Open ended QE announced!

QE3 is here, and it's pretty big.

They've announced a form of "open-ended" quantitative easing in which the central bank commits to "purchasing additional agency mortgage-backed securities at a pace of $40 billion per month."

But there's something much much much more important here than the numbers. It's the guidance:

To support continued progress toward maximum employment and price stability, the Committee expects that a highly accommodative stance of monetary policy will remain appropriate for a considerable time after the economic recovery strengthens. In particular, the Committee also decided today to keep the target range for the federal funds rate at 0 to 1/4 percent and currently anticipates that exceptionally low levels for the federal funds rate are likely to be warranted at least through mid-2015.

The key thing is that the Federal Reserve Open Market Committee is no longer saying that accommodative monetary policy is conditional on the recovery being weak. Instead, interest rates will stay low for a while even after the economy recovers.

Open-ended Quantitative Easing. It appears QE to Infinity is a reality.

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Wed Post #2: Inevitable - Part Deux

Back on March 8, 2010 we posted that the swirling economic ill winds continue to blow strong in Europe and we ignore what is going there at our own peril.

We wrote that there was an inevitable shift occurring in the great economic crisis of 2008 - 2010 (now 2011).

The first wave caused individual people and companies to face bankruptcy. The looming second wave now threatens entire governments.

Sovereign Debt is the key issue of this decade.

And unlike the Russian financial crisis of 1998, in which Russia was allowed to default on their debt, or the Argentine economic crisis of 1999-2002, when Argentina declared default in 2002, the main players in the European Debt Crisis - the PIIGS nations - will not be allowed to default.

The reason that European Sovereign Debt cannot be allowed to fail and default is because the five largest US banks hold trillions of dollars of credit default swap Over The Counter (OTC) derivatives guaranteeing that garbage debt against failure.

If European Debt is allowed to fail, the Western financial world implodes.

Ergo... Sovereign Debt cannot be allowed to fail.

That is why this blog has been such a staunch proponent of precious metals. The only way to stop the implosion of the Western financial world is to engage in Quantative Easing to infinity.

Today is seems we can now clearly see the inevitable starting to play out.

Early this morning Forbes wondered aloud if a big European bank come close to failing last night?

European banks, especially French banks, rely heavily on funding in the wholesale money markets. Did a major bank have difficulty funding its immediate liquidity needs?

The question was asked because last night The US Federal Reserve, the Bank of England, European Central Bank, the Bank of Japan, the Swiss National Bank, and the Bank of Canada moved in a coordinated action to provide liquidity to the global financial system.

Peter Schiff summarized what these actions mean:

Today’s unprecedented announcement by the world’s most powerful central banks was a loud and clear bell ringing to buy precious metals. The move, disguised as an attempt to help the fragile state of the global economy, is in reality a move to prop up failing banks in Europe and the US.

By reducing interest rates paid for dollar swaps, central bankers are in effect increasing the quantity of global dollars in circulation.

This is the pure definition of inflation: increasing the money supply. And today it was increased profoundly.

Schiff contends this may be one of the most important economic events of the year.

As Goldman Sachs made all too clear today, this is merely the beginning as more and more inflationary actions have to be undertaken by central banks to save banks from being crushed by untenable debt loads.

Whether they succeed in overturning the deflationary tsunami is unknown. What is certain is that they will bring fiat currencies to the verge of viability (and beyond) in trying.

Q.E. to infinity has begun.

Sovereign Debt cannot be allowed to fail as the US dollar will weaken, inflation will rise, and Gold/Silver will soar.

It is as inevitable as the fate of this mouse...

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Mon Post #1: Events in Europe, QE and Gold/Silver

To say that we live in interesting times is nothing short of an understatement.

Sovereign Debt will be the issue of this decade and the situation with the PIIGS (Portugal, Ireland, Italy, Greece, Spain) in Europe dominates the headlines again this past weekend.

A stunning article appreared in the UK newspaper, The Telegraph, which reported that Britain's Foreign Office has given instructions to embassies and consulates to begin contingency planning to help expats should the crushing debt of the PIIGS collapse the Euro.

Even more incredibly, a senior minister has revealed that Britain is now planning on the basis that a Euro collapse is not just a possibility, but that it is only a matter of time.

A senior minister has now revealed the extent of the Government’s concern, saying that Britain is now planning on the basis that a euro collapse is now just a matter of time. “It’s in our interests that they keep playing for time because that gives us more time to prepare,” the minister told the Daily Telegraph.

Meanwhile Société Générale (SocGen), a large European Bank and a major Financial Services company that has a substantial global presence, has come out its Multi Asset Portfolio Scenario/Strategy guide wherein the French bank makes the simple case that the worse things get, the stronger the response by global central banks will be.

"A major liquidity crisis should not occur this time, as we think we are on the eve of major QE in the UK, US and (a bit) later on in the EZ."

How big will QE3 be?

According to SocGen, the Fed will preannounce it in the January 2012 FOMC statement and that the monetization will last from March 2012 until the end of the year and will buy a total of $600 billion.

Many analysts believe the actual total will be well greater, probably in the $1.5 trillion range as the Fed will finally say "enough" to piecemeal solutions and grab the bull by the horns.

What really stands out is SocGen's investment advice:

"Buy gold ahead of QE3 as money creation has a strong impact on prices... Gold is highly sensitive to US QE, as every dollar of QE goes into M0, triggering the debasement of the USD."

SocGen sees Gold going to $8,500/oz so as...

"to catch up with the increase in the monetary base since 1920 (as it did in the early 80s)."

Older readers will recall that was a time when Gold went from $35/oz to $850/oz.

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Epic? (updated)

The big news today is rampant rumours of an impending Greek default and it has some speculating that the big day may come as soon as September 20th.

The thinking is that Greece has two big bonds with coupon payments due that day totalling 769 Million Euro. So if the IMF wanted to avoid letting another billion euro go down the drain, September 20th would be a good day to do it.

Then there is the US Federal Reserve.

The Fed has their rare 2 day FOMC meeting starting on September 20th.

Maybe the fact these two events fall on the same day is a coincidence, but what better way to be prepared for new emergency policies than to have to act on a Greek default?

Speaking of FED rumours, financial analyst David Rosenberg has been speculating that the outcome of the FOMC meeting could produce stimulus far greater than what anyone is expecting.  "If Bernanke wants to juice the stock market, then he must do something to surprise the market. 'Operation Twist' is already baked in, which means he has to do that and a lot more to generate the positive surprise he clearly desires."

All of this is clearly spooking China.

As Ambrose Evans-Pritchard notes in The Telegraph, a key rate setter for China's central bank let slip that Beijing aims to run down its portfolio of US debt as soon as safely possible.

"We would like to buy stakes in Boeing, Intel, and Apple, and maybe we should invest in these types of companies in a proactive way. Once the US Treasury market stabilizes we can liquidate more of our holdings of Treasuries," he said.

This appears to be the  first time that a top adviser to China's central bank has uttered the word "liquidate" in relation to US Treasuries. Until now the policy has been to diversify slowly by investing the fresh $200bn accumulated each quarter into other currencies and assets – chiefly AAA euro debt from Germany, France. 

And what size of a 'liquidation' are we talking about?

It is estimated that over $2.2 trillion US Dollars is held by SAFE (State Administration of Foreign Exchange), the bank's FX arm. 

Finally, the last tidbit in the rumour mill for today focuses on the infamous JP Morgan.

As we posted yesterday, a detailed class-action lawsuit has been publicly released on the silver price manipulation activities by JPM. The suit outlines exactly how JP Morgan has been conducting it's manipulation including specific names and titles of those JPM employees involved.

But the rumours focus, not on the Silver manipulation lawsuit, but on JPM's outstanding derivative position.

As faithful readers probably already know, JP Morgan is sitting on a $80 trillion plus derivatives monster.

Derivatives are securities whose value depends on the values of other basic underlying securities. Derivatives have exploded in use over the past two decades. They include such well known instruments as futures and options which are actively traded on numerous exchanges and as well numerous over-the-counter instruments such as interest rate swaps, forward contracts in foreign exchange and interest rates, and various commodity and equity derivatives.

And as noted at the end of this 2009 Business Week article, JP Morgan has the face-value equivalent of a mind-boggling $87 trillion in derivatives on its books.

Although your dutiful scribe cannot confirm it with a credible citation, the chatter is that if the price of Silver remains above $36 per ounce by mid/late October, the first of JPM's derivative bombs will denonate in their faces.

October always seems to be a volitle month in the world of global finance.

But if even only one of these stories plays itself out, October 2011 could be an epic month for the ages.

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Update

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Former U.K. Prime Minister Gordon Brown is speaking at the World Economic Forum in the Chinese port city of Dalian today and his candor is nothing short of astounding.

• "European banks are grossly under-capitalized and the debt crisis is more serious for the region than the 2008 meltdown as governments are constrained by fiscal pressures. In 2008, governments could intervene to sort out the problems of banks. In 2011, banks have problems, but so too do governments."

That, in a nutshell, says it all.

But Brown went on and noted that while the ECB is part of the short-term solution, it needs additional assistance. The European Financial Stabilization Mechanism, which is run by the European Union’s 27-nation executive arm, is “not enough.”. “Substantially more resources” are required.

• “The euro area problem is now moving to the center. The euro cannot survive in its present form, it’s going to have to be reformed dramatically. We are, I think, at an hour to midnight in the way that we look at this issue.”

A debt problem cannot be resolved with the creation of more debt, which is what authorities have been trying to do. 

• “European banks as a whole are grossly under-capitalized. We’ve now got the interplay between banks that are not properly capitalized and sovereign debt problems that have arisen partly because we’ve socialized or accepted responsibility for the banks’ liabilities.”

Do you think you will ever hear such candor from the likes of US Federal Reserve Chairman Ben Bernnake?

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Eric Sprott: Silver to hit $1,200 an ounce

Many of you already know about Eric Sprott.

A chartered chartered accountant who entered the investment industry as a research analyst at Merrill Lynch. In 1981, he founded Sprott Securities (now called Cormark Securities Inc.), which today is one of Canada's largest independently owned securities firms. After establishing Sprott Asset Management Inc. in December 2001 as a separate entity, Eric divested his entire ownership of Sprott Securities to its employees.

Sprott is a huge Silver bull and we have profiled his thoughs numerous times before.

And he remains resolute in his views on Silver which he reiterated yesterday:

• “It could be a wild ride here. As you know there are groups that are short silver and they’ve lost a lot of money already. I think they are very active in the market and create these days where there are sudden downdrafts, but sure enough silver always comes back. The physical buyers always wear down the paper pushers.”
  
  “I think silver will outperform gold in the next decade. If silver should trade at a 16 to 1 ratio (to gold), it will probably trade at 10 to 1 because things tend to overshoot. Let’s use Jim Sinclair’s $12,000 target, that would suggest $1,200 silver, which is a thirty bagger from here.”
  
  “The outlook for gold stocks is particularly exciting right now. I think we can get a 50% move out of the gold stocks between now and December 31st. And of course if gold and silver really get lit up here, I mean who knows? We could go up hundreds of percent in these gold stocks in the next eighteen months.”
  
  “It could be very explosive as more and more people worry about (1) fiat currencies, (2) sovereign debt and (3) bank deposits. It would take very little to spill into gold to make a dramatic difference in where the price will be.”

Sprott's comments are particularly poignant in light of yesterday's G7 announcement.

The G7 is in full panic mode. It is now certain that the G7 will attempt some major intervention over the next 48 hours to inject a last dose of hope into capital markets to avoid Monday becoming an epic collapse.

To that end the G7 issued a statement titled Tackling Slowdown, Supporting Banks

• “Monetary policies will maintain price stability and continue to support economic recovery. Central Banks stand ready to provide liquidity to banks as required... We will take all necessary actions to ensure the resilience of banking systems and financial markets. In this context we reaffirm our commitment to implement fully Basel III. We reaffirmed our shared interest in a strong and stable international financial system, and our support for market- determined exchange rates. Excess volatility and disorderly movements in exchange rates have adverse implications for economic and financial stability. We will consult closely in regard to actions in exchange markets and will cooperate as appropriate.”

As we have said numerous times... not only is QE3 assured. So is QE4, 5 and 6.

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Thur Post #1: Let's Twist Again

If you have never heard of the term 'Operation Twist', you may wish to familiarize yourself with it.

You're going to hear more about it in the coming days.  As the Wall Street Journal notes, the Federal Reserve is getting ready to act as Fed Chairman Bernanke prepares to make a speech later today.

The blog, The Golden Truth, did an excellent summary on what 'Operation Twist' is all about.

Essentially it's one of the Fed's 'tools' that it use to try and stimulate the economy by making a concerted attempt to lower medium/long term interest rates and stimulate housing and business borrowing.

The 'Operation Twist' idea originates back to the Kennedy Administration and its desire to get interest rates lower in order to lower the balance of payments deficit at that time.

Observers expect that the Federal Reserve will be announcing this later this month.

The way it works is the Fed will attempt to 'flatten' the Treasury yield curve by going out and buying up Treasury bonds in the middle and long part of the Treasury curve (5-30 years, mostly in the 7-10 range where mortgage rates are based).


In a 'twist' on the methodology used by the earlier Fed, which sold short term Treasuries and bought long term Treasuries, many believe that the Fed this time around will try to pull down interest rates and flatten the curve solely by buying the longer paper.

This is because it already has in place a zero-interest short term rate policy thru 2013, and thus many don't expect the Fed to be unloading short term paper.

You will hear some fancy lingo like 'increase the duration' of the Fed's Treasury portfolio, which simply means the Fed is letting the shorter term holdings mature and it's rolling that money into intermediate/long Treasuries.

So "Operation twist" will be an attempt by the Fed to lower medium/long term interest rates by pegging the short term rate to zero and then going out and buying longer-date Treasuries.

It's meant to be an extension of Quantitative Easing 2 and supposedly can be implemented without the Fed having to expand its balance sheet (printing money).

It's called a "twist" because the yield curve is normally upward sloping - i.e. the longer the maturity of Treasury bond, the higher the yield. But the idea is that the Fed can "twist" the yield curve into a "flatter" shape.

Look for the Federal Reserve to do more than this too.  At its next meeting Sept 21-22 many speculate that they will also announce some sort of new QE.

With all that has been going on with the European banks, they are almost sure to inject massive liquidity into the collapsing banking system. Look for the Fed to buy more crap assets from banks.  The Fed will also need to expand its balance sheet to pay for Obama's new spending program he is sure to announce tonight.

With the return of the Kennedy era 'Twist' operation, it's time to mimic Chubby Checker and Twist Again!

Gold and mining stocks are going to be volatile BUT they are going to go a lot higher within the next month or two.

You can count on it.

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Monday Post #2: More on Sovereign Debt

Some interesting comments yesterday on Bloomberg by ABN Amro Group NV Chief Executive Officer Gerrit Zalm.

• "Banks are seeking to retain their liquidity, making interbank lending more difficult, as funding from money and capital markets becomes harder to obtain. Interbank borrowing for more than six months is also becoming problematic because banks are reluctant to lend to competitors with big positions in weaker countries’ debt, for instance."

Fears are spreading rapidly that Europe is on the verge of experiencing a Lehman Brothers Moment, a bank credit crisis the likes of which plunged the world into financial mayhem in 2008.

At the heart of the issue is the arcane shadow banking system in Europe (just like it was in North America in 2008).

That system is so crucial to USD-crunched European banks and it is now apparent that it is not just Greece, or the PIIGS, that is the problem.  But now the entire Eurozone is at risk.

Everyone in Europe is completely dependent on the dollar generosity of the European Central Bank, and the various other regional central banks for liquidity.

It is clear that the US Federal Reserve will once again be forced to step in, "in size" and bail out the world.

You may recall that on August 11th, 2011, we posted on one of the news stories that flowed well under the mainstream media radar screen: the results of an audit of the US Federal Reserve conducted by the Government Accountability Office (GAO).

This was the first ever audit conducted of the US Federal Reserve in its 100 year history.

The audit indicate that the Federal Reserve dished out $16 trillion in emergency aid to U.S. and foreign banks, corporations and governments in what the Fed calls all-inclusive loans during the financial crisis.

$16 Trillion!

In all the Fed disclosed more than 21,000 transactions which it utilized after Lehman failed to push as much liquidity into the worldwide financial system as possible to stabilze things.

Fast forward to today.

This time it is far more debatable if the world believes that even the Federal Reserve is sufficient to prevent a rising global insolvency tsunami.

To have none other than ABN AMRO's CEO on the record complaining loudly about liquidity gives you an idea of just how serious this issue is.

The last thing a bank wants to do is give any indication of funding weakness.

Yet here is Gerrit Zalm talking about a dollar liquidity crunch and the difficulty European banks are having procuring the world's reserve currency.

If you think there are any doubts about QE3, let alone QE4, 5 and 6... think again.

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Fri Post #2: Non Farm Payroll tanks (Updated)

The US Labor Dept. released it's non-farm payroll numbers this morning and the results are sending precious metals higher as expectations explode for QE3.

Nonfarm payrolls were unchanged last month, the Labor Department said. It was the first time since 1945 that the government has reported a net monthly job change of zero!

The August payrolls report was the worst since September 2010, while nonfarm employment for June and July was revised to show 58,000 fewer jobs.

“The bottom line is this is bad,” Diane Swonk, chief economist with financial services firm Mesirow Financial, told CNBC.

The numbers indicate employment growth ground to a halt in August, as sagging consumer confidence discouraged already skittish U.S. businesses from hiring, keeping pressure on the US Federal Reserve to provide more monetary stimulus to aid the struggling economy.   

Updates as the day moves along.

UPDATE

Gold and silver have been highly resilient in the face of the traditional bear raids that normally are executed ahead of the Non-Farm Payrolls number that was released today.

While many observers are now looking for a strong showing next week remember that Obama is making an economic announcement in a joint speech to Congress and the Senate.

Caution should be exercised as ammunition might be set aside by the banking cartel to support the Presidential Address with a bear raid on the metals.

Silver is poised to break and there is speculation we will see $60 - $70 this fall. We'll talk about this a little more on Sunday.

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The Silver Accident?

Hi Gang.

Been away from the blogging computer for a couple of days but am back at it today with a lengthy post about Silver.

We left things off on Friday noting how the much anticipated meeting of the Federal Open Market Committee (FMOC) put off a lengthy discussion of the easing options available to the US Federal Reserve until the next FMOC meeting late next month.

Today the highly influential Goldman Sachs is making policy recommendations for the Fed and noted that: "There are three main ways in which the Fed could be more radical: (1) an extension of the QE program into markets other than Treasuries and agency MBS, e.g., private sector securities, (2) a much bigger QE program, up to the extreme version of a promise to buy as many securities as needed to hit a specific yield target (i.e. a "rate cap" further out on the yield curve as then-Governor Bernanke suggested back in 2002), and (3) an explicit or implicit change in the Fed's policy targets."

Combine that with the Chicago Federal Reserve Bank president Charles Evans stating on CNBC that he would be in favor of more easing, and saying he believes in "room for accommodation" and that we "still need to do more on monetary policy" and speculation on QE 3 is now running rampant.

This news sent Gold spiking up $40 within an hour, back to the mid $1,800's.

(Note: Friday is the non-farm payrolls report and heavy shorting of both Silver and Gold is expected Wednesday/Thursday)

For those fans of Silver, the past few months have been somewhat frustrating.  While back above the $40/ounce mark ($41.51 when this was written), Silver seems to have languished since the May beatdown in comparison to Gold.

But there are many who believe Silver is now setting up for a huge breakout as the stage is set for what trader's call 'a Silver Accident'.

An 'accident' occurs when some sort of event (like a financial meltdown or a currency crash) suddenly drive the price of an item exponentially higher.

When these events happen in commodities, world governments often move to flood the market with reserves of that commodity to extinguish a price explosion.

Theodore Butler is recognized as one of the foremost silver analysts and he took a close look at the developing conditions around Silver this week.

He believes all the pieces are now in place for a significant Silver Accident.

More importantly, because world governments have already sold their Silver reserves into the market (and ended holding Silver as a reserve asset) they do not own enough silver to quell a price explosion.

Here are his thoughts for your consideration...

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THE COMING SILVER ACCIDENT
The Biggest Factor in the Future Price of Silver

By Theodore Butler

The primary factors mandating a silver accident are excessive naked short selling and leasing. Silver has the largest short position that’s ever existed in anything. This is the key component to the coming silver accident. The total naked short position in silver measures into the billions of ounces and towers over real world supplies. This combined short position includes the COMEX, all other exchanges, forward selling and leasing, the cumulative issuance of unbacked silver bank certificates, unallocated storage programs and pool accounts. No other commodity has such a huge naked short position.

It is, basically, this bloated short position that’s at the heart of the coming silver accident. It is this same excessive short position that guarantees a financial windfall for your family. A naked short sale is the sale of something you don’t own. While common in financial markets, more than 99% of the world’s population will never sell short anything in their lifetimes. That’s because it’s an unusual and unnatural financial transaction.

Unbridled short selling can artificially depress the price. That is why we have restrictions on short selling that date back to the great stock market crash of 1929. In commodities, there must be a short for every long on every futures contract. Regulations are supposed to preclude excessive long and short speculation via speculative position limits, but these regulations have been abandoned in COMEX silver, despite the efforts of many of us to correct that.

There is one other aspect about short selling that is important to grasp. Whereas the word “sale” means closure or finality in all the billions of daily world business and financial transactions, a short sale is always an open or incomplete transaction. A normal sale marks the end of a transaction. A short sale makes the beginning of a transaction. A short sale must be completed at some point, in some way. There is no exception to this rule. Either the short sale is repurchased and closed out, or that which has been sold short is actually delivered and the open short sale is closed.

Precisely because all short sales must be closed out guarantees a silver accident. When I say that silver has the largest short position in history, I am also saying that silver has the largest number of incomplete transactions in history. Forget, for the moment, the manipulative and depressing effect this monumental short position has had on the price.

All short sales must be closed out in someway. With silver, could it be by delivering silver? Against the billions of ounces of silver sold short, how much do we have to deliver to close out these incomplete transactions? In the COMEX

That’s why I’ve made such a big deal about the uniqueness of a silver short position that’s larger than existing world inventories. It eliminates one of the only two legitimate ways in which a short sale can be closed out. That’s why we’ve never seen any other commodity with a short position greater than what actually exists. How can you have a short position in anything greater than what actually exists?

The only remaining legitimate way a silver short position can be closed out is if it were bought back by the short sellers. From whom are these short sellers going to buy hundreds of millions and billions of silver ounces from? Or more correctly, at what price? Since actual delivery is out of the question, the only way the short sellers can buy back their bloated silver short position is to get every owner of real silver and every owner of paper silver to sell out. The price that would be necessary to accomplish that feat would qualify in any reasonable definition as an accident.

While there is no way to determine when the silver shorts will spook and rush to cover, time is not on the shorts’ side. They must try, at some point, to buy back and cover the silver they can’t possibly deliver. It is not important to know in advance what the actual trigger for the silver accident will be. All you need know is that with the critical and long-term physical deficit in silver, the short selling charade must end. Since we can’t determine when, don’t focus on the timing, focus on the inevitability of a delivery crunch.

From 2000 to 2004, the silver price averaged between four and five dollars. Since then, the silver price has been six, seven or eight dollars. Does this increase mean that the price has finally responded to the law of supply and demand, and therefore eliminated the chance of a silver accident?

Normally, a price increase of 50% or 100% in a commodity should be sufficient to balance any consumption deficit. That’s a big move in any commodity. But not for silver. That’s because the consumption deficit in silver is unlike any other commodity deficit. Silver has been in a structural deficit stretching back for more than a half-century. You don’t undo the damage of 60 years with a 50% or 100% gain.

There is zero evidence that production or consumption has been impacted by the price, or that the silver deficit has been cured. There has been no worldwide rush to find new silver mines in response to higher prices. Silver may have increased in price, but there has been zero effect on near-term production increases or substitutions in demand. No one has switched to gold or platinum jewelry because silver is up in price. The law of supply and demand hasn’t been affected one bit as a result of the recent price increases. The first prerequisite for the coming silver accident is very much intact. However, it takes more than a bullish supply and demand equation to cause a violent price event. Bullish fundamentals point to higher prices but not necessarily a price accident. In the silver short position, we have the needed reason, in spades, for an accident.

As a result of the 60-year structural deficit, we have exhausted just about all the world’s previously existing silver inventory. That includes just about all world governments’ silver inventory. When the unavoidable silver accident occurs, there will be no one to douse the price fire. This can’t be said about any other commodity.

This fact distinguishes between a gold and a silver accident. In gold, in a financial meltdown or currency crash (popular reasons given for a gold price accident), world governments own enough gold to extinguish a price explosion. In silver, they don’t own enough silver to put out a fire.

It’s rare to be presented with an unavoidable financial accident that you can personally benefit from. If you find my argument has merit, then position yourself in silver before the coming accident. If you wait until the accident happens, it will be too late.

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Monday Post #5: Did China just issue the Federal Reserve a warning?

Update (11:18 pm PDT): DOW futures recovering, now +/- 0.00. Analysts expect huge opportunity to play rebound in morning.

Excessive expansion of the money supply leads to loss of confidence in that currency.

All eyes are on Ben Bernanke and the US Federal Reserve in the morning tomorrow  as worldwide collapse.

Yesterday Yu Yongding, a former member of the Monetary Policy committee of the Chinese Central Bank, came out and spoke about the US debt situation and said that it...

• "is ultimately unsustainable. The longer it continues, the more violent and destructive the final adjustment will be.... The danger for China is that it does not learn the right lesson - namely, that now is the time to end its dependency on the US dollar."

In his statement Yu asks a very important rhetorical question:

• "What losses is China willing to bear in its foreign exchange reserves in order to slow the pace of the renminbi appreciation?"

This is significant because if China announces it is freely floating the renminbi, it will trigger sheer chaos and market panic as confidence is lost in the US dollar.

With that in mind, did China just threaten the United States with just that action if Bernanke announces more money printing tomorrow?

Chinese inflation results announced earlier tonight show that Chinese inflation is even hotter than expected, (see this zero hedge post). This has prompted Peoples Bank of Chiina advisor  isor Xia Bin to say that China doesn't rule out  "normal market operations" to promote its own interested when necessary amid the US debt turmoil.

• "China should set up an overseas investment committee to accelerate the strategic use of foreign exchange. This committee should organize storage of strategic materials. The country should allow and encourage companies to purchase foreign exchanges with the yuan."

What does this mean?

China cannot do this without floating the Yuan.

(Note: The distinction between yuan and Renminbi [RMB] is analogous to that between the pound and sterling; the pound [yuan] is the unit of account while sterling [renminbi] is the actual currency.)

I do believe a warning shot has just been fired across the bow of the Federal Reserve.

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Monday Post #3: Epic day on stock market

If you thought you would never live to see another day like we saw during the 2008 Financial Crisis, today you learned never to say never.

Today's -634.76 plunge in the Dow Jones Industrial Average (DIJA) was the 6th largest absolute point drop in DJIA history and it followed last Thursday's massive 500 point drop.

Of the five previous and larger historical drops, four came in 2008 and one back in 2002.

All the gains from QE 1 and QE 2 (whose entire purpose according to Ben Bernanke on CBS's 60 Minutes was to inflate the stock market and create a wealth effect) is now gone.

Politicians and the establishment are looking for a scapegoat for today's stock massacre. And all eyes are on the ratings agency Standard and Poor's.

But America’s credit rating was punished by S&P because US politicians failed to reach an adequate solution to the country’s massive debt woes which are nearing 100% of GDP. The deal to raise the debt ceiling did nothing to significantly deal with the debt issue.  10 years from now America will have a $26 Trillion dollar debt instead of a $28 Trillion debt... big whop!

That's why S&P downgraded.

World governments have gone on the offensive against S&P, slamming the rating agency and trying to discredit the firm’s financial calculations without acknowledging the underlying premise– that America lacks a credible plan to deal with its crisis.

But the one defender of S&P has been PIMCO's Bill Gross, the hugely successful bond fund manager and the co-chief investment officer of the company's flagship, the Total Return fund, which has $158 billion in assets.

Gross says S&P has said what everyone is thinking but afraid to say it for fear it would insult the US administration. Because let's face it... everyone criticized S&P over being far too late to properly rating the subprime mess.  At least they have the guts to finally step against the tide of conventional sycophantic wisdom and tell everyone even a modest part of the whole truth.

Said Gross:

• "I have been criticizing them and Moody's and Fitch for a long time. Moody's and Fitch are on the "S" list. I think S&P finally demonstrated some spin. S&P finally got it right. They spoke to a dysfunctional political system and deficits as far as the eye can see. They are enforcing some discipline. My hat is off to them."

So what comes now?

The G7 finance ministers have pledged to take any steps necessary to calm markets and “avert collapse in world confidence.” But here’s the thing: All governments can do is print, borrow, or steal from taxpayers via taxes.

These are exactly the policies that created a loss of confidence to begin with, and now they are pledging to restore confidence by doing the exact same things. If they take action, the situation will only get worse. If they don’t take action, the markets will panic and the situation will only get worse.

Trillions of dollars are sloshing around in the financial system right now desperately seeking some modicum of safety. With the wave of downgrades and money creation that’s coming, few asset classes look stable.

Thus as nevous investors panic, Gold and Silver will start to look even more attractive to a lot of investors.

And in a shocking turn of events, a member of the JP Morgan staff (Colin Fenton) came out with a client note that predicted Gold hitting $2,500/oz before year end:

• "Gold and sugar have potential to run a lot higher. It has been clear for weeks that the prompt CMX gold price has been building in a rising probability of a reflaring of financial crisis, gaining by 9.7% since June 30 as the MSCI World Equity index dropped by 10.1%. The correlation in daily price changes between these two assets has dropped to –0.09 from +0.29 over the prior year. Gold’s correlation against TIPS has doubled to 0.35 from 0.18. Against Italian and Spanish 5-year sovereign CDS prices, the gold correlation has moved to 0.27 and 0.32, from 0.07 and 0.04, respectively. Before the downgrade, our view was that cash gold could average $1800 per oz by year end. This view will likely now prove to be too conservative: spot gold could drive to $2500 per oz or higher, albeit on very high volatility."

The US Federal Reserve meets tomorrow.

Will they act to try to counter the negative psychology in financial markets with some  from of QE3?

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Monday Post #1: On the topic of Printing Presses

The pure definition of inflation is "an increase in the money supply".

Excessive expansion of the money supply leads to loss of confidence. That's why Yu Yongding, a former member of the Monetary Policy committee of the Chinese Central Bank, said yesterday that the situation:

• "is ultimately unsustainable. The longer it continues, the more violent and destructive the final adjustment will be.... The danger for China is that it does not learn the right lesson - namely, that now is the time to end its dependency on the US dollar."

Greenspan has made it clear what the United States intends to do.

How long before China accepts what it must do?

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QE3? What Bernanke had to say...

So there has been considerable debate about whether or not there will be a third round of Quantitative Easing by the US Federal Reserve and whether or not Silver and Gold will be moving higher in value as a result.

Well... today US Federal Reserve Chairman Ben Bernanke appeared before Congress and here is how the appearance was reported:

• While the Federal Reserve believes that the temporary shocks holding down economic activity will pass, the central bank is examining several untested means to stimulate growth if conditions deteriorate, including another round of asset purchases, dubbed QE3, Fed chairman Ben Bernanke said Wednesday in remarks prepared for the House Financial Services Committee. Bernanke discussed three approaches to further easing in his prepared remarks. One option, Bernanke said, would be for the Fed to provide more "explicit guidance" to the pledge that rates will stay low for "an extended period." Another approach would be another round of asset purchases, or quantitative easing, or for the Fed to "increase the average maturity of our holdings." Finally, the Fed could also reduce the quarter percentage point rate of interest that it pays to banks on their reserves, "thereby putting downward pressure on short-term rates more generally." Bernanke was clear to stress that easing was not the only option under consideration and that the next Fed move could well be to tighten.

You get a sense of how desperate things are getting when Bernanke starts talking about "several untested means to stimulate growth."

This phrase is important as it hearlds what is coming.

The weakening economy and upward pressure on interest rates due to oversupply will cause further Fed intervention, even if it isn’t called QE3.

At his post-Federal Open Market Committee (FOMC) press briefing, Bernanke indicated that if job growth falls below 80,000 per month, the Fed would likely intervene again. Well... job growth has now been below 80,000 for two consecutive months.

So what will Bernanke do?

Forbes took a look back at some of Bernanke's speeches and believes they have pieced together what is coming.

On November 21, 2002, Ben Bernanke gave a talk before the National Economists Club of Washington, D.C. entitled ‘Deflation: Making Sure ‘It’ Doesn’t Happen Here’.

In that talk, Bernanke ostensibly outlined all of the tools available to the Fed if the overnight (Fed Funds) rate hit zero. At the time of the speech, deflation wasn’t expected in the foreseeable future, so he would have no reason not to outline all the tools he could think of. Here is what he suggested:

• #1: Expand the scale of asset purchases;
• #2: Expand the menu of assets the Fed buys.

Both QE1 and QE2 used these tools. In QE1, the Fed purchased non-traditional assets for its portfolio, including mortgage backed securities (MBS) and derivatives. In both QE1 and QE2, the “scale” of asset purchases was dramatically increased.

• #3: A commitment to holding the overnight rate at zero for some specified period.

This tool is currently in practice with the Fed’s “extended period” language in the Federal Open Market Committee (FOMC) minutes.

• #4: Announcement of explicit ceilings on longer-maturity Treasury debt.

This isn’t new. The Fed did this in the 1940s and a version of it again in the 1960s. During a period of approximately 10 years ending with the Federal Reserve-Treasury Accord of 1951, the Fed “pegged” the long-term Treasury bond yield at 2.5%. And, during the Kennedy Administration, the Fed sold T-bills and purchased an equal amount of longer dated T-Notes in order to reduce long-term rates. Bernanke believes that the announced policy of pegging will cause arbitrageurs to keep yields near the announced peg, especially if the Fed intervenes several times to prove its commitment.

• #5: Directly influencing the yields on privately issued securities.

Bernanke said, "If the Treasury issued debt to purchase private assets and the Fed then purchased an equal amount of Treasury debt with newly created money, the whole operation would be the economic equivalent of direct open-market operations in private assets."  Think GM, Chrysler, AIG.

• #6: Purchase foreign government debt.

The Fed would do this, Bernanke explains, to influence the market for foreign exchange, i.e., to weaken the dollar. He points to the dollar devaluation of 1933-34 as an “effective weapon against deflation”. “The devaluation and the rapid increase in the money supply it permitted ended the U.S. deflation remarkably quickly … The economy grew strongly, and by the way, 1934 was one of the best years of the century for the stock market.” (While this is true, a mere two years later, after the withdrawal of government stimulus, a second severe recession began, one that would last until the U.S. geared up for World War II. And the 1937 slump in stocks was one of the largest on record.)

• #7: Tax cuts accommodated by a program of open market purchases.

“A money-financed tax cut is essentially equivalent to Milton Friedman’s famous ‘helicopter drop’ of money”, he said in the speech. (Hence his nickname – Helicopter Ben.) The extension of the Bush tax cuts along with the reduction in the social security payroll tax is a recent example of this policy.

These 7 tools are non-traditional, and Bernanke admits that by using them, the Fed “will be operating in less familiar territory” and will “introduce uncertainty in the size and timing of the economy’s response to policy actions”.

Nevertheless, Bernanke says, “a central bank whose accustomed policy rate has been forced down to zero has most definitely not run out of ammunition … A central bank … retains considerable power to expand aggregate demand and economic activity even when its accustomed policy rate is zero.”

Today, any objective economist will tell you that, despite all of the monetary and fiscal stimulus, aggregate demand and economic activity has been minimally impacted. At the July post-FOMC press briefing, Bernanke admitted that he has no explanation as to why the economy has remained “soft”. Nevertheless, as stated above, in an election cycle, the Fed would be expected to do “something”.

Of the seven available tools, #1 appears to have been taken off the table, and #3 is presently employed. Tools #5 and #7 have been used, and may be employed again. #5 was heavily used in the financial crisis (GM, Chrysler, AIG), and #7 requires the cooperation of Congress (tax cuts).

The Fed said that it won’t reduce the size of its balance sheet in the near future, holding it steady like a rock, but will invest or roll any maturities or payoffs back into the market. Hence, the Fed has already embarked upon a policy of what we will call Rock ‘N Roll. As part of Rock ‘N Roll, we also expect the Fed to change the composition of its balance sheet to attempt to impact yields on private sector bonds (#5).

Over the past 2 years, Fed actions appear to have had little impact on aggregate demand. In 2002, when he outlined these non-traditional tools, Bernanke said he had no idea of the magnitude of their effectiveness.

Bernanke is now fully into speculation  mode when it comes to trying to 'fix' the economy.

This isn't a man implementing sound economic principles... rather what we now have is a sorcerer's apprentice practicing his craft.

He is experimenting... with no idea of what will - or won't - work.

The reaction from Silver and Gold today were predictable. Gold hit new all-time highs and Silver was up over $2 per ounce at one point.

John Embry, Chief Investment Strategist at Sprott Asset Management, was commenting on the move today and noted something we had posted about in our past two posts:

• What’s been fascinating, and what was unappreciated by me in the early stages, was the enormous number of derivatives that have been created in the financial system. Because of the derivatives they’ve been able to keep this thing going for infinitely longer than any rational mind would have thought possible. You’ve been able to create leverage to the extent that you’ve never seen before and this is why I think the bubbles were able to get stretched out and last as long as they did. Because the balloon was blown up so much, I just think the aftermath in its finale is going to be extraordinarily unpleasant.”

Warren Buffet called derivatives "financial weapons of mass destruction" and as the economy continues to unwind, we are seeing this play out in spades.

The Federal Reserve has no real game plan for how to deal with it all.

And the flight to Gold and Silver will only intensify from this point onward.

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The Debt Days of Summer

Faithful readers know that I am fond of saying that many of us still do not appreciate the depth, and breadth, of the financial crisis that shook the world in 2008.

It was a profound financial earthquake, the effects of which still have a long ways to play out. In fact the main cause of the financial crisis has only grown bigger and has become a massive threat.

At the heart of the crisis are over-the-counter derivatives (OTC Derivatives) and credit default swaps (CDS), financial products which have been called 'weapons of mass destruction' by critics.

Just before Lehman Bros. collapsed, Wall Street firms were carrying risky financial derivatives on their books with a value of an astonishing $183 trillion.

$183 trillion!!!

That was 13 times the size of the U.S. economy. Since then that figure has grown to $248 trillion!

The 'too big to fail' banks and many other 'too big to fail' companies are  trading OTC derivatives without any collateral backing up the trades.  And as the debt load crashes inward, everything has become about protecting those 'too big to fail' (TBTF) players from massive losses. This has been done by passing those losses onto the taxpayer instead.

The OTC derivatives dealer banks involved in these derivatives speculations are the sole reason why Europe cannot let the PIIGS countries (Portugal, Ireland, Italy, Greece, Spain) default on their debt - even though default is exactly what is needed to solve the problems.

The European Central Bank (ECB) has a €444 billion in PIIGS exposure. All it would take is a 4.25% drop in asset values and the ECB would be bankrupt.

US banks have over $350 Billion in exposure to the PIIGS. If any of the PIIGS fail, more than a few domestic US banks will be wiped out.

But rather than taking the hit and allowing this debt to be destroyed (and those who made the risky bets take the losses), the intricate weave of this derivative disaster is why the Federal Reserve is frantically financing European banks to keep it's crony banker system afloat.

It is what has turned a normal recession into a long term depression.

QE2 was a $600 Billion bailout of European banks according to released Federal Reserve documents.

And the latest bailout tranche paid to Greece by the IMF was nothing more than another $780 million dollars given by US taxpayers to hedge funds.

That's because the actual Greek debt is no longer owed by European banks to the extent it had been previously expected.

As the banks have been selling Greek debt, it has been mostly hedge funds who have been buying it.  The IMF just approved a €3.2 billion ($4.6 Billion) disbursement of cash for Greece, its fifth, as part of the €12 billion in money that Greece needs in order to continue operating in the months f July and August. The entire amount will be promptly recycled by global financial institutions in the form of debt maturities and interest payments, which amount to €18.2 billion in the months of July and August. Simply put - ECB, EU and IMF money in, money owed to bankers out. And 17.09% of the money coming from the IMF, comes from the US taxpayer.

Thus US taxpayers have just paid out about $780 million (of the $4.6 billion IMF bailout) in order to fund interest owed to hedge funds.

If it wasn't paid, Greece would default... triggering massive losses from the OTC derivatives and credit default swaps to the 'too big to fail' banks and companies.

There are only two ways for this to go: allow debt to be destroyed (and trigger a massive Depression) or print massive amounts of money.

The financial crisis still has a long ways to play itself out.

And you know which way things are going to go: QE3 will happen.

The printing presses haven't even begun to crank out their excess dollars yet.

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Is Bernanke preparing to seriously devalue the US dollar vs Gold?

Yesterday we wrote about how the large commercial shorts in Gold and Silver - the largest, best funded and presumably the best informed traders of gold and silver futures on the planet - complete a historic one-week drop in their net short positioning for Gold and Silver futures traded in New York on the COMEX division of the CME.

This accelerates a pattern undertaken when the price of Silver was hammered down by 35% at the start of May.

This all plays out as QE2 is coming to an end and the Federal Reserve announces there are no plans for QE3.

Nobody reasonably believes there will be no form of QE3, but many pundits have speculated that there will be a break between QE2 and QE 3.  And during that time those same pundits expect the stock market - and commodities - to take a big hit.

So why are the commercial shorts bailing?

There are a great many people who believe they know what's coming next from the Federal Reserve.  They say Ben Bernanke has already told us.

As a Princeton professor in the 1990s, Ben Bernanke lectured Japanese officials for mishandling their economy. Then, in 1999, Bernanke took Japanese officials to task for failing to get their economy moving.

If you go back to that time, it had been 10 years since Japan's stock market peaked in 1989. The decade between 1989 and 1999 had been devastating (and eerily similar to what is happening in the US now).

Japan's property bubble popped in 1991. After that it averaged annual growth of just 0.7%. Its national government debt has soared to more than 200% of its national output. And during seven of those 10 years its consumer prices fell.

All this happened even though the Bank of Japan has held short-term interest rates at or near zero and had taken other stimulative steps such as buying government bonds and short-term corporate debt.

As Japan failed to pull itself out of it's malaise, Bernanke spoke from his ivory tower lectern:

• "Among the more important monetary-policy mistakes (of Japan) were... the failure to ease adequately during the 1991-94 period, as asset prices, the banking system, and the economy declined precipitously... What more could the BOJ do? Isn’t Japan stuck in what Keynes called a “liquidity trap”? I will argue here that, to the contrary, there is much that the Bank of Japan, in cooperation with other government agencies, could do to help promote economic recovery in Japan."

Bernanke listed his recommendations, most of which he has also applied in the United States as Federal Reserve Chairman.  And as those policies have failed to take traction (viewed as sweet vindication by those Japanese officials he lampooned), Bernanke isn't done with his 1999 recommendations.

• "Franklin D. Roosevelt was elected President of the United States in 1932 with the mandate to get the country out of the Depression. In the end, the most effective actions he took were the same that Japan needs to take - namely, rehabilitation of the banking system and devaluation of the currency to promote monetary easing."

Many pundits believe that QE3 is going to come in a different form from what we have seen already.

In  1932, Roosevelt proceeded to the next step: currency devaluation vs. gold to promote monetary easing.

Bernanke has staked his entire reputation on being the great student of the Depression.  In his 1999 speech he said:

• "But Roosevelt’s specific policy actions were, I think, less important than his willingness to be aggressive and to experiment - in short, to do whatever was necessary to get the country moving again. Many of his policies did not work as intended, but in the end FDR deserves great credit for having the courage to abandon failed paradigms and to do what needed to be done. Japan is not in a Great Depression by any means, but its economy has operated below potential for nearly a decade. Nor is it by any means clear that recovery is imminent. Policy options exist that could greatly reduce these losses. Why isn’t more happening? To this outsider, at least, Japanese monetary policy seems paralyzed, with a paralysis that is largely self-induced. Most striking is the apparent unwillingness of the monetary authorities to experiment, to try anything that isn’t absolutely guaranteed to work. Perhaps it’s time for some Rooseveltian resolve in Japan."

Is currency devaluation vs Gold Bernanke's plan for QE3? Is Bernanke preparing to "try anything that isn't absolutley guaranteed to work" including allowing Gold to rise substanially vs the US dollar?

Is that why the commercial shorts - who work in tandem with the Federal Reserve to suppress Gold and Silver to support the US dollar - are now bailing on their shorts at a historic pace?

Interesting times indeed.

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