"Financial Nuclear Warheads" - The Yellow Vests Get It Right Tue, 01/15/2019 - 00:25 Authored by Robert Gore via Straight Line Logic blog, The mainstream media has degenerated irreparably. Here’s a reliable rule of thumb: if it’s important it’s not covered; if it’s covered it’s not important. Stories in the American mainstream press about Yellow Vest protests have been few. One aspect of the protests, transcendently important, has received scant coverage. The Yellow Vest protestors have called for a coordinated run on French banks. Whether they realize it or not, they’re playing with nuclear warheads that could annihilate not just the French, but Europe’s and the entire world’s financial system. Because inextricably linked to the ends of contemporary governments―how much they can screw up the lives of those who must live under them—is the question of means―how do they fund their misrule? The short answer is taxes and debt. Since 1971, when President Nixon “temporarily” suspended international convertibility of dollars for gold (it’s never been reinstated), the monetary basis of the global economy has been fiat debt. Neither government or central bank debt nor currencies are tethered to any real constraint, like precious metals (see “Real Money,” SLL). Thus, politicians and monetary officials can create as much debt as they want: debt by fiat. Government and central bank debt is at the apex of the global debt pyramid. The next tier is commercial banks that have accounts at central banks. Those accounts are bank assets and central bank liabilities, or debts. Central banks expand their fiat liabilities to banks in exchange for banks’ fiat government debt, an exchange called debt monetization, which is a bit of a misnomer since no “Real Money” is involved. The “monetization” is the central bank’s fiat expansion of banks’ accounts with the central bank in exchange for fiat government debt, which expands banks’ assets available for loans to governments, businesses, and individuals. In “Real Money,” money was defined, in part, as that which has intrinsic value and is not a liability of an individual or entity. This part of the definition is controversial; it invalidates everything we currently think of as money. Popularly accepted definitions are essentially: money is as money does, anything that serves as a medium of exchange, a store of value, and a unit of account (the other parts of the SLL definition) is money. However, just because something has monetary functions doesn’t mean it’s money, anymore than using a hairbrush to brush your teeth makes it a toothbrush. While there are some metaphysical questions about the notion of intrinsic value (that term was chosen because it’s shorter and more convenient than saying, “Something to which most people would assign a value apart from its potential value as money,” every time) the important point is that by SLL’s definition, using debt as money, including the debt in your wallet known as Federal Reserve Notes, doesn’t make it money. Except for the relatively few instances when gold, silver, or other tangible value is used as a medium of exchange in private transactions, everything that is currently used is debt, including currencies. When individuals and businesses make deposits in a bank, they are exchanging one form of debt, usually currency or endorsed checks, for another—the bank’s promise, under a specified set of conditions, to return either currency or a check drawn on the bank. The depositor is a creditor and the bank is free to loan out the funds deposited. This is the basis of fractional reserve banking, the banking system’s ability to create debt in multiples of amounts deposited. For every $10 deposited, a bank will loan out perhaps $9 and keep $1 in reserve to meet withdrawal requests. The fraction that can be lent out and the fraction that must be kept in reserve are generally specified by government or central bank regulations. The amount lent out usually finds its way back to the banking system, where it serves as the basis for further lending. For analytical simplicity, introductory economics classes say that within the banking system, any autonomous increase in bank deposits will expand the total loans by the reciprocal of the reserve requirement. If the reserve requirement is 5 percent of bank deposits, an increase in bank deposits will lead to a 20 times expansion of bank loans. Real life is not quite that simple, but it’s a decent approximation. An important implication is that within the banking system, most of the deposits have been lent out, they’re not in the system. Thus, if all depositors want to exercise their claims against the system at the same time, it cannot meet those requests. The same is true for individual banks. How does a run on an individual bank turn into a loose yarn that once pulled, unravels the whole sweater? The bank tries to increase its liquid funds, drawing on whatever lines of emergency credit it may have, and to convert its illiquid assets into liquid assets, calling in loans. This pressures other banks and financial institutions, who draw on their lines of credit and call their loans and so on until the system collapses. Central banks are supposed to prevent runs from becoming systemic crises by providing an emergency backstop of fiat debt secured by banks‘ “high quality” but illiquid collateral. A further backstop is deposit insurance, a New Deal innovation that is now common across developed countries. In the US, the deposit insurance fund would cover only a small percentage of deposits in the event of a system-wide run. The more indebted the system, the more vulnerable it is to such crises. We saw that in the 2008-2009, when problems in one segment of one credit market―US subprime mortgage lending―led to a global financial crisis that was only stanched by massive injections of government and central bank fiat debt. Since that crisis, government, central bank, corporate, and individual debts have all increased, leaving the global financial system and economy more vulnerable now than it was then. The stated nominal global debt is around $250 trillion, or over three times world GDP. Add in unfunded pension and medical care promises by governments and corporations and a huge pile of derivatives, the amount of which can only be guessed (ranging from $250 to $750 trillion), and total claims on present assets and future production are probably well in excess of $1 quadrillion, a thousand trillions, over twelve times world GDP. Fiat debt has enabled to world to become more indebted than it has ever been, with the temporary increase in “wealth” that comes with any borrowing binge, but with the inevitable bankruptcy pending. Bankruptcy is a when, not an if. One question is whether it starts in a random corner of the world’s financial system, or at the behest of its putative victims. Which gets us back to the Yellow Vests’ attempted bank run. In the present overly indebted age, any financial crisis worth its salt will result in bank runs, with depositors losing most or all of their deposits. Debt is the Achilles heel of the world’s governments. A widespread run on financial institutions will dramatically reduce credit availability and raise interest rates, and it will shut off credit entirely for some of them. Under those circumstances, tax revenues will shrink as well. As argued in “Revolution in America,” (SLL) anyone truly interested in upending those systems should try, like the Yellow Vests, to initiate the mass withdrawal of funds from the tottering financial system. It’s effective, nonviolent, currently legal, gets those funds out before they’re frozen and then confiscated by rapacious governments, and initiates the inevitable crisis to the advantage of those who initiate it. For more particulars and supporting arguments see “Revolution.” As noted in that article, the probability of mass recognition of the inevitable and coordinated action against it is small. Instead, we’ll have the crisis. Governments will freeze accounts and then confiscate what’s left in them. With central banks they’ll drive the value of their own fiat debts to zero. We’ll see further moves towards global governance and centralization of economic activity and finance, supposedly to address the crises created by past and present governance and centralization. Anyone advocating for individual rights and against government will be demonized, ostracized, and probably criminalized. Fiat electronic debt will replace paper fiat notes to lock the increasingly worthless fiat medium of exchange within the insolvent financial system. “Legitimate” economic activity will grind to a halt and black markets will flourish. The private ownership of precious metals and perhaps barter will be outlawed. There will be insufficient real resources for governments to pay and equip their praetorians, who will reject fiat scrip. Unprotected, the vestiges of the old order will crumble. Battle-hardened survivors will emerge and begin building decentralized enclaves. Those will have to rest on a more enduring set of principles if they are to survive. ...On present course the government will go bankrupt. The one option for those of us who have provided so much of its ill-gotten and ill-spent loot—and received so little in return—is to seize the initiative, strike at its weakest point, extract a small percentage of what has been taken, hasten the inevitable crash, and then rebuild America into the great nation it once was... the only defense against what is surely to come is a strong offense, before our capacity to launch an offensive is stolen from us.
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The "Stock Market Crash Of 2018" Is Rapidly Transforming Into "The Financial Crisis Of 2019"
ZeroHedge.com Fri, 01/04/2019 - 05:28 Authored by Michael Snyder via The Economic Collapse blog, Stock markets are crashing all over the world, we are seeing extremely violent “flash crashes” in the forex marketplace, economic conditions are slowing down all over the globe, and fear is causing many investors to become extremely trigger happy. The stock market crash of 2018 wiped out approximately 12 trillion dollars in global stock market wealth, but things were supposed to calm down once we got into 2019. But clearly that is not happening. After Apple announced that their sales during the first quarter are going to be much, much lower than previously anticipated, Apple’s stock price started shooting down like a rocket and by the end of the session on Wednesday the company had lost 75 billion dollars in market capitalization. Meanwhile, “flash crashes” caused some of the most violent swings that we have ever seen in the foreign exchange markets… It took seven minutes for the yen to surge through levels that have held through almost a decade. In those wild minutes from about 9:30 a.m. Sydney, the yen jumped almost 8 percent against the Australian dollar to its strongest since 2009, and surged 10 percent versus the Turkish lira. The Japanese currency rose at least 1 percent versus all its Group-of-10 peers, bursting through the 72 per Aussie level that has held through a trade war, a stock rout, Italy’s budget dispute and Federal Reserve rate hikes. This is the kind of chaos that we only see during a financial crisis. Investors are also being rattled by the fact that China just experienced its first factory activity contraction in over two years… The People’s Bank of China said on Wednesday evening it had relaxed its conditions on targeted reserve requirement cuts to benefit more small firms. The move came after China reported its first factory activity contraction in over two years in December. A long-term Chinese slowdown would cause global havoc. But of course the biggest news of the day was what happened to Apple. The Dow Jones Industrial Average was down 660 points on Wednesday, and the huge hit that Apple took was the biggest reason for that decline. Including the 75 billion dollars that was just wiped out, the value of Apple has now fallen by 452 billion dollars since October 3rd… In only three months, Apple has lost $452 billion in market capitalization, including tens of billions on Thursday as the tech giant’s stock sank further. Apple shares have fallen by 39.1 percent since Oct. 3, when the stock hit a 52-week high of $233.47 a share. With its market cap down to about $674 billion, those losses are larger than individual value of 496 members of the S&P 500 — including Facebook and J.P. Morgan. Ironically, the truth is that Apple is actually one of the strongest companies on Wall Street financially. It is just that the company was priced well beyond perfection, and so any hint of bad news was likely to cause a decline of this magnitude. The amount of paper wealth that stock market investors have just lost is absolutely staggering. To put this in the proper perspective, here are some more facts about the money that Apple investors have lost that come from CNBC…
One analyst said that this was “Apple’s darkest day in the iPhone era” and he expressed his opinion that “the magnitude of the miss with China demand …was jaw-dropping.” Of course Apple is far from alone. Economic activity is slowing down substantially all over the planet, and on Wednesday we learned that U.S. factory activity just declined by the most since the last recession… Beyond Apple, investors were also rattled by the biggest one-month decline in US factory activity since the Great Recession. The closely-watched ISM manufacturing index tumbled to a two-year low, providing further evidence of slowing growth and pain from the US-China trade war. In addition, both of Bloomberg’s economic surprise indexes have “turned negative for the first time since Trump was elected”. The hits just keep on coming, and it is becoming quite clear that this is going to be a very tough year. As this crisis continues to escalate, keep an eye on our big financial institutions. Italy’s tenth largest bank just imploded, and it is likely that we will see more financial dominoes start to topple as the losses mount. Over the past decade, there have been other times when Wall Street has been rattled, but those episodes only lasted for a few weeks at the most. It has now been three months, and this new crisis shows no signs of abating any time soon. What that means is that we are in a heap of trouble. Because once this giant financial avalanche fully gets going, it is going to be impossible to stop. For the moment, I think that this current wave of panic selling is subsiding and that Friday will be better for investors. Of course the markets are so jittery at this point that a single piece of bad news could instantly send them tumbling once again. But barring any bad news, hopefully things will be calmer on Friday. There will be good days and there will be bad days in 2019. There will be ups and there will be downs. But it has become exceedingly clear that the downturn that so many have been anticipating has finally arrived, and the financial crisis of 2019 looks like it is going to be a doozy. Big banks look to cut back, alter credit card rewards programs: WSJ
(Reuters) - Large financial institutions including JP Morgan Chase & Co (JPM.N), Citigroup Inc (C.N), and American Express Co (AXP.N) are cutting back or altering some of the rewards plans that their credit card businesses offer borrowers, the Wall Street Journal reported on Tuesday. The financial institutions don’t plan to end rewards entirely, but want to alter them in ways that boost credit card usage and reduce upfront rewards bonuses, people familiar with the matter told the Journal. Banks have historically offered rewards such as free air travel to users of premium credit cards both to lure customers and prompt them to spend more on their cards. But some financial institutions are now looking to revise their rewards strategies, which have been under pressure as consumers become more savvy in their use of the credit cards, the Journal said. The cost of rewards programs had grown an average 15 percent on a year-over-year basis as of the third quarter of 2018 at several of the biggest credit card providers, bank analyst Charles Peabody told the Journal. At the same time, another major revenue stream from credit cards - fees paid by retailers to the credit card companies - are diminishing as retailers push back through lawsuits against what they consider excessive charges, the Journal said. It’s official: the Federal Reserve is insolvent12/16/2018
By Simon Black In the year 1157, the Republic of Venice was in the midst of war and in desperate need of funds. It wasn’t the first time in history that a government needed to borrow money to fight a war. But the Venetians came up with an innovative idea: Every citizen who loaned money to the government was to receive an official paper certificate guaranteeing that the state would make interest payments. Those certificates could then be transferred to other people… and the government would make payments to whoever held the certificate at the time. In this way, the loan that an investor made to the government essentially became an asset– one that he could sell to another investor in the future. This was the first real government bond. And the idea ultimately created a robust market of investors who would buy and sell these securities. When a government’s fortunes changed and its ability to make interest payments was in doubt, the price of the bond fell. When confidence was high, bond prices rose. It’s not much different today. Governments still borrow money by issuing bonds, and those bonds trade in a robust marketplace where countless investors buy and sell on a daily basis. Just like the price of Apple shares, the prices of government bonds rise and fall all the time. One of the most important factors affecting bond prices is interest rates: when interest rates rise, bond prices fall. And when rates fall, bond prices rise. And this law of bond prices and interest rates moving opposite to one another is as inviolable as the Laws of Gravity. Back in the 12th century when Venice started issuing the first government bonds, interest rates were shockingly high by modern standards, fluctuating between 12% and 20%. In France and England rates would sometimes rise beyond even 80% during the Middle Ages. Needless to say, it didn’t take long for banks to get in on the action; they realized very quickly that by controlling government debt, they effectively controlled the government. The dominance of the banks over the government cannot be overstated. Miriam Beard’s book History of the Businessman, for example, describes medieval politicians in the Italian city-state of Genoa as having to pledge loyalty to the banks before they were allowed to take office. Thus began the deep, long-standing relationship between banks and the government: Banks buy government debt– helping to finance spending packages that keep them in power. And the government bails out the banks when they get into trouble. You scratch my back, I scratch yours. All along the way, of course, they both use other people’s money. YOUR money. Governments bail out the banks with taxpayer funds. Banks fund the government with their depositors’ hard-earned savings. Of course, it’s so absurd now that they’ve simply resorted to creating money out of thin air to benefit the both of them… which is precisely what central banks do. A decade ago during the 2008 global financial crisis, central banks around the world created trillions of dollars, euros, yen, etc. worth of currency and effectively gave it all away to their respective governments and commercial banks. In the Land of the Free, the US Federal Reserve conjured $4 trillion out of nothing and “loaned” most of it to the federal government at record low interest rates. But here’s the weird part: if you remember that inviolable law of bond prices– when interest rates go up, bond prices fall. And that’s exactly what’s been happening. The Fed bought trillions of dollars worth of government bonds at a time when interest rates were at historic lows. Then, starting about two years ago, the Fed began slowly raising interest rates. But each time the Fed raised rates, the value of the government bonds that they had purchased would fall. This seems insane, right? By raising rates, the Fed was creating massive losses for itself. I’ve written frequently that, as the Fed continues raising interest rates, it will eventually engineer its insolvency. Well, that’s now happened. Yesterday the Fed released its latest quarterly financial statements, showing that the value of their bonds is now $66.5 billion LESS than what they paid. And that $66.5 billion unrealized loss is far greater than Fed’s razor-thin $39 billion in capital. This means that, on a mark-to-market basis, the largest and most systemically important financial institution in the world is objectively insolvent. (It’s also noteworthy that the Fed’s financial statements show a NET LOSS of $2.4 billion for the first nine months of 2018.) This is all truly remarkable… and highlights how utterly absurd the financial system is. Our society has awarded an unelected committee the ability to conjure trillions of dollars out of thin air and render itself insolvent to support the ongoing, mutual back-scratching of governments and banks, all at your expense. But what’s even more remarkable, though, is how little anyone has noticed. You’d think the front page on every financial newspaper would be “FED INSOLVENT.” But it’s not. No one seems to notice that the Fed is insolvent. Or, for that matter, that most Western governments are insolvent. It’s crazy. It’s as if it doesn’t matter that the government of the largest economy in the world loses a trillion dollars a year, has $22 trillion in debt, $30+ trillion in unfunded pension liabilities, or suffers a debt-to-GDP ratio in excess of 100%. Or that the central bank of the largest economy in the world is insolvent on a mark-to-market basis according to its own financial statements. There seems to be an expectation that none of this matters and it will continue to be rainbows and buttercups forever and ever until the end of time despite some of the most compelling evidence to the contrary. It’s difficult to imagine a consequence-free future with data like this. Peaks, corrections, crises, etc. are often preceded by similar dismissive, willful ignorance and irrational optimism. It would be foolish to presume that this time is any different. http://www.ronpaullibertyreport.com/ The Arrival Of The Credit Crisis
ZeroHedge.com Fri, 12/28/2018 - 18:25 Authored by Alasdair Macleod via GoldMoney.com, Those of us who closely follow the credit cycle should not be surprised by the current slide in equity markets. It was going to happen anyway. The timing had recently become apparent as well, and in early August I was able to write the following: “The timing for the onset of the credit crisis looks like being any time from during the last quarter of 2018, only a few months away, to no later than mid-2019.” The crisis is arriving on cue and can be expected to evolve into something far nastier in the coming months. Corporate bond markets have seized up, giving us a signal it has indeed arrived. It is now time to consider how the credit crisis is likely to develop. It involves some guesswork, so we cannot do this with precision, but we can extrapolate from known basics to support some important conclusions. If it was only down to America without further feed-back loops, we can now suggest the following developments are likely for the US economy. Warnings about an economic slowdown are persuading the Fed to soften monetary policy, a process recently set in motion and foreshadowed by US Treasury yields backing off. However, price inflation, which is being temporarily suppressed by falling oil prices, will probably begin to increase from Q2 in 2019. This is due to a combination of the legacy of earlier monetary expansion, and the consequences of President Trump’s tariffs on consumer prices. After a brief pause, induced mainly by the threat of an unstoppable collapse in equity prices, the Fed will be forced to continue to raise interest rates to counter price inflation pressures, which will take the rise in the heavily suppressed CPI towards and then through 4%, probably by mid-year. The recent seizure in commercial bond markets and the withdrawal of bank lending for working capital purposes sets in motion a classic unwinding of malinvestments. Unemployment begins to rise sharply, and consumer confidence goes into reverse. Equity prices continue to fall, as liquidity is drained from financial markets by worried investors, but price inflation remains stubbornly high. Consequently, bond prices continue to weaken under a lethal combination of foreign-owned dollars being sold, increasing budget deficits, and falling investor confidence in the future purchasing power of the dollar. The US enters a severe recession, which is similar in character to the 1930-33 period. The notable difference is in an unbacked pure fiat dollar, which being comprised of swollen deposits (currently 67% of GDP versus 36% in 2007), triggers an attempted reversal of deposit accumulation. The purchasing power of the dollar declines, not least because over $4 trillion of these deposits are owned by foreigners through correspondent banks. One bit of good news is the US banking system is better capitalised than during the last crisis and is unlikely to be taken by surprise as much it was by the Lehman crisis. Consequently, US banks are likely act more promptly and decisively to protect their capital, driving the non-financial economy into a slump more rapidly by calling in loans. Price inflation will not subside, because that requires sufficient contraction of credit to offset the declining preference for holding money relative to goods. Any credit contraction will be discouraged by the Fed, seeking to avert a deepening slump by following established monetary remedies. The Fed’s room for manoeuvre will be severely restricted by rising price inflation, which it can only combat with higher interest rates. Higher interest rates will become a debt trap springing tightly shut on government finances, forcing the Fed to buy US Treasuries under cover of monetary stimulation. The true reason for QE will be that with a rapidly escalating budget deficit exceeding $1.5 trillion and more, the Fed will want to suppress borrowing costs compared with what the market will demand. Economic conditions will be diagnosed as a severe case of stagflation. In reality, the US will be ensnared in a debt trap from which the line of least resistance will be accelerating monetary inflation. It will prove difficult for neo-Keynesian central bankers to understand the seeming contradiction that an economy can suffer a slump and escalating price inflation at the same time. It is, however, the condition of all monetary inflations and hyperinflations suffered by economies with unbacked fiat currencies. The choice will be to rewrite the textbooks, discarding current groupthink, or to soldier on. We can be certain the neo-Keynesians will soldier on, because they are intellectually unable to reform existing monetary policy in a manner acceptable to them. That would be the likely outcome of the developing credit crisis if it wasn’t for external factors. There is precedent for it, and we can expect it from a purely theoretical analysis. It would be a rolling crisis, becoming progressively worse, taking six months to a year to unfold, followed by a period of economic recovery. But there is a major snag with this analysis for the US economy, and that is US monetary policy has long been coordinated with the monetary policies of other major central banks through forums such as the Bank for International settlements, G20 and G7 meetings. The surprise election of President Trump upset this apple-cart with his untimely budget stimulus and the havoc he is wreaking on international trade. The result is the Fed is no longer on the same page as the other major central banks, particularly the Bank of Japan and the European Central Bank. Therefore, unlike crisis phases of previous credit cycles, the Eurozone enters it with negative interest rates, as does Japan, which are creating enormous currency and banking tensions. We will put Japan to one side in our search for knock-on systemic and economic effects triggered by the Fed’s increase in interest rates, and instead focus on the Eurozone, the heart of the European Union. The Eurozone is irretrievably bustIt is easy to conclude the EU, and the Eurozone in particular, is a financial and systemic time-bomb waiting to happen. Most commentary has focused on problems that are routinely patched over, such as Greece, Italy, or the impending rescue of Deutsche Bank. This is a mistake. The European Central bank and the EU machine are adept in dealing with issues of this sort, mostly by brazening them out, while buying everything off. As Mario Draghi famously said, whatever it takes. There is a precondition for this legerdemain to work. Money must continue to flow into the financial system faster than the demand for it expands, because the maintenance of asset values is the key. And the ECB has done just that, with negative deposit rates and its €2.5 trillion Asset Purchase Programme. That programme ends this month, making it the likely turning point, whereby it all starts to go wrong. Most of the ECB’s money has been spent on government bonds for a secondary reason, and that is to ensure Eurozone governments remain in the euro-system. Profligate politicians in the Mediterranean nations are soon disabused of their desires to return to their old currencies. Just imagine the interest rates the Italians would have to pay in lira on their €2.85 trillion of government debt, given a private sector GDP tax base of only €840bn, just one third of that government debt. It never takes newly-elected Italian politicians long to understand why they must remain in the euro system, and that the ECB will guarantee to keep interest rates significantly lower than they would otherwise be. Yet the ECB is now giving up its asset purchases, so won’t be buying Italian debt or any other for that matter. The rigging of the Eurozone’s sovereign debt market is at a turning point. The ending of this source of finance for the PIGS is a very serious matter indeed. A side effect of the ECB’s asset purchase programme has been the reduction of Eurozone bank lending to the private sector, which has been crowded out by the focus on government debt. This is illustrated in the following chart. Following the Lehman crisis, the banks were forced to increase their lending to private sector companies, whose cash flow had taken a bad hit. Early in 2012 this began to reverse, and today total non-financial bank assets are even lower than they were in the aftermath of the Lehman crisis. Regulatory pressure is a large part of the reason for this trend, because under the EU’s version of the Basel Committee rules, government debt in euros does not require a risk weighting, while commercial debt does. So our first danger sign is the Eurozone banking system has ensured that banks load up on government debt at the expense of non-financial commercial borrowers. The fact that banks are not serving the private sector helps explain why the Eurozone’s nominal GDP has stagnated, declining by 12% in the six largest Eurozone economies over the ten years to 2017. Meanwhile, the Eurozone’s M3 money increased by 39.2%. With both the ECB’s asset purchasing programmes and the application of new commercial bank credit bypassing the real economy, it is hardly surprising that interest rates are now out of line with those of the US, whose economy has returned to full employment under strong fiscal stimulus. The result has been banks can borrow in the euro LIBOR market at negative rates, sell euros for dollars and invest in US Government Treasury Bills for a round trip gain of between 25%-30% when geared up on a bank’s base capital. The ECB’s monetary policy has been to ignore this interest rate arbitrage in order to support an extreme overvaluation in the whole gamut of euro-denominated bonds. It cannot go on for ever. Fortunately for Mario Draghi, the pressure to change tack has lessened slightly as signs of a US economic slowdown appear to be increasing, and with it, further dollar interest rate rises deferred. TARGET2Our second danger sign is the massive TARGET2 interbank imbalances, which have not mattered so long as everyone has faith that it does not matter. This faith is the glue that holds a disparate group of national central banks together. Again, it comes down to the maintenance of asset values, because even though assets are not formally designated as collateral, their values underwrite confidence in the TARGET2 system. Massive imbalances have accumulated between the intra-regional central banks, as shown in our next chart, starting from the time of the Lehman crisis. Germany’s Bundesbank, at just under €900bn is due the most, and Italy, at just under €490bn owes the most. These imbalances reflect accumulating trade imbalances between member states and non-trade movements of capital, reflecting capital flight. Additionally, imbalances arise when the ECB instructs a regional central bank to purchase bonds issued by its government and local corporate entities. This accounts for a TARGET2 deficit of €251bn at the ECB, and surpluses to balance this deficit are spread round the regional central banks. This offsets other deficits, so the Bank of Italy owes more to the other regional banks than the €490bn headline suggests. Trust in the system is crucial for the regional central banks owed money, principally Germany, Luxembourg, Netherlands and Finland. If there is a general deterioration in Eurozone collateral values, then TARGET2 imbalances will begin to matter to these creditors. Eurozone banksCommercial banks in the Eurozone face a number of problems. The best way of illustrating them is by way of a brief list:
The ECB itself is a riskAs stated above, the ECB through its various asset purchase programmes has caused the accumulation of some €2.5 trillion of debt, mostly in government bonds. The euro system’s central banks now have a balance sheet total of €4.64 trillion, for which the ECB is the ringmaster. Most of this debt is parked on the NCBs’ balance sheets, reflected in the TARGET2 imbalances. The ECB’s subscribed equity capital is €7.74bn and its own balance sheet total is €414bn. This gives an operational gearing on core capital of 53 times. Securities held for monetary purposes (the portion of government debt purchased under various asset purchase programmes shown on the balance sheet) is shown at €231bn (it will have increased further in the current year). This means a fall in the value of these securities of only 3% will wipe out all the ECB’s capital. If the ECB is to avoid an embarrassing recapitalisation when, as now seems certain, bond yields rise, it must continue to rig euro bond markets. Therefore, the reintroduction of its asset purchase programmes to stop bond yields rising becomes the last fling of the dice. The debt trap Eurozone governments find themselves in has also become a trap for the ECB. ConclusionWe can see that the global credit crisis has now been triggered. It always happens at some point anyway. The proximate triggers have been non-monetary, being the combination of President Trump’s fiscal reflation late in the credit cycle, and his imposition of tariffs on imported goods. The weakening of other economies from Trump’s tariff war is an additional factor undermining the global economic outlook. Given these fiscal developments, the Fed had no option but to seek to urgently normalise interest rates, bringing on the credit crisis. Inaction by the Fed would have undoubtedly seen price inflation accelerate, even allowing for the confines of a heavily suppressed consumer price index. The slowing of the US economy has, at least for the short-term, reduced price inflation factors. But as argued in this article they are unlikely to last. These monetary developments have come at a time when two important central banks, the ECB and the Bank of Japan, are still applying negative interest rates. The disparity between these policies and that of the Fed, besides creating monetary and currency strains, will almost certainly lead to them both revising monetary policies. Only this month, quantitative easing in the Eurozone ceases, and bond prices are likely to fall significantly without it. A rise in the ECB’s deposit rate from minus 0.4% will surely follow, and it is hard to see how a developing systemic crisis in the region can then be prevented. Since the Lehman crisis, inflation has been mostly bottled up in the financial sector, while being statistically suppressed in the productive economy. That is now about to change, leading to excess deposits at the banks trying to escape the consequences of their deployment for mainly financial speculation. It will not provide a boost in consumption, because consumers are maxed out and unemployment is rising. It will simply undermine the purchasing power of an increasingly unwanted, unbacked fiat currency. |
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