Benson's Economic
& Market Trends
Exporting
Inflation: "The Paradox of Low Money Growth"
Richard Benson
January 5, 2004
A quick view of stock markets
around the world indicates liquidity is everywhere. "Easy
money" is driving commodity and financial asset prices up
not only in the US but worldwide. The economy is booming but
the traditional measures of US money (M1, M2 and MZM), reveal
what would normally be troubling low money growth. Low money
growth and massive monetary reflation seems to be a true paradox.
How can this be? Let's start with what everyone already knows.
The greatest source of the
increase in world liquidity remains financing the United State's
massive budget and trade deficits. These deficits cannot be financed
by US savings because the US has almost no savings! Instead,
these deficits are being financed by the creation of new bank
reserves by not only the Federal Reserve, but by other Central
Banks, primarily in Japan and China.
The obvious impact of this
is best seen in China. With China's currency pegged to the dollar,
printing currency to buy US Treasury securities is pushing up
China's money supply growth at a 20% annual rate. Inflation in
China is accelerating. Moreover, China is buying commodities
from countries like Australia, which pushes money into the commodity-producing countries. The money being stuffed in pushes
up asset prices to a level that causes countries, like Australia,
to raise interest rates to try and prevent the domestic economy
from overheating and inflating too quickly.
In the case of Japan (which
is still fighting the internal deflation which was caused by
the profligate and irresponsible credit polices that led to their
credit bubble), the purchase of US Treasury securities gives
the Bank of Japan cover to print even more "fresh Yen"
to slowly nationalize the bad debts in the Japanese banking system.
Japan has an 8% budget deficit to finance. Japan's monetization
of its domestic deficit and the monetization of the foreign US
trade and budget deficits are simply without precedent! While
the exchange markets are trying to revalue the Yen against the
dollar, the mountain of Japanese government debt has grown so
large that the Yen has the potential for national bankruptcy,
or hyper-inflation in the years ahead.
In the past year, the US has
experienced massive monetary ease and ballooning Federal deficits.
Credit spreads for corporate debt have collapsed to very low
levels compared with US Treasuries. The bond market has reopened
big time and any "junk credit" can get financed. Mortgage
credit has expanded at an unprecedented rate, and is allowed
to increase without limit while the stock market has been inflated
back into a new very scary level.
In the US, the actual creation
of money and credit has been extraordinary yet recent statistics
for money growth show that it is slowing, making it look like
we are not reflating. The problem is the dollar is in slow motion
freefall, creating monetary conditions that the financial press,
much less the average American, just can't comprehend.
The US dollar is the World
Reserve Currency. Foreign Central Banks hold over $1 Trillion
in US Government and Agency Securities, totaling over 70% of
their reserves. Foreigners hold between $3 and $4 Trillion of
US financial assets including cash dollars. Americans are only
used to looking at their money supply numbers when the dollar
is strong, and everyone in the world wants to hold more dollars.
But not anymore!
When a currency is falling,
it makes sense to get your money out of that currency and into
another. George Soros and Warren Buffet aren't the only ones
that have gotten a big pile of cash out of the dollar and into
other currencies, commodities, or gold. Most international companies
can easily decide how to hold their cash and whether they want
it held in Dollars, Euros, Yen, Pounds, etc.
Moreover, with the Dollar being
the World Reserve Currency (and for many years the currency for
the international underground economy), it has been estimated
that two-thirds of US paper currency has been held abroad. (Most
of this currency is in $20 bills). Now that the US has a
new pink $20 bill, it is a perfect time for foreigners to swap
them before the old $20 bills are no longer accepted. With the
dollar continuing to fall, the foreign holders of paper dollars
would need to be "pretty dense" not to be exchanging
them for better currencies.
The critical point to realize
is that just because the demand for dollar money looks weak,
it doesn't mean that the US and world participants' demand for
money is weak. It simply means that more and more people just
don't want to hold their money in dollars.
The Paradox is solved! Money growth in the US is low because
as the Fed prints dollars more people are running from the dollar.
Indeed, the smartest money managers are borrowing in the US at
1%, taking their money out of the US, and swapping it out
of the dollar. No wonder money growth in the US is so low!
Because interest rates have
been kept at 46-year lows, our credit system is creating massive
amounts of cash. The falling dollar is encouraging individuals
and companies to take these dollars and turn them into foreign
cash which, in turn, is forcing money into countries and their
financial markets regardless of whether they want it or not.
The US is pushing money growth and reflation on the world.
At the same time that money
is coming out of the dollar and being forced into foreign currencies,
the falling dollar makes these foreign currencies "look
strong." This strong foreign currency causes local business
competitive pain and allows for an easier monetary policy without
worrying that their currency will "look weak." If a
country's monetary growth is already high and there appears to
be a risk of inflation, interest rates can be raised a fraction;
this has already happened in Canada, the United Kingdom, and
Australia. Even the traditional "deadbeat currencies"
in Latin America look better for now. Argentina and Brazil have
a lot of commodities to export, and the 1.3 billion Chinese look
hungry and have "fists full of dollars" to spend.
For monetary policy in the
US, low money growth presents an even greater opportunity to
stay easy. In the first stock market bubble back in 2000, the
Fed's justification to run an easy monetary policy was productivity
and the "New Economy." During and after the recession,
the Fed's justification for super easy monetary policy was the
"Fear of Deflation."
Now, the low money growth in
M1, M2 and M3, present another opportunity to keep monetary policy
easy. If the Fed picks up on the low money growth - which
is actually caused by people fleeing the dollar - as an excuse
to really gear up the Fed printing press, people may flee the
dollar even faster! In the short run, the Fed can point to low
domestic money growth and sell us the idea that inflation can't
pick up because money growth is low. In reality, money growth
will be extraordinarily high. In addition, the US easy money
policy encourages Asia and the rest of the World to reflate to
counter the "phony rise" in their currencies, and competitive
devaluation becomes the new game in the world currency markets.
As the world pressures grow
for competitive devaluation, the volatility of exchange rates
will grow. Currency, bond, and stock markets in the New Year,
have the potential to be both volatile and interesting.
Richard Benson
January 2, 2004
President
Specialty
Finance Group, LLC
Member NASD/SIPC
2505 S. Ocean Boulevard
- Suite 212
Palm Beach, Florida 33480
1 800-860-2907
eMail: rbenson@sfgroup.org
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321gold Inc
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