Delay is the deadliest form of denial
—C. Northcote Parkinson
In More Like A Depression Every Day, I described strong deflationary pressures in the American economy despite the Shock & Awe fiscal & monetary stimulus being applied. The flow of free money is supposed to counter deflation by boosting both asset values and government spending. Economist Nouriel Roubini, otherwise known as “Dr. Doom”, notes that this “wall of liquidity” is inflating asset values, not just in the United States, but all over the world.
The BEA’s advance estimate showed real GDP growth of 3.5% in the third quarter (July-September) just passed. So Shock & Awe appears to be “working” if you go by real GDP. Don’t you believe it. I warned you about a “statistical” recovery last week. Get ready for another round of nonsense announcing that the recession is over. In absolute (2005 chained dollars) terms, real GDP is down 9% year-over-year, even after you throw in the “cash-for clunkers” program which gave an artificial boost to personal consumption expenditures.
One important consequence of the Fed keeping interest rates low and its quantitative easing has been a weaker dollar. The world’s reserve currency has depreciated 14.6% relative to a basket of other currencies since March 5, 2009 as measured by the U.S. Dollar Index (DXY). The depreciating dollar, combined with the Fed’s stated intention to keep interest rates low for an extended period to come, has prompted investors to short the dollar—bet that the value of the dollar will continue to fall. Investors short the dollar via what is called the carry trade (and Figure 1).
Critics focus on the fact that low U.S. interest rates enable investors around the globe to borrow dollars for next to nothing and invest them elsewhere at higher rates.
This bet — known as the dollar carry trade — appears to be one of the forces pushing down value of the dollar. Though there are few reliable figures on the size of the carry trade, the dollar’s trend has clearly been down since stock and bond markets revived.
Figure 1 — The Fed has frozen short-term interest rates at 0-0.25% (left) as the dollar declines(right). This allows investors to borrow dollars a little cost and re-invest them in assets that return higher yields.
Roubini believes that continued low interest rates are inflating asset values beyond what the fundamentals dictate all over the world—a new global bubble. He argues that when the Fed finally does raise rates and the dollar strengthens, as it eventually must, there will be another resounding crash in the global economy. Readers here may not be familiar with this kind of material, so I have summarized Roubini’s argument as he presented it in this interview with Index Universe and in a guest appearance on CNBC.
There is a “wall of [excess] liquidity” inflating asset values (in equities, real estate, commodities, credit, gold, in emerging markets) all over the world.
The Fed has fixed short-term rates at zero (0-0.25%) and is expected to keep them there for the time being. The Fed has also set investor expectations by “controlling and reducing volatility” in the long-term by indicating that they will keep rates low for some time to come.
Investors borrow at near-zero percent interest rates and get a capital gain by investing elsewhere in assets that yield a higher rate, so “we’re in the mother of all carry trades.” The carry trade makes the bubble global as investors borrow dollars and invest in foreign assets (for example, in Australian dollars, Brazilian reals, and so on).
Because the dollar is falling, investors are effectively shorting the dollar and borrowing at negative real interest rates. The carry trade itself results in a dollar sell-off, which causes further weakening. Investors are going long on global assets based on expectations set by the Fed about future interest rates (#2 above).
The dollar can not keep on falling forever, i.e. the Fed must raise interest rates at some point.
When the dollar suddenly stops falling and reverses, investors will have to close their dollar shorts, and dump their assets.
The strengthened dollar will cause a market crash all over the world as assets deflate.
full article at
http://www.energybulletin.net/node/50553
that'll be to the hills then?
