Asian Crisis Follow-up

What I tried to establish with my last post is that we don't need money printing to have the dollar collapse by 40, 60 or 80%. (cost of living increase by 60 or 80%) What I am going to get into here is why the dollar will hyperinflate and why the Asian tiger currencies didn't. Motely Fool asked about this..

Here's a look at the balance of payments data back to 1980 (BEA data here), demonstrating graphically Don Boudreaux's statement that (under the creation that is Bretton Woods 2) "another name for a trade deficit” is a "capital-account surplus” – that is, inflows of investment funds into America or where ever that supply (directly or indirectly) financing for more of something. In the US's case, vendor financed consumption and government waste on a mass scale.

As a direct consequence of the current account deficits, the U.S. economy has been the beneficiary (only a benefit if it invested productively)of more than $8 trillion worth of capital inflows from foreigners since 1980. Because the Balance of Payment accounts are based on double-entry bookkeeping, the annual current account and capital account have to net to zero, so that any current account (trade) deficit (surplus) is offset one-to-one by a capital account surplus (deficit) and the balance of payments therefore always nets out to (equals) zero. And that's why it's called the "balance" of payments, because once we account for trade flows and capital flows, everything balances, and there are no deficits or surpluses on a net basis. 

 

Now I am going to simplify some things and make a chart of South East Asia's balance of payments from say 1985 to 2001 that will capture the Asian financial crisis and  the end result. Not all countries actually came to a full balance of payments but enough equilibrium was met to start a recovery, generally speaking.  When I said simply, I meant simplify.... Click to enlarge it.

A boom is a boom, they all take the same shape, they all look the same. More on that later... But there is a big burden that the boom in the US carries that Asia didn't. Legacy government entitlement spending. Compared to the US, in SE Asia, there is no social security, there is no medicare or medicade. There is no life insurance, there is no pension ponzi schemes. The majority of society literally lives within its means. The kids take care of their elderly parents.  When the boom burst in Asia(the capital took flight), the people effected could go back to their debt free lifestyle in the villages. The agrarian way of living was still there to fall back on.  All they had to lose was their property boom, not much else. They did actually manage to get some decent infrastructure out of the whole ordeal. 

 

But in the US, it is a diffrent story. American people have more to lose then a property boom.  They have their whole way of life to lose. The whole soceity literally lives beyhond its means because they have come to rely  on government entitlement spending. Govt spending is the thin red line.

 

So when the capital takes flight, the people that live off government spending are still there, waiting to pick up their pension checks, their insurence checks, their food stamps, their welfare, their medical care, their everything. What can the Fed or the treasury do ? Let everyone starve ?  They will be forced to print newly created dollars to cover the government liabilities. And that is the process of hyperinflation.

More on how booms look. This is the official chart of the balance of payments of Lithuania....

What happened here......


The economy of Lithuania was one of the fastest growing in the world last decade (1998–2008) as GDP growth rate was positive 9 years in a row. Since the year 2000 GDP has almost doubled with a growth rate of 77%.

One of the most important factors for substantial economic expansion was the accession to capital and trade between European  states. On the other hand, rapid economic expansion has caused some imbalances in inflation and balance of payments. The current account deficit to GDP ratio in 2006–2008 was in double digits and reached its peak at threatening 18.8% in the first quarter of 2008. This was mostly influenced by rapid loan portfolio growth as Scandinavian banks provided cheap credits in Lithuania. The loans directly related to acquisition and development of real estate constituted around half of outstanding bank loans to the private sector.(Real estate strikes again...) Consumption was affected by credit expansion as well. This led to high inflation of goods and services, as well as trade deficit.

The global credit crunch which started in 2008 affected the real estate and retail sectors. The construction sector shrank by 46.8% during the first 3 quarters of 2009 and the slump in retail trade was almost 30%. GDP plunged by 15.7% in the first nine months of 2009.

There will only be one difference with the fate of the US, a date with hyperinflation.....

The Forgotten Crisis And What Every Financial Pundit Didn't Learn From It

Imagine there was a financial crisis that involved similar circumstances to the one we are dealing with right now and we knew how it ended. There would be no inflation vs deflation debate because we would have the answer right in front of us. .........Well guess what....There was one and we know how it ended. For some reason though, every econo-financial pundit, no matter what school of thought they are from, have forgotten about it. Wether it is Gonzalo Lira, Jim Rogers,  Max Keiser, Martin Armstrong, Karl Denninger, Mish the idiot,  or the vast misinformed crew of keynesians that spew their nonsense all over the  financial world, not one of them has ever mentioned the Asian Financial crisis. If they have then please let me know.

 The causes of the Asian financial crisis are many and disputed. At the time of the mid-1990s, Thailand, Indonesia and South Korea(440 million people, excluding China and Japan) had large current account deficits.cough..cough..US.. anyway, Many economists believe that the Asian crisis was created by market psychology and policies that distorted incentives within the lender–borrower relationship.(ala China US) The resulting large quantities of credit that became available generated a highly leveraged economic climate, and pushed up asset prices, mainly real estate, to an unsustainable level. These asset prices eventually began to collapse, causing individuals and companies to default on debt obligations. The resulting panic among lenders led to a large withdrawal of credit from the crisis countries, causing a credit crunch and further bankruptcies. In addition, as foreign investors attempted to withdraw their money, the exchange market was flooded with the currencies of the crisis countries, putting depreciative pressure on their exchange rates. To prevent currency values collapsing, these countries' governments raised domestic interest rates to exceedingly high levels (to help diminish flight of capital by making lending more attractive to investors) and to intervene in the exchange market, buying up any excess domestic currency at the fixed exchange rate with foreign reserves. (Indonesia had foreign exchange reserves of more than $20 billion)
Neither of these policy responses could be sustained for long. Very high interest rates, which can be extremely damaging to an economy that is healthy, wreaked further havoc on economies in an already fragile state, while the central banks were hemorrhaging foreign reserves, of which they had finite amounts. When it became clear that the tide of capital fleeing these countries was not to be stopped, the authorities ceased defending their fixed exchange rates and allowed their currencies to float. The resulting depreciated value of those currencies meant that foreign currency-denominated liabilities grew substantially in domestic currency terms, causing more bankruptcies and further deepening the crisis.

So what happened to the currencies ? Did the "debt deflation" within the respective economies cause their currencies to rise ? Because as the deflationists say...."there will be less currency in circulation as debt defaults" Lets see.....

Thai Baht. The Baht fell swiftly and lost more than half of its value. The Baht reached its lowest point of 56 units to the US dollar in January 1998.

Indonesian Rupiah .Before the crisis, the exchange rate between the Rupiah and the dollar was roughly 2,600 rupiah to 1 USD.The rate plunged to over 11,000 rupiah to 1 USD on 9 January 1998, with spot rates over 14,000 during January 23–26. I mentioned that Indonesia had forex reserves of 20 billion dollars in 1997. At the 1997 gold price of $300 an oz, that is equal to 1890 tonnes of gold.. The USA has around 50 billion in forex reserves in 2011. At today's price that's 810 tons of gold.

South Korea. The South Korean Won weakened to more than 1,700 per dollar from around 800.

The Philippines. The peso dropped from 26 pesos per dollar at the start of the crisis to 54 pesos in early August, 2001.

Malaysia. The ringgit had lost 50% of its value, falling from above 2.50 to under 4.57 on (Jan 23, 1998) to the dollar.

Singapore. There was a gradual 20% depreciation of the Singapore dollar.

China. Unlike investments of many of the Southeast Asian nations, almost all of China's foreign investment  took the form of factories on the ground rather than securities, which insulated the country from rapid capital flight.   Funny that.....How many factories does the US dollar have to insulate it from capital flight ?

Japan. The Japanese Yen fell to 147 as mass selling began, but Japan was the world's largest holder of currency reserves at the time, so it was easily defended, and quickly bounced back. Funny that too.....How much foreign reserves does the US have to defend the dollar ? Just under 50 billion actually. About $100 per person. Just for some perspective, Switzerland today has $40,000 per person in foreign reserves. And the consensus is that the dollar is the best of the fiat currencies today hahaha. That's a topic for a whole other post though.


Comparing the United States and the dollar bloc to Zimbabwe is just plain wrong at best and stupid at worst, yet that is what everyone seems to bring up.The Asian financial crisis is the proper comparison.

Thailand, Indonesia and South Korea(440 million people) had large current account deficits.-Check
Market psychology and policies that distorted incentives within the lender–borrower relationship.-Check
a highly leveraged economic climate, and pushed up asset prices to an unsustainable level. These asset prices eventually began to collapse, causing individuals and companies to default on debt obligations. -Check

The resulting panic among lenders led to a large withdrawal of credit from the crisis countries. -Treasuries/US Debt/JGB's have rallied so no. This has not happened yet but it will. That is the essence of loss of confidence.

As foreign investors attempted to withdraw their money, the exchange market was flooded with the currencies of the crisis countries, putting depreciative pressure on their exchange rates. -This has not happened yet either but it will. It is also the essence of loss of confidence.

To prevent currency values collapsing, these countries' governments raised domestic interest rates to exceedingly high levels (to help diminish flight of capital by making lending more attractive to investors). -This ain't going to happen. As I said in my first post "Is the Euro System the next Monetary Order ?", the system is too far gone for capital to be re-attracted to government bonds as a store of value.

When it became clear that the tide of capital fleeing these countries was not to be stopped, the authorities ceased defending their fixed exchange rates and allowed their currencies to float.- Coming soon but in this case, the ultimate wealth reserve asset will be allowed to float, gold. The COMEX futures market will default and the London Bullion Market Association will implode, no different then the London Gold Pool imploded when France withdrew which ended Bretton Woods 1.

So in conclusion, who in the right mind can possibly think that there will be a sustained rally in the US dollar as their economy is implodes ?  Also, was it mentioned once that any of these Asian countries where printing currency that resulted in these huge devaluations ? No. 

As past crisis history has shown , capital flight out of US dollar denominated debt and treasuries is the the only logical conclusion to this crisis 

 

Is The Euro System the Next Monetary Order ?

The world gets a new monetary system every 30 or 40 years, and it is past due for a change. We had the classical gold standard from 1873 until World War I(43 years), the gold exchange standard between the two world wars(21 years), the Bretton Woods 1 system from 1944 until 1971(27 years), and since 1971, the entire world has been on the Bretton Woods 2 system or the dollar standard.(40 years and counting)

Now let's look back at Bretton Woods 1 again. Earlier I pointed out that the US trade deficit used to be settled by the US running down its monetary reserves—gold. But that was back when gold was a monetary asset and not just another commodity thrown on a futures market. After 1971 they demonetized gold which forced the US into the second option which is running up debt. If you are running a trade deficit you can either run down your reserves or run up your debt.

Before 1971, the trade deficit was settled by exporting gold (via the gold window) to those running a trade surplus with the US. The problem with this system was that gold was fixed at a dollar price. So the US reserves were quickly run down by maybe 65% in 20 years. This was a problem because it was clearly unsustainable.

After 1971 the trade deficit was settled by exporting US Treasury debt bonds. And as we can see, this system is also clearly unsustainable. It cannot be reversed without collapsing the system. The way the US sells Treasuries to China means the US has a "capital account surplus." And China has a "capital account deficit." You see, when the US ships currency to China in exchange for real stuff, that's a deficit for the US. But when China ships currency to the US in exchange for Treasury bonds, that's a deficit for China. I know, it's confusing, but this is how the modern monetary wizards make things balance today. They call it the balance of payments!

Two Historic, World-Class Bubbles are About to Pop

Bubble #1: Government Debt (with a nominal value in the tens of TRILLIONS)

Bubble #2: Perceived Wealth, denominated in purely symbolic, un backed, unsustainable-Ponzi-debt-based currency (with a nominal value in the HUNDREDS of trillions)

Darryl Robert Schoon writes:

For 50 years, not one Dollar of new debt created by the US government to fund the activities it does not wish to tax for has been repaid. The debt has simply been “re-financed” with new debt being sold to retire the existing debt.
(Stocks, bonds, currencies, precious metals - Our Analysis Begins Where Your Information Ends)

At some point, the end finally arrives. Ponzi-financing cannot service debt forever. Investing in unhedged paper assets is the bet that it can. Gold is the bet that it cannot. [5]

Amazingly the mathematical upper limit of Ponzi-finance coincides perfectly with the mathematical limit of the 28-year rise in past-issued bond valuations.

It is the 28-year expansion of the US$-denominated debt asset bubble that is about to pop. When interest rates are falling (like they have been for the past 28 years), the value of past-issued debt assets rise. Anyone who has been playing the bond market since 1981 has made a killing.

Here is the chart of interest rates since 1981:

Flip it over and you will see the rise in the value of bonds.

When interest rates hit ZERO, they only have one way to go. And that means that the value of past issued debt, the very kind of TRASH that China is sitting on a land-fill mountain of, only has one way to go... DOWN

The only way for a purely symbolic store of value to survive the sudden, self-reinforcing and complete coup de grâce (death blow) from its nemesis, gold, is for the central banker to get ahead of spontaneously exploding interest rates without completely demolishing the economy on which it feeds like a mutant parasite.

In 1980 this was possible, but only barely, through a drastic interest rate increase to 20%, and only because the economy and the national debt load was much different at the time. If the same thing was tried today the economy and the government would come to a standstill, followed by a complete and utter collapse. For this reason it is not only unlikely, it is impossible. In 1980, the US was a net creditor nation with a balance-of-payments surplus. The financial industry was small and stable. And the US was not subservient to foreign creditors. Today the national debt is over $14 Trillion, the US Treasury Secretary must kowtow to the Chinese, and the financial industry is a brittle behemoth built on derivative quicksand.

Because of these fundamental differences in 1980, Paul Volcker was able to successfully defend the dollar against the same existential threat which WILL take it down this time. That threat is capital flow into the dollar's lifelong nemesis, gold.

To make a long story short, the Euro architects anticipated this. They identified the major flaw in the Bretton Woods 2 dollar system, the use of debt as a store of value. They designed the Euro to use gold as a store of value rather then debt. That is why gold is on the first line of the ECB balance sheet. That is why I was saying earlier that the idea of Euro bonds is just.......fuct. They might do it to buy some time but its just not meant to be.

Bonds was/is the store of value for the last/current monetary system and bonds went up for 30 years and counting. Bonds have since gone even higher in price. Gold is the store of value in the next monetary system and it will  go up for an equal and longer amount of time. We cannot include the last 10 year rise in price of gold because we are still in the Bretton Woods 2 system. Bonds have actually out-performed gold this year so far for that reason.(only after the latest gold dump)

GLD is the gold exchange traded fund, TLT is the treasury ETF. This chart is just for observation purposes. This has been the trend since gold started rising 10 years ago, which is also exactly when the Euro was introduced. That is no coincidence.



I am not interested in points that refute Euro freegold. What I am interested in, is a quick concise explanation on how SDR's will be the foundation of the next monetary order, as Jim Rickards talks about or about how a "tri-metal "standard will be the foundation of the next monetary order,  as Mike Malony contends, or how a "classical gold standard" will be the next monetary order as Peter Schiff and many other gold bugs contend.

To answer the question, Euro freegold is the next inevitable free-market driven monetary order unless somebody can prove otherwise....

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