Best of the Week
Most Popular
1. US Housing Market House Prices Bull Market Trend Current State - Nadeem_Walayat
2.Gold and Silver End of Week Technical, CoT and Fundamental Status - Gary_Tanashian
3.Stock Market Dow Trend Forecast - April Update - Nadeem_Walayat
4.When Will the Stock Market’s Rally Stop? - Troy_Bombardia
5.Russia and China Intend to Drain the West of Its Gold - MoneyMetals
6.BAIDU (BIDU) - Top 10 Artificial Intelligence Stocks Investing To Profit from AI Mega-trend - Nadeem_Walayat
7.Stop Feeding the Chinese Empire - ‘Belt and Road’ Trojan Horse - Richard_Mills
8.Stock Market US China Trade War Panic! Trend Forecast May 2019 Update - Nadeem_Walayat
9.US China Trade Impasse Threatens US Lithium, Rare Earth Imports - Richard_Mills
10.How to Invest in AI Stocks to Profit from the Machine Intelligence Mega-trend - Nadeem_Walayat
Last 7 days
Brexit Party and Lib-Dems Pull Further Away from Labour and Tories in Latest Opinion Polls - 22nd May 19
The Deep State vs Donald Trump - US vs Them Part 2 - 21st May 19
Deep State & Financial Powers Worry about Alternative Currencies - 21st May 19
Gold’s Exciting Boredom - 21st May 19
Trade War Fears Again, Will Stocks Resume the Downtrend? - 21st May 19
Buffett Mistake Costs Him $4.3 Billion This Year—Here’s What Every Investor Can Learn from It - 21st May 19
Dow Stock Market Trend Forecast 2019 May Update - Video - 20th May 19
A Brief History of Financial Entropy - 20th May 19
Gold, MMT, Fiat Money Inflation In France - 20th May 19
WAR - Us versus Them Narrative - 20th May 19
US - Iran War Safe-haven Reasons to Own Gold - 20th May 19
How long does Google have to reference a website? - 20th May 19
Tory Leadership Contest - Will Michael Gove Stab Boris Johnson in the Back Again? - 19th May 19
Stock Market Counter-trend Rally - 19th May 19
Will Stock Market “Sell in May, Go Away” Lead to a Correction… or a Crash? - 19th May 19
US vs. Global Stocks Sector Rotation – What Next? Part 1 - 19th May 19
BrExit Party EarthQuake Could Win it 150 MP's at Next UK General Election! - 18th May 19
Dow Stock Market Trend Forecast 2019 May Update - 18th May 19
US Economy to Die a Traditional Death… Inflation Is Going to Move Higher - 18th May 19
Trump’s Trade War Is Good for These 3 Dividend Stocks - 18th May 19
GDX Gold Mining Stocks Fundamentals Update - 17th May 19
Stock Markets Rally Hard – Is The Volatility Move Over? - 17th May 19
The Use of Technical Analysis for Forex Traders - 17th May 19
Brexit Party Set to Storm EU Parliament Elections - Seats Forecast - 17th May 19
Is the Trade War a Catalyst for Gold? - 17th May 19
This Is a Recession Indicator No One Is Talking About—and It’s Flashing Red - 17th May 19
War! Good or Bad for Stocks? - 17th May 19
How Many Seats Will Brexit Party Win - EU Parliament Elections Forecast 2019 - 16th May 19
It’s Not Technology but the Fed That Is Taking Away Jobs - 16th May 19
Learn to Protect your Forex Trading Capital - 16th May 19
Gold Ratio Charts Offer The Keys to the Bull Market - 16th May 19
Is Someone Secretly Smashing the Stock Market at Night? - 16th May 19

Market Oracle FREE Newsletter

U.S. House Prices Analysis and Trend Forecast 2019 to 2021

Out of Control U.S. Government Spending Means It's Time to Hedge Against Inflation

Commodities / Inflation Feb 25, 2013 - 12:24 PM GMT

By: Money_Morning

Commodities

Jeff Uscher writes: Uncontrolled government spending could force the Fed to monetize the government's debt, creating runaway inflation, former Federal Reserve Governor Frederic Mishkin warned in a report.

If these circumstances were to occur, the Fed would be unable to do much, if anything, to control inflation, Mishkin said in the report, presented at a conference at the University of Chicago Booth School of Business.


In that case, Mishkin and his co-authors, David Greenlaw, James Hamilton and Peter Hooper, argue that the result could be "a flight from the dollar," according to a summary of the report by noted Fed-watcher Steven K. Beckner writing for MNI.

The report states, "Countries with high debt loads are vulnerable to an adverse feedback loop in which doubts by lenders lead to higher sovereign interest rates, which in turn make the debt problems more severe ... Countries with debt above 80% of GDP and persistent current-account deficits are vulnerable to a rapid fiscal deterioration as a result of these tipping-point dynamics."

The authors of the report estimate U.S. net debt, excluding debt held by the Social Security Trust Fund, at about 80% of GDP in 2011, double what it was a few years before. To make matters worse, the United States runs a persistent current account deficit, which is funded by borrowing from other countries.

This puts the U.S. in a worse spot than Japan which, although its debt is much higher as a percentage of GDP, has a large current account surplus and a high savings rate.

Will Politicians Make a Deal Before it's Too Late?
The report notes that, despite record amounts of government debt, interest rates remain near all-time lows. That is due to the Fed's quantitative easing policy, which has artificially held down interest rates by purchasing long-term Treasury notes and mortgage-backed securities (MBS) from its member banks.

This cannot continue indefinitely. Unless Congress can get a grip on spending, the United States faces the risk of "fiscal dominance" where the Fed will be forced to fund the fiscal deficit through inflation.

As we pointed out on Thursday, the Fed is buying $85 billion a month in Treasury notes and mortgage-backed securities from its member banks each month. The Fed also pays its member banks interest on the excess reserves they hold at the Fed.

Mishkin argues that the Fed is "incentivizing" the banks to keep excess reserves at the Fed to prevent that money from increasing the money supply and igniting inflation.

We have argued that, under the Fed's zero-interest-rate policy (ZIRP), banks are unable to charge enough interest to cover the risk of lending money to businesses and consumers so they are happy to keep their money as excess reserves at the Fed.

Either way, the result is the same. The Fed is buying long-term debt from the banks and exchanging it for overnight money.

"Any swap of long-term for short-term debt in fact makes the government more vulnerable to ... a fiscal crunch, namely, more vulnerable to a self-fulfilling flight from government debt, or in the case of the U.S., to a self-fulfilling flight from the dollar," the report stated.

Why the Government Makes Money Off of the Fed
The expansion of the Fed's balance sheet through quantitative easing means the central bank earns a lot of money - $88.9 billion in 2012 - in interest, which it passes on to the government. If the Fed decides to end quantitative easing, its balance sheet will shrink and, assuming interest rates do not rise much, the Fed's contribution to the national budget will decline.

Mishkin and his co-authors argue the Fed could come under pressure from Congress to slow or delay the end of quantitative easing so the revenue from the Fed's bloated balance sheet will not decline.

If the federal government continues to pile up debt, then the Fed will be forced to monetize the debt - create new money to buy new government debt - or else interest rates could move sharply higher.

As interest rates rise, more of the federal budget will have to go toward paying interest on the growing debt, leaving less for everything else and increasing the risk of default.

Remember, as interest rates rise, bond prices fall. That means the Fed will be booking losses on all the Treasury notes and mortgage-backed securities it has purchased so far. The report's authors fear these losses could even exceed the Fed's capital.

For any other bank, that would mean bankruptcy. However, the Fed can create as much money as it needs. But that is monetization and that is likely to ignite runaway inflation and a flight away from the dollar.

How to Hedge Against Inflation
Unless you trust Congress to get its act together and come up with a long-term plan to bring spending under control, your best bet is to hedge against inflation by buying gold or other hard assets and selling short long-term U.S. Treasury notes.

The SDPR Gold Trust (NYSE: GLD) is trading just above major support around the $150 level, which could be a good entry point. Other precious metals, including silver through the iShares Silver Trust (NYSE: SLV) or platinum though the ETFS Physical Platinum Shares (NYSE: PPLT), would be good alternatives.

To short long-term U.S. Treasury notes, there are a number of ETFs that trade inversely to long-term Treasuries, including ProShares Short 20+ Year Treasury ETF (NYSE: TBF), which goes up when long-term U.S. Treasury notes go down in price (up in yield).

The ProShares Ultra Short 20+ Treasury ETF (NYSE: TBT) is a leveraged ETF that aims for twice the return of TBF. Direxion Daily 20+ Year Treasury Bear 3x Shares (NYSE: TMV) seeks three times the inverse return on the NYSE 20+ Year Treasury Bond Index.

For more about how the Fed's policies will affect your money, check out yesterday's report: What Every Investor Should Know About the End of QE

Source :http://moneymorning.com/2013/02/22/with-unchecked-u-s-spending-its-time-to-hedge-against-inflation/

Money Morning/The Money Map Report

©2013 Monument Street Publishing. All Rights Reserved. Protected by copyright laws of the United States and international treaties. Any reproduction, copying, or redistribution (electronic or otherwise, including on the world wide web), of content from this website, in whole or in part, is strictly prohibited without the express written permission of Monument Street Publishing. 105 West Monument Street, Baltimore MD 21201, Email: customerservice@moneymorning.com

Disclaimer: Nothing published by Money Morning should be considered personalized investment advice. Although our employees may answer your general customer service questions, they are not licensed under securities laws to address your particular investment situation. No communication by our employees to you should be deemed as personalized investent advice. We expressly forbid our writers from having a financial interest in any security recommended to our readers. All of our employees and agents must wait 24 hours after on-line publication, or after the mailing of printed-only publication prior to following an initial recommendation. Any investments recommended by Money Morning should be made only after consulting with your investment advisor and only after reviewing the prospectus or financial statements of the company.

Money Morning Archive

© 2005-2019 http://www.MarketOracle.co.uk - The Market Oracle is a FREE Daily Financial Markets Analysis & Forecasting online publication.


Post Comment

Only logged in users are allowed to post comments. Register/ Log in

6 Critical Money Making Rules