ roughly US$4 trillion! That is in addition to funding another US$3 trillion or so in additional annual deficits. It is doubtful whether this is even possible.
In the least, it should instantly raise the question of HOW this will be done. Well, while general finance and investing can be relatively complex and not very transparent, the response to this question is quite straight-forward: MORE EASY MONEY policies and HIGHER TAXES!
We are reminded of what former US President Ronald Reagan once said in a speech in 1981: Government´s view of the economy could be summed up in a few short phrases: If it moves, tax it. If it keeps moving, regulate it. And if it stops moving, subsidize it.
Yet, it appears to me that the years of ‘simple´ QE policies are over. As mentioned, interest rates are very low already. Furthermore, a number of things could go wrong. What if China and Japan stop buying massive quantities of Treasury bonds? What if Moody´s decides to downgrade America´s credit rating? Recently, the rating agency warned that government spending under President Obama is so out of control that it is seriously considering downgrading US Treasury bonds.
Yes, in the past, these rating agency threats were nothing but politically motivated fluff. These agencies are not the independent entities we would like them to be. However, if Moody´s were to downgrade America´s credit rating, the impact would be severe, both in America and abroad. It would confirm to fickle lenders worldwide that the US is no longer a safe place to invest, that the US dollar is no longer a solid and dependable store of value.
This would instantly increase US interest rates further, as investors would not be willing to accept US debt papers without an adequate return on risk. The dynamics of this process can be reviewed in the context of the Greek debt crisis, only that in the case of America and its Greenback, a whole different scale and scope needs to be considered. With certainty, a second financial crisis should be expected under such circumstances.
Is this really the time to pick a trade war with China?!?!
There were uneasy rumors -- none of which were developed on any kind of factual basis -- that the Chinese had either stayed away from the US Treasury paper auctions or had bought considerably less than ‘usual´.
In this context, and at least from a Swiss perspective -- a perspective accustomed to neutrality and diplomacy as a principle means of fostering and maintaining international relations (admittedly, lately to a degree that is clearly bordering on the pathetic - but that´s another topic for another day) -- one can only wonder about the audacity of US foreign policy, which appears to be working hard at picking a trade war and increasing currency tensions with China.
Over the past weekend, the Chinese commerce minister warned the US against the imposition of (further) trade sanctions over Beijing´s claimed currency controls. And as a probe designed to prick the US government where it hurts, he went on to say that China would likely REPORT A TRADE DEFICIT for March.
When asked for specifics on Chinese retaliation if the US imposes sanctions, the commerce minister said this: "If their reply is accompanied by trade sanctions and trade measures, we will not ignore it. If it is followed by any international legal lawsuit against China, we will take them on."
On April 15th, Mr Geithner and the US Treasury must decide whether or not to label China as a currency manipulator. Mr Geithner did do this in the very early days of the Obama administration, but has since ‘taken it back´ and has been careful not to mention it again. Many other Americans, such as Senator Schumer (see Inside the United States) have not been so fastidious. The Chinese will certainly be watching with interest...and so will we.
A client´s comments on this global debt bomb
As I was writing this commentary, I received an e-mail from a long-time client. His comments were made in reference to information provided by BIS and an article by Forbes. They provide for an excellent summary in reference to what we are discussing here.
We have very smart clients and I treasure this kind of input. Thank you Bob for these excellent thoughts and comments!
"Our examination of the future of public debt leads us to several important conclusions.
"First, fiscal problems confronting industrial economies are bigger than suggested by official debt figures that show the implications of the financial crisis and recession for fiscal balances. As frightening as it is to consider public debt increasing to more than 100% of GDP, an even greater danger arises from a rapidly aging population. The related unfunded liabilities are large and growing, and should be a central part of today´s long-term fiscal planning.
"(This is the off-budget problem: the unfunded liabilities. It is threatening the West. This is growing in the United States by at least US$3 trillion a year.)
"It is essential that governments not be lulled into complacency by the ease with which they have financed their deficits thus far. In the aftermath of the financial crisis, the path of future output is likely to be permanently below where we thought it would be just several years ago. As a result, government revenues will be lower and expenditures higher, making consolidation even more difficult.
"But, unless action is taken to place fiscal policy on a sustainable footing, these costs could easily rise sharply and suddenly.
"(And ‘kick the can´ is killing our future.)
"Second, large public debts have significant financial and real consequences. The recent sharp rise in risk premia on long-term bonds issued by several industrial countries suggests that markets no longer consider sovereign debt low-risk. The limited evidence we have suggests default risk premia move up with debt levels and down with the revenue share of GDP as well as he availability of private saving. Countries with a relatively weak fiscal system and a high degree of dependence on foreign investors to finance their deficits generally face larger spreads on their debts.
"(The US Government relies on foreign debt purchases of 44% to sustain its low interest rates.)
"Third, we note the risk that persistently high levels of public debt will drive down capital accumulation, productivity growth and long-term potential growth. Although we do not provide direct evidence of this, a recent study suggests that there may be non-linear effects of public debt on growth, with adverse output effects tending to rise as the debt/GDP ratio approaches the 100% limit.
"(When will the U.S. reach that 100% limit? By the end of 2011, we will be at 98% by the end of 2010.)
"(Be aware of a con job that the government perpetrates regarding this figure. It always quotes GDP as a percentage of debt held by the public, which is well under the total debt owed. This figure is in the 57% range. That is, the government does not count the debt owed to the trust funds: Social Security and Medicare. It simply pretends that these numbers are irrelevant, despite the fact the both trust funds are now in liquidating phase, and despite the fact that the government pays interest to these funds. The government simply defines away this debt whenever you see the Debt to GDP ratio.)
"(It´s fairly easy to estimate. The debt today is about US$12.8 trillion. US$ 8.4 Trillion public debt and US$ 4.4 Trillion ‘Intergovernmental´)"
Conclusion: the threat of a debt and currency collapse is still in place!
When it comes to the level of U.S. government debt, I hope all of our Mountaineers pay close attention to the amount of the government´s revenues that must go towards paying interest. As everyone who has ever paid a mortgage knows, carrying debts can become prohibitively expensive. In my opinion, the U.S. has more debt than it can afford. This puts it at an enormous risk of a debt and currency collapse.
If America can´t fund its debt in the bond markets, the Federal Reserve will once again be forced to monetize their deficits by buying Treasury bonds themselves. If that happens, inflation will soar. Your investment strategy must be prepared for this scenario.
Sincerely,
Your "Swiss Mountain Guide"
Frank R. Suess |
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DAVID´S GOLD UPDATE - GOLD SET TO RE-TEST ALL TIME HIGH OF USD 1,225 IN THE NEXT FEW WEEKS
"Hello out there. Have you been watching the price of gold lately?"
In dollar terms, the gold price is now about 5 percent below its all time high, but the weakness of the pound and the euro against the American currency means that the price of the yellow metal in sterling and Euros has just made new record highs. The price of an ounce of gold has reached record levels of £754 and €865 in recent trading, and the dollar price has reached a three-month high of $1,157. In August last year, the gold price in Sterling terms was £562, so British gold investors have made a profit of 34 percent, compared with a rise in the dollar price of 23 percent over the same period.
During the past week, the Euro was very volatile especially as the financial drama in Greece continued. As expected, the ECB left the main refinancing rate at 1% in April, and both growth prospects and inflation were largely unchanged from previous meetings. ECB President Trichet addressed questions about Greece´s deficit problem and said that ´default is not an issue for Greece´. Although the Euro edged up higher on Friday, the trend for the week has been down.
There were a lot of central bank events last week. RBA raised rates by 25bps to 4.25% as widely expected, and the BoJ and BoE left rates and the quantitative easing program unchanged. The FOMC minutes for March´s meeting unveiled the Fed´s dovish monetary outlook. While forecasts of real economic activities remained largely unchanged from previous meeting, policymakers were surprised by deceleration of inflation. At the same time, the Fed noted unemployment would be undermining recovery.
Nicholas Brooks of ETF Securities, which runs a gold exchange-traded fund, said: "The strong performance of gold, despite the strength of the US dollar, indicates that investors are increasingly viewing it as an alternative store of value, not just to the US dollar but to fiat [paper] currencies more broadly, as sovereign risks continues to rise.
"Traditionally, investors concerned about the structural outlook for the US dollar would buy euros, British pounds or yen. However, with policy and debt risks rising in all of these countries, investors - as well as central banks and sovereign wealth funds - are increasingly looking to gold as an alternative ´hard asset´ store of value."
On April 8th, the world´s largest gold-backed exchange-traded fund, SPDR Gold Trust, said its holdings hit an all-time high at 1,140.433 tons, surpassing an earlier record of 1,134.03 tons touched on June 1st, 2009. The rise in the ETF holdings to record reflects strong investor demand.
In my previous report I mentioned that the IMF had turned down a bid from Eric Sprott to buy the remaining 191 tons of gold on offer. Evidently, the IMF claimed that Sprotts desire to purchase the gold from the IMF did not comply with ‘protocol´, and that the IMF only sells gold to central banks. When Sprott explained what happened, he also mentioned that "I´m a 100% believer that central banks have suppressed the price of gold. I find it hilarious today that they have these programs to sell gold - it´s of no use. It´s one of the dumbest decisions in the last decade."
Recently I read what I believe to be another ‘shocker´ on gold on Commodity Online. According to the article, the last real audit of the U.S. gold reserves took place in 1954. And, according to the National Inflation Association (NIA), US gold reserves might not be as much as 8133.5 tons. What was even more disturbing is the following story from June of 2007, when Morgan Stanley agreed to pay $4.4 million to settle a class-action lawsuit with brokerage clients who bought precious metals and paid storage fees, when in fact it was alleged that Morgan Stanley wasn´t physically storing their gold and silver at all. NIA believes we may now have an epidemic of banks selling gold/silver they don´t have. If this isn´t exposed immediately, it could bring down the world´s financial system the NIA stated.
"We already know that the Federal Reserve´s bailout of Bear Stearns was done in part to keep silver prices artificially suppressed. It´s not out of the realm of possibility that our country´s gold reserves are being secretly sold off in order to suppress gold prices and artificially prop up the U.S. dollar," according to a NIA release.
In September, 2009, it was announced that Hong Kong was moving all of its gold reserves from depositories in London to a new facility built under the Hong Kong airport. This was a clear sign that Asian countries no longer trust the western world to manage their gold for them. "In our opinion, a COMEX and LBMA default on gold and silver is inevitable as investors around the world wake up and realize that we have a fractional reserve gold and silver system, and begin to demand physical delivery of their precious metals."
According to The Bank for International Settlements (BIS), sovereign debt is already starting to cross the danger threshold in the United States, Japan, Britain, and most of Western Europe, threatening to set off a bond crisis at the heart of the global economy. This will result in rising bond yields which in turn means falling bond prices. According to the BIS, "Monetary policy may ultimately become impotent to control inflation, regardless of the fighting credentials of the central bank."
In one of my previous reports, I mentioned that I believe that the only crash we are going to see is that in the financials. The only bubble about to burst is not going to be the Chinese economy, nor is it going to be gold as George Sorros had recently suggested, but it is going to be in US Treasuries as well as UK and European bonds.
Once again, in this kind of environment, it is prudent to protect some of your assets with gold. The best way to do this is by owing the physical metal, especially as there is more talk about the lack of physical gold and silver being kept in the various depositories especially in the USA and England. This can be done by acquiring gold bullion bars and gold bullion bars.
TECHNICAL ANALYSIS
The price of gold recently broke through a resistance level of USD1140 as can be see in the area encircled in blue. The long-term and short-term indicators are all positive indicating a potential move to the upside of at least another US$60 - US$80. This will be a re-test of the previous all time high. And, I believe that we will see this shortly.
~ Written by David Levenstein - Periodic updates and a bit of technical analysis on precious metals from our South African metals guide. David is the founder of Lakeshore Trading, Johannesburg, South Africa. David is an independent investment advisor/market analyst and a leading expert in precious metals. |
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RON´S PANORAMA - SECURE YOUR WEALTH: US TAXES ARE GOING UP!
Last week, Paul Volcker, a former chairman of the Federal Reserve, suggested that "The United States should consider raising taxes to help bring deficits under control and may need to consider a European-style value-added tax." This was followed by Federal Reserve Chairman Ben S. Bernanke warning on Wednesday that "Americans may have to accept higher taxes or changes in cherished entitlements such as Medicare and Social Security if the nation is to avoid staggering budget deficits."
Next, from the establishment news, "Nearly half of US households do not pay federal income tax". This isn´t breaking news as this has been the case for years. What gives?
The reason for all of this is to build support for a new tax, the VAT. We need a value-added tax or else the deficit will continue to explode, we will lose our Social Security and Medicare, and the only way to get the 47% who do not pay income tax to pay their fair share is a VAT. Get ready because after the 2010 elections, the Democrats & GOP will come together to promote a value-added tax on top of current income tax rates.
In addition, it was announced last week that the state of California´s real unfunded pension debts are actually 8 times greater than what was officially reported at US$500 billion. This is almost 700% more than all of the general obligation bonds of the state. Other states are in similar situations with retirement and health insurance. And now, GM and Chrysler announce that they are underfunded by US$17 billion and that the taxpayers will ultimately pick up the costs.
It is time to take off the blinders and see that most of the recovery is faked by using cash from the federal government which ultimately comes from us and our posterity. Nationalizing healthcare and the private retirement system is simply just ‘window dressing´ on the Titanic, as your wealth will be used to cover expenses and buy more time for the power elites ruling over us.
Next week, I´ll share a few thoughts on how the new taxes and bankrupt government retirement plans will reduce your wealth, and how to protect yourself from it. That´s my Panorama for today from "the top of Ron´s Mountain".
~ Written by Ron Holland - Economic, financial and social considerations for Americans, from an American, with a somewhat Swiss perspective. Ron is a retirement expert and consultant, who works out of Zurich and is a contributing editor to the Mountain Vision Newsletter.
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NEWS BRIEFS
UBS Affair - Swiss Government Buys Time in Handover of UBS Client Details to the USA
The Swiss Federal Council, despite considerable resistance in the Parliament, has amended its treaty with the US government regarding American clients of the Swiss bank UBS. The revised treaty, should it stay in force, would allow UBS to disclose the identities of 4,450 UBS clients accused of evading US taxes.
This decision allows UBS and its cronies to continue researching, snooping and analyzing current and former accounts with the bank that may potentially fall under the Information Request Treaty that was declared ILLEGAL by the Swiss Federal Administrative Court in January. However, client data will not be handed over to the US until the Swiss parliament has enacted the agreement into law. Currently, the decision is expected to be made in June. A majority of Parliament appears to be opposed to ratifying a law against the court´s decision retrospectively. However, politicians tend to be fickle. So, the final decision is expected with great anticipation.
Go to Story
Greenspan Says that ‘Obamacare´ Could Be Disastrous
Former Federal Reserve chief Alan Greenspan warns that the economic impact of the new healthcare reform law could be disastrous if the Congressional Budget Office´s (CBO) projections prove inaccurate.
Greenspan, in an interview conducted by ABC News´ This Week on Sunday, said that significant danger exists should the CBO projections prove inaccurate over time. When asked by ABC´s Jake Tapper if the CBO´s projections were too ´rosy´, Greenspan said that it was a distinct possibility. His gut instinct tells him the real numbers likely will be higher than what the congressional budget watchdog estimates.
"The probability that it (the costs) might be is probably much higher than I think we would like," Greenspan said.
Go to Story
China is Gold´s Future
The new report, Gold in the Year of the Tiger, from the World Gold Council (WGC), predicts that gold consumption in China could double in the coming decade as a result of rising demand for jewelry, hard-asset investments, and industrial uses.
According to Frank Holmes, on Kitco.com, this forecast seems reasonable, and it lines up with what he has been saying about the profound evolution in China´s economy -- domestic consumption is replacing exports as the growth engine, as poor Chinese continue to move up into the middle class and, from there, into the ranks of the wealthy.
Tens of millions of people in China are joining the middle class every year -- by some estimates, they already number more than the entire U.S. population and could double in the next decade.
Go to Story
Platinum Continues to Rise at a Steady Pace since the 2008 Set-back
The recent pickup in motor vehicle manufacturing in North America, Japan, India and China has triggered expanded output of catalytic converters worldwide and pushed spot and futures prices of palladium and platinum to two-year highs. Bloomberg calls it "a sign that the global economic recovery may be gaining momentum."
Reuters says some automakers are using more palladium in converters for their diesel and gasoline engines because the price was much cheaper than platinum.
Palladium has sold at an average $500/troy ounce in the spot market this week, its strongest price since March 2008. Palladium futures for June delivery, the active month on the New York Mercantile Exchange, have been as high as $508/oz. The first quarter average for palladium was $442/oz.
Go to Story
IRS Targets High Wealth Individuals
The Internal Revenue Service has launched a new global program to target what it calls "high wealth individuals," IRS Commissioner Douglas Shulman (left) said Monday.
"Through our new global high wealth operating unit we are taking a unified look at the entire web of business and economic entities controlled by high wealth individuals so we can better assess the risk such arrangements pose to tax compliance," Shulman said at the National Press Club on Monday. Shulman said the IRS is using "our robust and evolving enforcement program that ensures that everyone pays what they owe." - CNS News
The Daily Bell comments on this development and concludes as follows: "The consolidation of state power worldwide may be seen as a reasonable evolution. But there are prudent reasons to forego overly aggressive attempts at forging such alliances. The more seamless the web of state enforcement, regulatory and otherwise, worldwide, the more opportunity there is for abuse. If there is no countervailing force, no sense among the leaders of tomorrow that their edicts may be vitiated by a lack of full enforcement ability, then the state itself will doubtless grow more unreasonable and its demands more draconian. Power corrupts and absolute power corrupts absolutely."
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A Framework for Successful Offshore Voluntary Compliance Programmes
This is the title of the latest OECD ‘masterpiece´ on tax harmonization and enforcement. Reading this report by the OECD Centre for Tax Policy and Administration is like having a glimpse into the lion´s lair. Behind the smooth language and articulate considerations lies a socialist´s dream program of tax harmonization and the OECD´s master plan on shutting down so called "offshore tax havens".
Clearly, the OECD, largely a US and UK puppet, does not recognize that the greatest tax havens and centers for money laundering are in places like London, Delaware and Miami. The pressure on these "offshore tax havens" is a protectionist war on economies with sounder fiscal policies and healthier economies than those found in G7 debtor nations.
Over the last year the international tax environment has changed dramatically. The OECD standard on information exchange, developed in large part by Working Party No. 8, has gained worldwide acceptance. More than 80 countries including all major financial centers have committed to the standard and are now in the process of implementing it. More than 150 tax information exchange agreements have been signed and progress is being made in updating tax treaties to reflect the OECD standard.
According to the OECD, "The current financial and economic crisis, the growing public deficits and the political support from G20 have accelerated these developments, as the need to improve tax compliance has become paramount."
Go to Story
China´s Bank Lending Cools
The most recent Chinese economic figures for March surprised some analysts, as they showed the first trade deficit since 2004. Another much awaited indicator to measure the growth of the Chinese economy, the amount of new loans extended by Chinese banks, was also lower-than-expected.
Chinese banks extended a less-than-estimated 510.7 billion Yuan (US$74.8 billion) of new loans in March after the central bank told lenders to set aside bigger reserves and pace credit growth. The figure compares with 700 billion Yuan in February and the median forecast of 709 billion Yuan in a Bloomberg News survey of 21 economists. The central bank released the latest data on its website today.
Some are now quick to conclude that, sooner or later, China will have to revalue the Yuan to ward off the threat of a trade war with the US and to put a gentle brake on growth by easing inflationary risks. However, the Chinese government has, in our opinion, at least as many "aces up their sleeve" as does America...
Go to Story
The Dollar Just Ain´t Feeling Right
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| © Copyright 2010, by BFI Capital Group AG, Bahnhofstrasse 29, 6300 Zug, Switzerland, website: www.bficapital.com. The MOUNTAIN VISION UPDATE is published by BFI Capital Group (‘BFI’). Quotation is allowed if credit is given. Although every care has been taken in the preparation of Mountain Vision, BFI does not guarantee and cannot be held responsible for the accuracy of any statistic, statement or representation made. We recommend that you consult qualified professional advisors to determine the applicability of this information and opinion. The publisher is not a registered investment advisor. Readers should not view MOUNTAIN VISION as offering personalized legal or investment advice. |
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