LIQUIDITY RELIEF coming from the US, the UK and European Central Banks to the banking system is still struggling to unfreeze the system, simply because it is cash and not an underwriting of dubious investments.
Some analysts believe the drop in interest rates in the US will bring instant relief to the driver of the US economy, the besieged US consumer. But no such thing will happen until rates are much lower still and confidence restored. Why?
The besieged US consumer
The last economic boom (and there are signs that it is ending) was primarily driven by the US consumer. The average US household has a relatively fixed wage or salary. A look at the burden the consumer is carrying shows that he is unlikely to become a significant saver in the midst of today's pressures.
- Nationally, half of all US renters and more than one-third of all mortgage holders spend at least 30% of their gross income on housing costs;
- We guess-estimate that they are starting to spend up to 10% of their income on fuel, and rising;
- Tax may well be around 20% of income;
- Other loan repayments will likely account for a further 20% or perhaps more?
- This leaves the necessities – food, clothes, medical, etc – eating the 20% left.
Most observers expect the Fed to keep cutting interest rates at the remaining meetings it's lined up until the end of the year. But even with this in mind, will the consumer then keep spending to keep growth at healthy levels?
The debate rages on, with most believing that a recession (defined as two consecutive quarters of falling GDP) is likely in 2008. Others in the euphoria of running stock markets across the globe are convinced that the troubles from the housing market and credit crunch are over. Has confidence been restored? We think it's going to take more than a half point drop in interest rates to do that.
But we do believe that Bernanke and the Washington administration will do all in their power to ensure that growth stays healthy – if not rising – reinforcing a gold positive climate. They have to do this, because the recent crises were not the sort that blow over quickly. They were systemic problems that, if not cured, could precipitate far worse than a recession, a probability that cannot be allowed to happen.
Already the credit crunch and the Fed's action are causing other systemic problems to appear. The Dollar is running towards a break in support and who knows how much more of a drop? Saudi Arabia, the key oil producer, is likely to cut its peg with the Dollar, which will be a systemic fracture all on its own. What next?
The global economy, let alone the United States, cannot afford these problems on top of the ones it already faces. The coming years will be dark and difficult unless these systemic fractures are fixed and not just their symptoms. The price of these years will outweigh any inflation damage that will inevitably come with systemic repairs, if they are made. Inflation will just have to be sucked up.
But what if the problems on the capital flow and currency front balloon? Harsh, national, curative measures loom up in front of us. Could these include some form of exchange control?
Capital & Exchange Controls?
The massive loss of liquidity from the world's capital markets seen in the last month beat the authorities to it, in a way few foresaw. The inability to sell assets related to the sub-prime mortgage story led to many of them losing worth. They are dead in the water as investments, so the capital value they had before has 'fled' the market already.
Hence the "capital control" the authorities exercised was seen in the form of filling the hole of the lost liquidity – not lost capital – caused by the crisis, by printing it, which is not a happy solution.
With the market still absorbing the frank and open statements from Ben Benanke that foreigners would, at some point be sated, with US Dollars and Dollar investments – meaning the US trade deficit is unsustainable – it is inevitable that the Fed will act to prevent the withdrawal of capital from the States, if not soon then at some point in time.
Foreign selling of US Treasuries was very heavy lately, giving rise to speculation that China is trying to drop some of its positions already, bringing exchange controls closer by the day. Saudi Arabia's action on top of this, plus others still unreported, is causing the Dollar to drop to historically low levels. So maybe exchange controls are almost here?
It is close to a forgone reality that the US will do something about foreigners withdrawing capital from the States en masse, unhappy with their Dollar investments. In our recent issues of The Gold Forecaster [1], we have warned of Capital & Exchange Controls for some time now. So let's prepare you a little better, because when they arrive, they're suddenly a past event and you find yourself locked inside without a way out.
(Take note that any such warning from the authorities themselves would defeat the purpose of the controls, namely to block funds from fleeing a bad situation).
Such action would not only lock in the capital of foreigners inside the US, but that of all home-based US citizens, unless they had planned against it ahead of time? Exchange Controls are usually imposed for a few years only, until the threat of a foreign capital exodus fades away.
At least that's the intention. In South Africa they have been on and off to a greater or lesser degree for 40 years now, but in England they were imposed for just over 5 years. It is always hoped that the underlying causes for the flight of capital can be solved, but usually the causes are more fundamental then central banks expect.
The underlying principals governing exchange controls, such as seen in the historic Exchange Controls seen in the UK in the early 1970s and in countries like Belgium, South Africa, Zimbabwe et al, separate capital transactions from commercial ones.
This opens wide the possibility of great profits and great losses for both individuals and institutions who are able to act quickly, decisively and with knowledge beforehand. We at Gold & Silver Forecaster [2] have considerable expertise and experience in profiting hugely from these situations going back 36 years.
Please visit our site for further details and comment – GoldForecaster.com [3]...