Losing Confidence in Central Banks
A major theme that seemed to keep coming up for me this week was the topic of confidence in central bankers. It’s clear to me that markets are not driven by business fundamentals but rather by what central bankers plan to do next at any given moment. I routinely see headlines such as “Wall St dips, but hopes grow for central bank actions” [1, Reuters] or “European stocks hit multiyear highs on hopes for ECB easing.” [2, Market Watch] Whereas it should be economic activity and growth that fuels increases in the stock market, it’s central bank intervention that is truly fueling these increases. The big news this week was the European Central Bank’s announcement of American style quantitative easing in which they will print 60 billion euros per month for 16 months [3, Peak Prosperity], which is actually an increase from what was leaked to the press earlier in the week. [4, RT] In a podcast discussion between Chris Martenson of Peak Prosperity and Mish Shedlock of Mish’s Global Economic Trend Analysis, the real reason for quantitative easing (money-printing) is called into question. Central bankers frequently suggest that this money-printing is done in order to spur lending and therefore stimulate the economy. However, in Europe the banks have so much cash on hand that they have to deposit all the excess cash at the central banks, which currently have negative interest rates as low as -0.75%. So banks are essentially opting to pay money to keep all their excess cash rather than lend it out – which flies in the face of the theory that banks need more money to be able to lend more. Rather, Chris and Mish put forth that the real reason for money-printing is to devalue the currency and enable debt accumulation and deficit spending so that actual structural reforms can be avoided. Basically: kick the can down the road.  Another point worth adding here, not one that I read this week, is the possibility that banks refuse to lend (despite having access to free money) because they want to build up their own cash reserves to cover debts held on their books. In other words, they’re insolvent.
So, if our collective confidence in the coordinated efforts of central banks around the world to lead us back to prosperity suddenly starts to falter, then what happens? In my post last week I mentioned the big news about the Swiss National Bank (SNB) un-pegging the Swiss franc from the euro. Turns out this was a major surprise not just to the “too big to fail” banks, but even to other central bankers. Currency traders have been trading Swiss francs under the false assumption there was little to no risk because the SNB had promised to keep the exchange rate between francs and euros fixed. Because of the surprise move, Citigroup is estimated to have lost between $150-200 million and foreign exchange broker FXCM received a $300 million bailout. More important than the financial blow taken, this is a huge blow to the trustworthiness of central bankers. It’s safe to say investors may become more hesitant to trust these central bankers, and once this confidence begins to erode there’s a good chance the markets could go bust. [5, Peak Prosperity] In a podcast with Alex Merk, President and Chief Investment Officer at Merck Investments, Alex states that “central bankers are effective as long as there’s credibility.” By manipulating markets, central banks coerce people into making risky investments by making them appear less risky. As the SNB’s move has shown, “risk can come back with a vengeance.” He points out that all the headlines from the SNB’s move are of people losing massive amounts of money. There are no headlines of people making money. With decreased confidence in central bankers will come increased volatility and because “volatility is the enemy of inflated asset prices” this is why we should expect asset prices to start dropping. [6, Peak Prosperity] Nomi Prins, best-selling author of All the President’s Bankers, would agree with this. She says, “Last year, we had volatility spikes in August, October and December. This year, we’ve already had a spike in January. So, the shocks are coming in more closely and the downsides are deeper. That’s why we are transitioning down. At the end of this year, we will have a lower market. It will start to come apart, and these shocks will have a more intense volatility and chaotic impact over this year. That will basically start to unravel all of this money that’s been dumped and the way in which this money has held up a system that should not be held up. It has no inherent value.” [7, USA Watchdog]
An interesting topic that got floated into the mainstream media news by analyst Ben Dyson this week is the idea of the ECB just giving 1,500-2,000 euro checks directly to European citizens rather than giving it to banks. [8, RT] Chris Martenson touched on it briefly in his podcast with Mish Shedlock and suggested this would be a last-ditch effort by central banks to force inflation, and if it happens it would be an immediate devaluation of the currency and he would start buying whatever hard assets he could.  I think we’re a long way off from something like that but nonetheless if it’s in the mainstream media then the idea has some legs somewhere. What’s more likely is that we continue to see a further reduction in coordination between the various central banks as country’s become more and more desperate and taking measures in the interest of self-preservation. This is exactly why the SNB un-pegged itself from the euro – because it knew the ECB was likely to start printing money, which would force it to buy absurd amounts of euros at its own detriment. Therefore it cut ties before the ECB’s quantitative easing could go into effect, and did it without so much as telling anybody anywhere ahead of time. The more and more uncoordinated the central banks become, the less and less confidence the markets will have in them, which will accelerate the market declines described above. [5-6]
What’s interesting and much less reported in the news is that despite the central banks’ outward belief that they can fix the fiat currency based economies of the world by printing more money, there has been an increase in sovereign repatriation of gold. The latest on this is Germany, who just reported successful repatriation of 122.5 tons of gold from the US and France, which is 20% of all their overseas gold. They now join Austria, France, Belgium, Ecuador, Finland, Switzerland, Venezuela, Romania, and Poland in efforts to repatriate gold from locations that have otherwise been considered safe since the end of World War II. Jeff Opdyke of The Sovereign Investor Daily states, “These countries want their gold back because they’ve lost trust in the global banking system that they themselves are the very heart of. They’re the wizards behind the fiat-currency curtain … and even they are scared!” [9, Sovereign Investor]
The message behind all this seems clear to me. The financial system as we know it is failing due to an abuse of the central bankers’ ability to print money in a world of fiat currencies. Deficit spending has led to crippling debt and central banks engage in money-printing to kick the can down the road and avoid the nasty business of making actual structural changes. Eventually the markets will lose their confidence in the central bankers and a financial crisis will erupt that will eventually lead to a currency crisis. Central banks know this and many are actively repatriating gold to have something of actual value once their dollars, euros, yen, rubles, and yuan have lost all their value. To put this into perspective, look at the 2008 “crash” that almost crushed the entire world financial system:
So what am I doing? Many things, but one piece of action I took this week is to move any remaining money I still have at Bank of America to another bank. For a while now I’ve been looking for a ranking of banks with the highest exposure to financial crisis. I finally found one:
Bank of America is ranked third on the list of derivatives exposure and as such I’ve opted to keep my money at a bank that isn’t on the list so that if a financial crisis comes I’m less exposed to the risk of losing my money to an insolvent bank. This seems like a no-brainer to me, especially with talks of not bailing out the banks if another crisis comes as it did in 2008.
Peak Oil is Here
Although confidence in central banks was the biggest focus of my attention this week, there were other articles that caught my attention as well. Somewhat related to topic above is oil. Because all of the “growth” in the economy has been manufactured by central banker manipulation, the demand for oil has been declining since there’s not enough real economic growth to support high oil prices. John Greer of the Archdruid Report blog writes, “To maintain economic production at any given level, the global economy has to produce enough real wealth — not, please note, enough money, but enough actual goods and services — to cover resource extraction, the manufacture and replacement of the whole stock of nonfinancial capital goods, and whatever level of economic waste is considered socially and politically necessary. If the amount of real wealth needed to keep extracting resources at a given rate goes up steeply, the rest of the economy won’t escape the consequences: somewhere or other, something has to give.” In this case, it was the price of oil. [11, Archdruid] With oil prices dropping over 50% in only half a year’s time, the only oil that will be cost effective to continue drilling will be from conventional wells. Unfortunately conventional wells do not produce enough oil to meet world demand, so in time the laws of supply and demand dictate the cost of conventional oil will increase as well. This will in effect become a self-perpetuating feedback loop of demand destruction by which world oil production begins to vanish.
This is already playing out. Since the drop in prices, Norway’s Statoil has let three of of its exploration licenses expire in Greenland. Tullow Oil has dialed back drilling plans and slashed exploration spending by 80%. BP announced it would layoff 300 workers, similar to ConocoPhillips’ move last month to layoff 230 workers. Shell has cancelled plans with Qatar Petroleum to build a $6.5 million petrochemical plant, the second $6+ million petrochecmical plant to be scrapped since September. Mexico has decided to delay bidding for shale deposits. The number of drilling rigs in North Dakota has dropped to its lowest level since 2010, and in Texas an estimated 140,000 jobs could be cut by the end of the year. The effects of this won’t be immediate, in part because there is still a backlog of shale wells still awaiting completion, but rest assured this is just the beginning. [12, OilPrice.com]
The World on a Tight Fuse
The US continues to wage financial warfare against Russia and Russia continues to work towards de-dollarization in order to protect itself. Fitch and Moody’s, one of three rating firms that serve as guides for investment risk, just downgraded Russia to below investment grade and just one notch above what’s considered junk. As reported by RT, “Lower ratings will likely result in less foreign investment, worsening Russia’s economic woes. In 2014, more than $150 billion in capital left Russian banks and companies, more than the record $133.5 billion that left in 2008 when the financial crisis hit.” Needless to say there is continuously growing resentment in Russia and allegations that this is all politically motivated. [13, RT] During his State of the Union Address, Obama boasted that “today, it is America that stands strong and united with our allies, while Russia is isolated, with its economy in tatters.” Russian Deputy Prime Minister Rogozin responded by saying “Obama has claimed that the Russian economy [is] in tatters because of the United States. Like he has torn us like a dog would tear a rag.” [14, RT] Russian Foreign Minister Lavrov also chimed in by stating “Americans are absolutely non-critical in assessing their own steps, and yesterday’s speech by Obama shows that the core of their philosophy is: ‘we are number one’. And all the rest should accept that.” [15, RT]
Of course, in addition to continued strong rhetoric from Russia they have been matching it with action. Russia and China are now in the process of establishing their own rating system called the Universal Credit Rating Group that will serve as a counterbalance to the “big three” Western rating institutions. Its first rating will be issued in 2015.  China, in addition to the joint move with Russia to make their own rating institution, has signed a pact with Switzerland’s central bank to establish a yuan trading center in Zurich. China has been actively positioning the yuan as an alternative to the US dollar and this is simply another step towards continued de-dollarization of the world. [16, RT]
It’s my continued opinion that the US keeps digging itself deeper and deeper into a hole with Russia. The harder it pokes Russia, the faster Russia continues to sign big deals with China that move the world further away from dollar hegemony. The past year was terrible for American-Russian relations, and I fear 2015 will continue to get worse. The further along this story plays out the more it’s starting to smell like eventual armed conflict. The US has become strikingly effective at creating enemies in all corners of the globe. In comments broadcast on both RT and CNN, US philosopher Noam Chromsky pointed out the hypocrisy of American foreign policy, identifying two forms of terrorism: “theirs and ours.” Speaking specifically of Obama’s unprecedented usage of the American drone program, he states, “The drone campaign is by far the biggest terrorist campaign in the world. It’s never described that way but that’s of course what it is. Furthermore it’s a terrorist generating campaign. From the highest levels and most respected sources it’s recognized that the drone attacks create potential terrorists on quite a substantial scale. Therefore it’s a threat to US security, apart from being a terrorist campaign in itself, and almost never discussed.” [17, RT]
All of this is to say that the the world is on a tight geopolitical fuse, and there are a number of hot issues around the world that at any moment could be a trigger for instability in the financial markets. Nobody can know for certain which trigger may get pulled or when, but everybody should be aware of just how fragile the whole system is. Between central bank manipulation of markets, plunging oil prices hastening peak oil, moves away from dollar hegemony, and geopolitical tensions that could spark further armed conflict at any moment – we are in for a potentially roller coaster 2015. Buckle up.
- “Wall St dips, but hopes grow for central bank actions.” Reuters, Jan 20 2015.
- “European stocks hit multiyear highs on hopes for ECB easing.” Market Watch, Jan 20 2015.
- “Off the Cuff: Central Banks Gone Wild.” Peak Prosperity, Jan 23 2015.
- “Europe’s €500bn plan to save itself from economic ruin.” RT, Jan 19 2015.
- “The Consequences Playbook.” Peak Prosperity, Jan 21 2015.
- “Axel Merk: Why Asset Prices Must Return to Lower Levels.” Peak Prosperity, Jan 24 2015.
- “We Are in a Financial Melt Down – Nomi Prins.” USA Watchdog, Jan 18 2015.
- “EU better off with ‘helicopter checks’ not QE.” RT, Jan 22 2015.
- “Countries Race to Repatriate Gold, Reveals Concern Over Impending Financial Crisis.” The Sovereign Investor Daily, Jan 21 2015.
- “When This Ends, Everybody Gets Hurt.” Peak Prosperity, Jan 21 2015.
- “March of the Squirrels.” The Archdruid Report, Jan 14 2015.
- “Oil Industry Withdraws From High Cost Areas.” OilPrice.com, Jan 17 2015.
- “Russian Central Bank voids Standard & Poor’s, Moody’s, Fitch ratings.” RT, Jan 19 2015.
- “‘What a dreamer!’ Rogozin ridicules Obama claim of Russian economy in ruins.” RT, Jan 21 2015.
- “Lavrov on Obama speech: Efforts to isolate Russia will fail.” RT, Jan 21 2015.
- “China, Switzerland sign deal on yuan trading in Zurich.” RT, Jan 22 2015.
- “Two ways of terrorism: theirs v ours – Chomsky lambasts US for drone attacks and media deaths.” RT, Jan 20 2015.