In These New Times

A new paradigm for a post-imperial world

Uh Oh. … Trouble Dead Ahead

Posted by smeddum on August 24, 2009

Karl Denninger
Market Ticker

Aug 22, 2009

While I disagree with pretty much everything Jim Willie writes when it comes to metals and such, every squirrel finds a nut once in a while:

click to enlarge

You can read the original article at the above link, or I’ll just point out the important parts:foreigners are rejecting virtually all forms of US debt, most specifically corporate and agency (mortgages.)

The only place foreigners are “still buying” is in the Treasury market, and one wonders: for how much longer, and how much of that is really foreign buying?

Not that it matters. This debt is being rejected because foreigners have no faith in the future of its value. It is not just the risk of default any more – it is also the risk of currency translation going “the wrong way” to an extreme degree, potentially destroying the buyer’s purchasing power even if a formal default does not occur.

This is the wall that I have written about for more than two years, and the risk of Bernanke’s so-called “smarts” when it comes to “quantitative easing”, otherwise known as “monetization” (which Bernanke said, under oath, he wouldn’t do – but both was and is.)

Here’s the issue, in a nutshell: Bernanke surmises that he wants long-term (and short-term) interest rates low to “spur borrowing” and thus attempt to kick the economy back into growth. This in turn “mandates” an extraordinarily loose monetary policy.

The math says this is idiotic: We are in this mess because of too loose a monetary policy for too long, which in turn engendered too much debt in the system for the economy’s productive output. The economy got drunk on too much credit; you can’t fix it with a bottle of whiskey.

In turn the market believes this policy is dangerous on two accounts: The debt itself needs to yield more as a consequence of actual default risk and the dollar has a risk of rapid, disorderly decline due to money printing which is exactly the same from a foreigner’s point of view of purchasing power as a default.

The fallacy Bernanke (and other policy-makers, including Congressfolk) have is that “they’re in control.” In fact the market is in control; you can offer all the bonds you want, but you can’t force anyone to buy them. What we’re now seeing is outright rejection – it began slowly, but as it has become clear that The Fed was hellbent and determined to go to the wall, consequences be damned, that trickle of rejection has turned into a veritable flood.

There is no “solution” for this problem that maintains what Bernanke (and other policy-makers) want: rates must and will rise; we are now only left with the ability to choose the method by which they do.

Bernanke must withdraw the “loose money” policy now and allow lending rates to find their market equilibrium before the water flowing through the cracks of the dam washes away too much of its foundation and it collapses in an outright revulsion toward all dollar-denominated credit instruments.

That equilibrium, which will be reached one way or another, will be higher than today’s rates, perhaps significantly so.

This may in turn force the bankruptcy of firms that have been artificially supported by these insanely low rates, as their borrowing costs will rise.

It will force the US Government to cut back its spending to a level it can actually afford.

It will keep the consumer from spending beyond his or her means not only now (as is already happening) but going forward as well.

If we do not withdraw the extraordinary actions and that revulsion breaks through we could easily see a technically-driven disorderly collapse in the dollar’s value along with mass-selling of dollar-denominated securities.

If that occurs last fall will look like a Girl Scout picnic.

Let’s not.

Aug 21, 2009
Karl Denninger

Karl Denninger’s Market Ticker
Karl Denninger’s Home on The Net

All material herein Copyright ©2007-2009 Karl Denninger. All rights reserved.

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