I keep bringing this up even at the risk of beating a dead horse because I believe that the inflation monster is rampaging through many Asian countries, particularly China, at a pace which is putting a severe amount of stress on government policy makers not to mention consumers
This is the reason that Asian demand for gold and silver is so robust and also the reason I believe that all dips in price for the metals will be eagerly bought.
Factoring in the current inflation rate of China, savers there are experiencing negative REAL rates of return. Gold and silver therefore are like a lifeline to those citizens who are attempting to preserve their buying power.
It could well be that part of the "strategy" behind the Fed's Quantitative Easing Policy is to put so much pressure on the Chinese that they have no choice but to let the Yuan rise to a more natural equilibrium level to defeat the Kraken.
Here's the kicker however, if any upward revaluation in the Yuan were to serve to correct somewhat the huge imbalance in US/China trade by lowering US imports of Chinese goods, the effect would be that China would need to BUY LESS US Treasuries to sterilize that trade surplus of theirs. To whom then is the Fed going to sell all those Treasuries that keep accumulating on its balance sheet?
You can read the story detailing the seriousness of the inflation problem in China at the link here:
http://www.bloomberg.com/news/2011-03-06/inflation-endangering-chinese-dream-spurs-wen-pledge-to-rein-in-prices.html
The Primary Dealers will just buy the Treasuries. The system is designed like that. If the government spends, bank reserves increase. Reserves in aggregate can only change due to government or Fed intervention. So, to drain the reserves, the government issues treasuries. And the PMs will buy them because the yield is higher than the rate on the deposit facility and they have to (PMs have to make a market for Treasury auctions). And, per definition, the PMs in aggregate will have enough reserves to do so, because, ceteris paribus, government deficit equals the increase in excess reserves (if all done through the Treasury's General Account at the Fed).
ReplyDeleteThe house of cards (debt, trade imbalance) is going to fall one day. Dan knows it. You know it. I know it. The financial press will be surprised once again or at least they will pretend to be surprised.
ReplyDeleteDan, in your earlier post you were trying to solve the COT mystery.
ReplyDeleteI am not too familiar with whether futures markets always lead the spot markets in XAG and XAU. However, back on 14 Dec, King World News reported that the contact out of London was speaking of the massive Asian buying happening through the spot market, not the futures market.
See here:
http://kingworldnews.com/kingworldnews/KWN_DailyWeb/Entries/2010/12/14_KWN_Source_-_When_That_Happens,_The_Game_is_Over.html
Any chance that this kind of buying has an impact on the COT data?
REmco - yes, you are correct about all of this but I think I did not make my point clear enough - the entire idea behind QE is for the Fed to be able to increase reserves in the system. That keeps long term interest rates lower than they would have been otherwise and supposedly facilitates lending and borrowing, etc.
ReplyDeleteThere are some of us who believe that we might see a QE3 sooner than we will see an outright attempt at draining the reserves. If the Primary Dealers are going to be the ones buying up all these Treasuries sitting on the Fed's balance sheet, then we have to assume that the draining of their reserves will tighten credit, restrict lending and borrowing at a time in which the labor markets are apparently not growing at a rate fast enough to really do anything to affect the chronic high rate of unemployment in the nation. Do you really believe that the Fed is actually going to try draining reserves in such an environment, especially with an election year coming next year?
My point is that if we lose the huge Chinese buying of Treasuries to any extent, that rates are going to have to climb and climb higher at the same time the FED does not want them to.
I am not disagreeing with the mechanism you are describing; but making the point that while policy makers and some politicians are screaming at China for what they consider to be an undervalued yuan, they had better be careful but they wish for.
Thanks,
Dan
In 1980 silver hit roughly $50 an ounce. Move 30+ years and adjust for inflation it comes to roughly $131 an ounce. We have alot of ground to make up just to compensate for inflation. Some other things to consider, silver has been consolidating for 30 years and is just starting it's stage 2 phase. More positives, massive short position that is billions of ounces; some say more than 10 years of mining production. Additional demand from billions of new investors that do believe silver is money (India, China, and others)that are buying at an alarming rate. Mainstream media is starting to give silver its proper exposure and soon more US citizens will be looking to get a piece. Hedge funds, with billions to invest will be part of the momentum crowd chasing it up. Plus you have what is essentially financial warfare being waged by China and Russia to destry the US financial system.
ReplyDeleteThis is not even close to the same thing as 1980 when 2 brothers decided they needed to protect their wealth by investing in silver. Silver will go parabolic...intersting times. Sometimes it is good to step back and reflect on what we are excited about.
Please feel free to add your thoughts of additional drivers of silver as this is only a partial list to be sure.
Jack C.
Hey Dan,
ReplyDeleteI would keep an eye out for the treasury yields as we move towards June, when the fed has to move out of the market. If you really want to take a position I would do it through gold.
Silver to gold is almost at record high.
Chart of Silver to Gold Ratio
If you have any comments it would be great
@ Trader Dan
ReplyDeleteI do agree that if the Chinese start selling treasuries (or more realistic, buy less new treasuries), that it will have an impact on excess reserves. I do not agree that it will severely restrict lending however. Banks do not lend based on their reserve position; they first lend and look for reserves afterwards. If there are in aggregate not enough reserves in the system, the Fed will supply them (they always do, since they target interest rates and not the monetary base). So I do not think less reserves impact the lending decisions of banks. (Another point is that PDs can repo treasuries for reserves if they want to, so in essence reserves balances and treasuries are not very distinct in terms of ability to lend money; only rates matter).
However, Chinese selling can impact lending through increasing yields. Now, I am not on expert in the area, but I would expect that long term yields are a function of short term yields (set by the Fed) and some opportunity cost. So, if the selling of the Chinese is not chaotic (and doesn't influence confidence in the treasury market), I don't think there is a very material impact whether the Chinese or the PDs take down new treasury debt. But I'm very open to more opinions on this.
P.S. The important point I want to emphasize is that banks are not (never) reserve constraint when it comes to lending, since the Fed targets interest rates. The only real function of reserves is for payment settlement. Reserve requirements allow for a more smooth functioning of the payment system.