Currency Wars

The world is a boil with currency devaluations, interest rate cuts and quantitative easings (QEs) by numerous central banks. Because of the recent slump in oil prices, the Canadian central bank has just cut its lending rate … with another commodity exporter, Australia, expected to follow suit shortly … see: CNBC Story. And today Mario Draghi of the European Central Bank is expected to announce the start of another QE program totaling perhaps 500 billion euros … see: Another CNBC Story.

I have in the past commented on what has degenerated into a major pissing contest between the central banks of the more developed nations and what the consequences that might result are … see: Race to the Bottom. It seems to this observer that the world has been lulled into an expectation, led by the now retired Chairman of the U.S. Federal Reserve Bank, Ben Bernanke, that central banks are the panacea for all the world’s economic woes.

Clearly monetary policy, in the long run, cannot solve basic economic malaise … yet the world’s stock markets now seem addicted to the opiate of easy money and very low, even negative, interest rates. This cannot all end well … at some point, possibly sooner than we wish, as Obama’s reverend, Jeremiah Wright, would say, “the chickens will come home to roost.”

What is now an illogical deflationary monetary and commodity spiral, I somehow expect, will flip into run-away inflationary in a nanosecond. Money is, after all, just gussied-up pieces of paper representing a political promise. Be prepared for these promises to be broken …

Deflation

Despite all the best efforts of our Federal Reserve Bank and other national banks around the world to promote modest monetary inflation, we now appear to be entering into a period of increasing worldwide deflation. This is prompted by the geo-political turmoil and by the decision of the Saudi Arabian government to push down the price of oil … see: The Bow. In many ways this oil price decrease is good for the United States since it strengthens the dollar, reduces the cost of living for normal Americans, and makes our enormous national debt an easier burden. (But it also makes our exports more expensive to the rest of the world.)

However, falling oil prices will cause major problems elsewhere in the world … in particular, many OPEC members’ budgets are dependent on higher oil prices and may suffer major economic dislocations if such lower prices persist … see: UK Telegraph Story. Like, for instance they might not be able to subsidize terrorist activities around the world … or may have to cut back on their development of atomic weaponry … or they might even have to stop promoting the adoption of Sharia Law (and all the evil that this entails) in non-Muslim countries?

But, unfortunately, I also believe that these deflationary pressures might eventually grease the skids for rampant inflation when it eventually does re-appear its ugly head. So enjoy things while they are good.

A Ton of BRICs

It wasn’t too long ago that the BRICs were expected to be the next great economic tidal wave.  (BRIC stands for Brazil, Russia, India and China which were and are the first tier of the emerging market economies.)  Now the shine is off the shoe and these countries have suffered through the U.S. Federal Reserve Bank’s monetary shenanigan's ...  see: UK Telegraph Article.  And the Fed is now ignoring them (possibly at its peril) even though they represent a much more significant portion of the world’s economic might.

Economists worldwide are suffering monetary schizophrenia these days … undecided as to whether all the dollar liquidity with which Ben Bernanke is flooding the world will cause deflation or inflation … particularly after the Fed starts stepping on the monetary breaks (called “tapering”).  Just the expectation that this will happen has already caused the low interest rate on the 10-year U.S. government bond to increase by a full percentage point in just a few short months.  Higher interest rates here do suggest that money will be tighter and thus tending toward deflation. But emerging economies had been following our central bank’s lead and were also trying to cause their currencies to devalue … see: Race to the Bottom.  This complicates things …  possibly beyond comprehension.

So the real predictor in terms of inflation versus deflation, I think, has more to do with how rates change elsewhere.  Higher interest rates in the U.S do suggest that deflation might be the bigger bugaboo since money will flow here and away from emerging markets causing them fiscal apoplexy.  But now they have much more say as to how things turn out.  They can also halt their monetary easing in retribution with who knows what results?  Whatever these eventual outcomes are, I don’t think they will be happy.

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