Everyone who purchases a Treasury bond is purchasing a depreciating asset. Moreover, the capital risk of investing in Treasuries is very high. The low interest rate means that the price paid for the bond is very high. A rise in interest rates, which must come sooner or later, will collapse the price of the bonds and inflict capital losses on bond holders, both domestic and foreign. The question is: when is sooner or later? The purpose of this article is to examine that question. Words: 2600
So says Dr. Paul Craig Roberts (www.intrepidreport.com) in edited excerpts from his original* 3700 word article.
[Lorimer Wilson, editor of www.munKNEE.com (Your Key to Making Money!), has edited the article below for length and clarity – see Editor’s Note at the bottom of the page. This paragraph must be included in any article re-posting to avoid copyright infringement.]
Roberts goes on to say, in part:
How can the Federal Reserve maintain zero interest rates for banks and negative real interest rates for savers and bond holders when the U.S. government is adding $1.5 trillion to the national debt every year via its budget deficits?
Not long ago the Fed announced that it was going to continue this policy for another 2 or 3 years. Indeed, the Fed is locked into the policy. Without the artificially low interest rates, the debt service on the national debt would be so large that it would raise questions about the US Treasury’s credit rating and the viability of the dollar, and the trillions of dollars in Interest Rate Swaps and other derivatives would come unglued.
In other words, the economic future of the U.S. and its currency is in an untenable and dangerous position as a result of:
- financial deregulation leading to Wall Street’s gambles,
- the U.S. government’s decision to bail out the banks and to keep them afloat, and
- the Federal Reserve’s zero interest rate policy.
It will not be possible to continue to flood the bond markets with $1.5 trillion in new issues each year when the interest rate on the bonds is less than the rate of inflation….
How has such an untenable policy managed to last this long?
A number of factors are contributing to the stability of the dollar and the bond market, [namely]:
1. The situation in Europe: There are real problems there as well, and the financial press keeps our focus on Greece, Europe [as a whole], and the euro [constantly asking]:
- Will Greece exit the European Union or be kicked out?
- Will the sovereign debt problem spread to Spain, Italy, and [elsewhere]?
- Will it be the end of the EU and the euro?
The above questions are all very dramatic questions that keep focus off the American situation, which is probably even worse.
2. Individual investor fear of the equity market: The equity market has been turned into a gambling casino by high-frequency trading…[which] now account for 70-80% of all equity trades. The result is major heartburn for traditional investors, who are leaving the equity market. They end up in Treasuries, because they are unsure of the solvency of banks who pay next to nothing for deposits, whereas 10-year Treasuries will pay about 2% nominal….
3. Flight from European sovereign debt, the doomed euro and the continuing real estate disaster: This flight into US Treasuries provides funding for Washington’s $1.5 trillion annual deficits. Investors influenced by the financial press might be responding in this way….
4. Collusion between Washington, the Fed, and Wall Street: We will be looking at this as we progress.
U.S. Debt is Mostly Foreign Owned
Unlike Japan, whose national debt is the largest of all, Americans do not own their own public debt. Much of U.S. debt is owned abroad, especially by China, Japan, and OPEC, the oil exporting countries. This places the U.S. economy in foreign hands. If China, for example, were to find itself unduly provoked by Washington, it could dump up to $2 trillion in US dollar-dominated assets on world markets. All sorts of prices would collapse, and the Fed would have to rapidly create the money to buy up the Chinese dumping of dollar-denominated financial instruments.
The dollars printed to purchase the dumped Chinese holdings of US dollar assets would expand the supply of dollars in currency markets and drive down the dollar exchange rate. The Fed, lacking foreign currencies with which to buy up the dollars, would have to appeal for currency swaps to [other] sovereign debt-troubled [countries]…in order to buy up the dollars with…[foreign currencies].
These currency swaps would be on the books, unredeemable, and making additional use of such swaps problematical. In other words, even if the U.S. government can pressure its allies and puppets to swap their harder currencies for a depreciating U.S. currency, it would not be a repeatable process….
An Over-riding Interest in Preserving the Status Quo[The above being said,] however, [it is highly unlikely that] China [would] dump its dollar holdings all at once [as that] would be [very] costly as the value of the dollar-denominated assets would decline as they dumped them. Unless China is faced with U.S. military attack and needs to defang the aggressor, China, as a rational economic actor, would prefer to slowly exit the U.S. dollar. Neither do Japan, Europe, nor OPEC wish to destroy their own accumulated wealth from America’s trade deficits by dumping dollars, but the indications are that they all wish to exit their dollar holdings.
Unlike the U.S. financial press, the foreigners who hold dollar assets look at the annual U.S. budget and trade deficits, look at the sinking U.S. economy, look at Wall Street’s uncovered gambling bets, look at the war plans of the delusional hegemon and conclude: “I’ve got to carefully get out of this.”
U.S. banks also have a strong interest in preserving the status quo. They are holders of US Treasuries…. They can borrow from the Federal Reserve at zero interest rates and purchase 10-year Treasuries at 2%, thus earning a nominal profit of 2% to offset derivative losses. The banks can borrow dollars from the Fed for free and leverage them in derivative transactions. As Nomi Prins puts it, the U.S. banks don’t want to trade against themselves and their free source of funding by selling their bond holdings. Moreover, in the event of foreign flight from dollars, the Fed could boost the foreign demand for dollars by requiring foreign banks that want to operate in the U.S. to increase their reserve amounts, which are dollar based.
I could go on, but I believe this is enough to show that even actors in the process who could terminate it have themselves a big stake in not rocking the boat and prefer to quietly and slowly sneak out of dollars before the crisis hits. This is not possible indefinitely as the process of gradual withdrawal from the dollar would result in continuous small declines in dollar values that would end in a rush to exit, but Americans are not the only delusional people.
Plans Underway to By-pass US Treasuries
The very process of slowly getting out can bring the American house down. The BRICS… (Brazil, Russia, India, China South Africa) are in the process of forming a new bank….[which] will permit these five large economies to conduct their trade without use of the U.S. dollar.
In addition, Japan…is on the verge of entering into an agreement with China in which the Japanese yen and the Chinese yuan will be directly exchanged….[which would]reduce the cost of foreign trade between the two countries as it would eliminate payments for foreign exchange commissions to convert from yen and yuan into dollars and back into yen and yuan.
Moreover, this official explanation for the new direct relationship avoiding the U.S. dollar is simply diplomacy speaking. The Japanese are hoping, like the Chinese, to get out of the practice of accumulating ever more dollars by having to park their trade surpluses in US Treasuries….
The Role of the “Too Big to Fail” Banks
Now we have arrived at the nitty and gritty. The small percentage of Americans who are aware and informed are puzzled why the banksters have escaped with their financial crimes without prosecution. The answer might be that the banks “too big to fail” are adjuncts of Washington and the Federal Reserve in maintaining the stability of the dollar and Treasury bond markets in the face of an untenable Fed policy.
Let us first look at how the big banks can keep the interest rates on Treasuries low, below the rate of inflation, despite the constant increase in U.S. debt as a percent of GDP–thus preserving the Treasury’s ability to service the debt.
The imperiled banks too big to fail have a huge stake in low interest rates and the success of the Fed’s policy. The big banks are positioned to make the Fed’s policy a success. JPMorgan Chase and other giant-sized banks can drive down Treasury interest rates and, thereby, drive up the prices of bonds, producing a rally, by selling Interest Rate Swaps (IRSwaps).
A financial company that sells IRSwaps is selling an agreement to pay floating interest rates for fixed interest rates. The buyer is purchasing an agreement that requires him to pay a fixed rate of interest in exchange for receiving a floating rate.
The reason for a seller to take the short side of the IRSwap, that is, to pay a floating rate for a fixed rate, is his belief that rates are going to fall. Short-selling can make the rates fall, and thus drive up the prices of Treasuries. When this happens, as these charts illustrate, there is a rally in the Treasury bond market that the presstitute financial media attributes to “flight to the safe haven of the US dollar and Treasury bonds.” In fact, the circumstantial evidence (see the charts in the link above) is that the swaps are sold by Wall Street whenever the Federal Reserve needs to prevent a rise in interest rates in order to protect its otherwise untenable policy. The swap sales create the impression of a flight to the dollar, but no actual flight occurs. As the IRSwaps require no exchange of any principal or real asset, and are only a bet on interest rate movements, there is no limit to the volume of IRSwaps.
This apparent collusion suggests to some observers that the reason the Wall Street banksters have not been prosecuted for their crimes is that they are an essential part of the Federal Reserve’s policy to preserve the U.S. dollar as world currency. Possibly the collusion between the Federal Reserve and the banks is organized, but it doesn’t have to be. The banks are beneficiaries of the Fed’s zero interest rate policy. It is in the banks’ interest to support it. Organized collusion is not required.
The Price of Gold and Silver Bullion is Being Manipulated
…In 2012 the price of gold and silver have been knocked down, with gold being $350 per ounce off its $1900 high…[and] the explanation for the reversal in bullion prices…is shorting. Some knowledgeable people within the financial sector believe that the Federal Reserve (and perhaps also the European Central Bank) places short sales of bullion through the investment banks, guaranteeing any losses by pushing a key on the computer keyboard, as central banks can create money out of thin air.
Insiders inform me that,,,[because] a tiny percent of those on the buy side of short sells actually want to take delivery on the gold or silver bullion, and are content with the financial money settlement, there is no limit to short selling of gold and silver. Short selling can actually exceed the known quantity of gold and silver.
Some who have been watching the process for years believe that government-directed short-selling has been going on for a long time. Even without government participation, banks can control the volume of paper trading in gold and profit on the swings that they create. Recently short selling is so aggressive that it not merely slows the rise in bullion prices but drives the price down. Is this aggressiveness a sign that the rigged system is on the verge of becoming unglued?
In other words, our government…is doing its best to deprive us…from protecting ourselves and our remaining wealth from the currency debauchery policy of the Federal Reserve. Naked short selling prevents the rising demand for physical bullion from raising bullion’s price….
How long can the manipulations continue? When will the proverbial…hit the fan? If we knew precisely the date, we would be the next mega-billionaires.
Events That Could Sink US Treasuries and the U.S. Dollar
Here are some of the catalysts waiting to ignite the conflagration that burns up the Treasury bond market and the U.S. dollar:
- A war…that disrupts the oil flow and thereby the stability of the Western economies or brings the U.S. and its weak NATO puppets into armed conflict with Russia and China. The oil spikes would degrade further the U.S. and EU economies, but Wall Street would make money on the trades.
- An unfavorable economic statistic that wakes up investors to the true state of the U.S. economy, a statistic that the presstitute media cannot deflect.
- An affront to China, whose government decides that knocking the U.S. down a few pegs into third world status is worth a trillion dollars.
- More derivative mistakes, such as JPMorgan Chase’s recent one, that send the U.S. financial system again reeling and reminds us that nothing has changed.
The list is long. There is a limit to how many stupid mistakes and corrupt financial policies the rest of the world is willing to accept from the U.S.. When that limit is reached, it is all over for “the world’s sole superpower” and for holders of dollar-denominated instruments.
The Consequences of Deregulation
Financial deregulation converted the financial system, which formerly served businesses and consumers, into a gambling casino where bets are not covered. These uncovered bets, together with the Fed’s zero interest rate policy, have
- exposed Americans’ living standard and wealth to large declines. Retired people living on their savings and investments, IRAs and 401(k)s can earn nothing on their money and are forced to consume their capital, thereby depriving heirs of inheritance. Accumulated wealth is consumed.
- made the U.S. an import-dependent country, dependent on foreign made manufactured goods, clothing, and shoes as a result of jobs offshoring. When the dollar exchange rate falls, domestic U.S. prices will rise, and U.S. real consumption will take a big hit. Americans will consume less, and their standard of living will fall dramatically.
The serious consequences of the enormous mistakes made in Washington, on Wall Street, and in corporate offices are being held at bay by an untenable policy of low interest rates and a corrupt financial press, while debt rapidly builds.
The Consequences of the Fed’s Supposed Exit Strategy
Fed Chairman Bernanke has spoken of an “exit strategy” and said that when inflation threatens, he can prevent the inflation by taking the money back out of the banking system. However, he can do that only by selling Treasury bonds, which means:
- interest rates would rise….
- [which] would threaten the derivative structure,
- cause bond losses, and
- raise the cost of both private and public debt service.
In other words, to prevent inflation from debt monetization would bring on more immediate problems than inflation. Rather than collapse the system, wouldn’t the Fed be more likely to inflate away the massive debts? Eventually, inflation would erode the dollar’s purchasing power and use as the reserve currency, and the U.S. government’s credit worthiness would waste away.
The Fed, the politicians, and the financial gangsters, however, would prefer a crisis later rather than sooner. Passing the sinking ship on to the next watch is preferable to going down with the ship oneself. As long as interest rate swaps can be used to boost Treasury bond prices, and as long as naked shorts of bullion can be used to keep silver and gold from rising in price, the false image of the U.S. as a safe haven for investors can be perpetuated.
Editor’s Note: The above article may have been edited ([ ]), abridged (…), and reformatted (including the title, some sub-titles and bold/italics emphases) for the sake of clarity and brevity to ensure a fast and easy read. The article’s views and conclusions are unaltered and no personal comments have been included to maintain the integrity of the original article.
*http://www.intrepidreport.com/archives/6204 (To access the above article please copy the URL and paste it into your browser.)
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