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Japan Steps into the Void
Posted by Peter Schiff on 04/19/2013 at 1:36 PM

In the years following the global financial crisis, economists and investors have gotten very comfortable with very high, and seemingly persistent, government debt. The nonchalance may be underpinned by the assumption that globally significant countries that can print their own currencies can't get trapped in a sovereign debt crisis. However, it now appears that Japan is preparing to put this confidence to the ultimate stress test.

For the better part of 20 years, successive Japanese governments and central bankers have been trying, unsuccessfully, to use quantitative easing strategies to pump up a deflated asset bubble. The economy has by and large not responded. The sustained and impressive growth that Japan delivered during the 45 years following the Second World War (which had made the country one of the most successful economic stories in world history), has never returned.  For the last 20 years Japan has offered a "zombie" economy characterized by low growth, stagnation, and exploding government debt. The Japanese government now owes approximately $12 trillion, a figure representing more than 200% of GDP. The IMF expects that this figure will reach 245% by the end of this year. This gives Japan the unenviable title of having the world's highest government debt-to-GDP ratio. But Shinzo Abe, the newly elected Prime Minister of Japan, and Haruhiko Kuroda, his newly-appointed Governor of the Bank of Japan, feel much, much more debt needs to be issued to turn the economy around.

The hope that Abe would be a new kind of prime minister with a bold economic formula helped revive the long dead Japanese stock market. Between May and November of 2012, the Nikkei traded within a range of 8200-9400. As Abe's victory began to be expected, the Nikkei started moving up, reaching 10,000 by the time he was sworn in on December 26 of last year. The euphoria continued throughout the spring and by April 2 the Nikkei stood at 12,003 points. Then on April 4, BOJ Governor Kuroda made good on Abe's dovish rhetoric and announced a plan to end years of mildly declining prices by doing whatever necessary to create 2% inflation (in reality these price declines have  been one of the few consolations to Japanese consumers). To achieve its goals, the government is prepared to double the amount of Yen in circulation. Stocks immediately rallied, and in less than a week the Nikkei had breached 13,000 points, taking the index to a 4 1/2-year high. It is rare that any major stock market can achieve a 50% rally in less than a year. But the rally will be costly.

The Japanese government already spends 25% of tax revenue to service outstanding debt (compared to 6% in the US). These costs become even more astonishing when one considers the extremely low rates Japan pays. Ten-year Japanese government bonds now pay less than 0.6%, and five-year yields are now a little more than 0.20%. How much will debt service costs increase if Abe succeeds in pushing inflation to 2.0%? Two percent rates would triple long term borrowing costs. Given the size of its debts, increases of such magnitude could hit Japan with the force of 10 Godzillas.

Japan has an aging demographic and as more time goes by, the pool of potential bond buyers continues to shrink. Unlike the United States, where individual savers are mostly irrelevant in the sovereign debt market, Japanese investors have largely set the market in their own country. There is evidence to suggest that Japanese savers are increasingly considering overseas sources of yield for protection from the inflation that Abe is so determined to create.

As the Nikkei has moved upward, the Japanese Yen has taken the opposite trajectory, falling more than 20% against the U.S. Dollar since the beginning of 2012, and nearly 12% since the beginning of this year (the decline has been even greater in terms of several other currencies). This steep drop, which has taken a huge bite out of the nominal gains in Japanese stocks is unusual in the foreign exchange markets, and has threatened to destabilize an already weak global financial system.

Earlier this year the falling yen issue sparked a full-fledged headline war. On February 16th, participating members of the G20 issued a statement, clearly aimed at Japan, warning against competitive devaluations and currency wars. A day later, Japan's Finance Minister stated flatly that Japan was not attempting to manipulate its currency. After some hesitation, the G20 seemed to accept this statement. For now it seems the international powers have fallen in behind Japan. Both IMF Chief Christine Lagarde and Ben Bernanke have praised Abe's policies. The prevailing opinion seems to be that weakening a currency should not be considered manipulation as long as it's done to revive a domestic economy, not specifically to harm competitors. Such an opinion qualifies as a great moment in rhetorical shamelessness. 

In addition to his plans for inflationary monetary policy, Abe is also attempting to wage war from the fiscal side as well. His Liberal Democratic Party has called for over $2.4 trillion USD worth of public works stimulus over the next 10 years. This spending represents approximately 40% of Japan's current GDP and, adjusted for population, would be the equivalent of nearly $600 billion USD annually in the United States.

It should be obvious to anyone with even half a brain that Japan's prior experiments with ever larger doses of quantitative easing have failed. Leaders in both Japan and the United States, however, are following this path with reckless abandon. According to Abe, the entirety of Japan's economic problems can be blamed on the fact that consumer prices have been declining by one tenth of one percent per year. If only Japanese consumers were forced to pay two percent more per year for the things they need or desire, all would be well. 

Abe's wish may already be coming true. McDonald's announced this morning that, for the first time in 5 years, the price of hamburgers and cheeseburgers in Japan will be rising by 20% and 25% respectively. No doubt the Japanese will be so excited by this development that they'll rush to the stores to consume all the burgers they were planning on eating in 2014 before prices go up again. Of course there is no official concern that low-income Japanese will now have to pay more for low cost food. 

The idea that informs Abe's plan, that rising prices entice consumers to buy before the prices go up, is clearly suspect as economic law dictates that demand increases when prices fall. Any store owner will tell you that cutting prices is the best way to move merchandise. Apart from this problem, how does Abe expect consumers to buy more when their currency is losing purchasing power and more of their incomes will be needed to pay interest on the national debt?    

The boldness of Abe's plans should provide the rest of the world with a crash course in the ability of debt accumulation to jumpstart an economy. The good news is that the effects should not take too long to be seen. I believe that we will be treated with a stark lesson on the limitations of inflation as an economic panacea.

Hopefully, failure of this latest Japanese experiment will help convince leaders in the U.S. and Japan that the only true path to prosperity is free market capitalism. Rather than trying to reflate busted bubbles and micro-manage Keynesian style recoveries, politicians and central bankers should recognize their respective roles in creating the problems and get out of the way.  

Peter Schiff is the CEO and Chief Global Strategist of Euro Pacific Capital, best-selling author and host of syndicated Peter Schiff Show. 

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Tags:  Bank of JapaninflationJapanyen
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Treasury's Last Pillar Crumbles
Posted by Peter Schiff on 01/03/2013 at 7:20 AM
With the return of Shinzo Abe and his Liberal Democratic Party to power in Japan, the market for US Treasuries may be losing its last external pillar of support. Re-elected on September 26th, Abe has quickly set a course for limitless inflation, saying Japan must "free itself from deflation and the strong yen." This is significant to the global economy as Japan is the largest foreign power left with a strong appetite for US Treasuries. If this demand falters, the Fed may be the only remaining buyer of new Treasury issuance.
 
Abe's Plan
 
This election marks Abe's second turn in the premier's seat. He first held the position from 2006 to 2007, when he abruptly resigned as the first of a string of unpopular one-year premierships. Notably, in the intervening time, the LDP lost its lower house majority to an opposition party for the first time since its formation in 1955. The victors, the Democratic Party of Japan, had been formed in 1998 on a platform of reducing corruption and making Japan more progressive.
 
Unfortunately, as we know from our past century of experience in America, progressivism is not the cure for an ailing economy. The DPJ was predictably unsuccessful at reining in the bureaucracy, but did manage to push through a damaging doubling of the national sales tax and additional entitlement spending.
 
Similarly to President Obama's 2008 election, the Japanese people were sold a lot of rhetoric about hope and change and, lacking any sincere alternatives, decided to give the new guys a shot. The results were equally disappointing on both sides of the Pacific. 
 
While American voters decided to throw good votes after bad in 2012, the Japanese preferred to return to the devil they know. The only problem is, he's still a devil.
 
Abe has essentially promised to return to the failed but feel-good policies of LDP government for the last 3 decades; namely, he will prop up failing industrial giants and attempt to print his way out of an economic slump.
 
Saving Grace or Pain in the $%&?
 
The yen hit a post-war high against the US dollar in 2011 and has remained strong. For sound-money enthusiasts, this has been cause for celebration. But for Keynesian demand-siders, it's a crisis.
 
Rather than attribute decades of sluggish growth to an interventionist industrial policy, Abe and his cadres are blaming the strong yen. In response, Abe has called for the Bank of Japan to target at least 3% inflation.
 
For some time, the only saving grace for Japanese citizens who are unable to find jobs or secure financing has been that prices have been stable or falling. Abe intends to rob them of that salve while doing nothing to address the underlying infection.
 
While some Americans may feel a self-interested sense of relief that one of the major dollar-alternatives is being undermined from within, they are misunderstanding the knock-on consequences of this move.
 
The Last Major Pillar
 
For the Treasury to continuing having successful auctions at current rock-bottom interest rates, someone has to be purchasing. A lot. 
 
Before 2008, most of the demand came from foreign central banks - especially China. Since the financial crisis began, China and many emerging market banks have dramatically reduced their purchases and even become net sellers. 
 
The deficit has been made up by the Federal Reserve, domestic personal and institutional investors, and a few foreign holdouts led by Japan. In fact, Japan is about to overtake China as the largest foreign holder of US government debt.
 
This is significant in that the other two sources of funding - Fed and US domestic - are essentially intertwined. The more Treasuries the Fed purchases, the higher inflation becomes, which harms the US economy even further, which leaves domestic funds less wealth to invest in Treasuries. In my view, the foreign influx of capital has been the key third pillar that has kept this vicious domestic cycle from playing out in full.
 
How It Crumbles
 
Prime Minister Abe's plan to devalue the yen could thus be disastrous for both US and Japanese government finances. As the yen devalues, Japanese domestic investors - who make up the bulk of owners of Japanese Government Bonds (JGBs) - will be under intense pressure to sell out and find higher yields elsewhere. 
 
This flight of capital will threaten Tokyo with default, so the likelihood is that the Bank of Japan will begin directly buying JGBs on an even larger scale (as our Fed has done since the financial crisis) instead of buying US Treasuries. They may even become net sellers of Treasuries in order to finance their bailout of Tokyo while controlling inflation.
 
This will, in turn, put tremendous pressure on US Treasury investors. As the outflows mount, the Fed will no doubt announce another program to buy Treasuries under the guise of promoting economic stability. If the Fed becomes the permanent crutch of the Treasury, we can expect inflation to get higher and higher - driving more and more investors out of Treasuries.
 
Decoupling Continues
 
It is clear that Washington and Tokyo are but two sides of the same coin. Japan's debt-to-GDP is about 212%, while the US has just crossed 100%. Both are highly dependent on domestic investor interest in government debt to keep the charade going, and neither have prospects of paying their debts without real write-downs for investors. 
 
Unfortunately, neither government is using the time before this real crash strikes to even attempt to shore up their positions. The platform of Shinzo Abe seems poised to undermine Japan's ability to continue subsidizing US government debt. Left without any significant external supports, Treasuries will be in an extremely weak position when attention shifts from the EU sovereign debt crisis to the our own tattered finances.
 
Fortunately, there are ways for investors to escape Abe and Obama's tandem cliff-dive. Recent data shows that China continues to build a viable alternative. The South Korean won and Taiwan dollar are now significantly more correlated to the movements of the yuan than the yen or the US dollar. These booming economies will sustain demand for commodities as they build real wealth. With the old statesmen of sovereign debt compromised, I expect the up-and-comers to continue to turn to gold and silver in droves.

Peter Schiff is CEO of Euro Pacific Precious Metals, a gold and silver dealer selling reputable, well-known bullion coins and bars at competitive prices. 

Click here for a free subscription to Peter Schiff's Gold Letter, a monthly newsletter featuring the latest gold and silver market analysis from Peter Schiff, Casey Research, and other leading experts. 

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The Last Haven Standing
Posted by Peter Schiff on 09/02/2011 at 7:47 PM

The markets are going through another sell-off phase, yet the traditional notions of a 'safe haven' are changing. No longer is the US dollar the default shelter; instead, gold, the Swiss franc, and the Japanese yen are the preferred assets.     

 

All three of these havens - gold, francs, and yen - have been surging upward this month. Two of them, however, are being actively devalued by central banks desperately (and foolishly) trying to curtail appreciation. The Swiss and Japanese are enlisting both policy measures and all the banker-speak they can muster to stem the tide of investment flows into their currencies.

The game is Last Haven Standing, and Spielberg has already acquired the movie rights.

SWITZERLAND: FROM NEUTRALITY TO INTERVENTION

Looking to Europe, the Financial Times now has the awkward task of reporting that mighty European Union's currency is coming apart at the seams, while neighboring Switzerland has barely enough hotels to house the world's waterlogged financial refugees. The franc is up 5.41% against the euro this year and almost 14% against the dollar. One wonders if the only way to prevent a collapse of the these major debtor currencies is to back them with Swiss-made wristwatches. At least then they'd have a partial gold standard and there'd be no excuse to be late for an austerity protest!

Unfortunately, the Swiss National Bank is so afraid of the franc's rise that it has flooded the market with liquidity and cut interest rates to zero. The SNB even recently threatened to peg the franc to the euro. It's as if survivors on one of the Titanic's lifeboats were so confused and bewildered that they began tying their boat to the sinking behemoth out of a desire for a 'stable relationship.'

NOTE TO JAPAN: IT'S NOT THE SPECULATORS

Japan, ironically, has been blessed that while its debt problems are severe, they've been severe for so long that markets are willing to take that as a sign of stability. And, aside from the public debt problem, Japan does have fairly impressive fundamentals. They are still a productive economy with high personal savings and exposure to booming China. So, it's no wonder the Yen has risen 6.63% against the dollar so far this year.

Former Finance Minister, and now Prime Minister, Yoshihiko Noda stated recently that he would "take bold actions if necessary and won't rule out any possible options" to restrain the yen's appreciation. Yet, while Noda has said the ministry will study whether "speculation" is behind the yen's rise, he doesn't seem to understand that this is a permanent move away from dollars and euros and into anything which might be a better alternative. This is not driven by Wall Street gamblers, but rather by everyday investors seeking shelter.

CLEARLY SHIFTING SENTIMENTS

My readers know that I see these past years in the US markets as one ongoing crisis. We're not "facing a double-dip recession" as the media suggests; instead, we're really in the midst of a prolonged economic depression. The periodic market panics since 2007, both in the US and Europe, all stem from the same disease and, as such, ought to be properly understood as related symptoms, not as separate events.

And as one long, ugly narrative, these subsequent panics resemble a series of steps; sharp drops leading down either to a dismal "new normal" or - more likely - a collapse in both the fiat dollar and euro currencies and a widespread return to gold as money.

My brother, Andrew Schiff, wrote an article for my brokerage firm this month reviewing the market turmoil and how it compares to previous crises since '07. He found a steady shift in what investors perceive as a safe haven.


During the depths of the credit crunch, from October 2008 to March 2009, the S&P lost over a quarter of its value, as investors flocked to the US dollar, driving it up 8%. Foreign stock markets sold off and most foreign currencies fell substantially. The Swiss franc fell over 3%. Gold rose some 6.5% and the yen rose 5.75%, but neither kept pace with the US dollar, which rose 13.5%.

Then, during the dip between April 23, 2010 and July 2, 2010, the S&P dropped again by almost 15%. The dollar rallied barely more than 3%. The Swiss franc gained slightly instead of falling. And this time, both the yen and gold beat the dollar, gaining 4% and 5.5% respectively.

Now here we are in August, and what's happening?

In extreme volatility, the S&P fell over 13% before rebounding to its starting place. The dollar has remained essentially flat even with intensified fears in the euro zone. The yen is also flat, despite heavy intervention to push it down. The Swiss franc rose 8% before Switzerland's central bank threatened to peg the currency to the euro, and gold has surged almost 12%!

See the pattern? On each step of this multi-year downward spiral, global investors are slowly but coherently altering their preferred safe haven. Alternatives are being desperately sought, though actions first by the Japanese central bank and more recently by the Swiss have prevented their currencies from fully realizing potential gains as dollar-alternatives.

Fortunately, gold doesn't have a central bank, so it can rise as fast as the dollar falls.

THE FIAT DOWNGRADE

Whether it is in their interests or not - and I argue it is not - central bankers look set on continued competitive devaluation of their currencies so that their economies don't have to do the hard work of retooling for the new reality.

That is why gold is doing so phenomenally well, and why it should continue to do so. New gold comes into the market at a rate of about 2% per year. This number has been fairly steady over time, and reflects the ability of mining companies to locate, finance, purchase, and develop new gold mines. I invest in these companies, and trust me, it's not an easy job.

Contrast this with a paper currency - more dollars can be created by Bernanke simply printing extra zeros on his banknotes. See that $10 bill? Shazam, it's a $100!

The reason currencies like the yen and Swiss franc are considered safe is simply a longstanding habit of their central banks not to print too much. But a habit is much less reliable than a physical constraint.

Think of a dog that has been trained not to eat steak. If you put it in a room with a juicy ribeye, would you be more confident the steak would be there when you came back if the dog was in a kennel or just sitting there? Just like a dog always craves steak, and will grab a bite when no one's looking, central bankers always crave the printing press.

That's why we need to hold an asset for which scarcity is dictated by nature itself - gold.

As this realization becomes more commonplace, and as this depression accelerates, I expect gold to be the Last Haven Standing. This will not be a "new normal," but rather a return to thousands of years of economic tradition.

A NOTE ABOUT THE FUNDAMENTALS

Those who do not really understand the fundamentals, such as commodity trader Dennis Gartman, continue to look at gold's rise as a bubble. In fact, Gartman just called the top in gold, again, claiming that one of the "great bubbles of our time" had finally popped.

He cites as evidence the quick 200-point rise to over $1900/oz, which Gartman sees as a speculative blow-off top. He also cites the meaningless fact that one Gold ETF, GLD, has a larger market cap than one S&P 500 ETF. He absurdly compares this situation to the Japanese Emperor's palace eclipsing the value of the entire state of California at the top of Japan's real estate bubble. Those ETFs simply represent one way of owning assets, and do not, as Gartman contends, indicate that investors value gold higher than the entire US stock market. In fact, a true comparison of the two asset classes reveals gold's value is historically low relative to the value of US stocks.

Rather than the bursting of a bubble, the recent technical action in gold is more indicative of a break-out. In fact, the positive divergence of gold stock from bullion in this recent correction is evidence that a more powerful leg in this bull market is about to begin. Up until now, the market for gold stocks has been characterized by fear. However, it now appears to me that gold stocks will make a new high before the metal itself. If the stocks finally begin to lead the metal, it means traders are finally starting to believe in this rally. Rather than evidencing the end of the trend, such a shift in sentiment likely indicates an acceleration in that trend. Maybe when the last skeptic finally throws in the towel, we may finally get the blow-off top Gartman thinks already occurred - but that day is likely many years into the future.  

In fact, all the talk about a gold bubble seems to be based on the fact that so many investors are now talking about gold. However, the problem with this argument is that despite all the talking, very few investors are actually buying. Bubbles are not formed by talk, but by action. Before we get a gold bubble, all those investors talking about gold actually have to buy an ounce. In fact, before a bubble pops, its not just investors, but the average man in the street who will have to be buying. Thus far, he has not even joined the conversation. 



Tags:  dollargoldswiss francyen
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AFTER THE DOLLAR: WHAT COMES NEXT?
Posted by Peter Schiff on 06/01/2011 at 2:06 PM

THE DOLLAR'S TERRIBLE FATE

 

My readers are familiar with my forecast that the US dollar is in terminal decline. America is tragically bankrupt, unable to pay its lenders without printing the dollars to do so, and enmeshed in an economic depression. The clock is ticking until the dollar faces a crisis of confidence like every other bubble before it. The key difference between this collapse and, say, the bursting of the housing bubble is that the US dollar is the backbone of the global economy. Its conflagration will leave a vacuum that needs to be filled.

 

Mainstream commentators often discuss three main contenders for the role: the euro, the yen, or China's RMB (known colloquially as the "yuan"). These other currencies, however, each suffer from a critical flaw that makes them unready to carry the reserve currency role in time for the dollar's collapse. When it comes to fiat alternatives, it appears the world would be going out of the frying pan and into the fire.

 

EURO: FRAYING AT THE EDGES

 

The euro is a ten-year-old experiment in uniting divergent political, economic, and cultural interests under one monolithic fiat currency held in the hands of one very powerful central bank.

 

If managed correctly, such a currency could serve to keep its member-governments honest - but that is not the world in which we live. Instead, the fiscally irresponsible members are discussing ditching the currency at the first sign of trouble. That is, they'd rather have their own national currencies to inflate in order to cover over their burdensome public debts. So, in order to keep the euro together, creditor states have been strong-armed into bailouts of the debtors - even though such measures violate the compact that created the common currency.

 

The question becomes: how long do Germans - still wrought with the memory of Weimar hyperinflation and the rise of the Third Reich - want to keep printing euros to pay the debts of the spendthrift Greeks? How many German politicians will ride to electoral victory on promises of unending bailouts and higher prices across Europe? This is the fundamental flaw of the euro.

 

And, of course, Greece isn't the only problem. Ireland and Portugal are vying for second-worst debt crisis in Europe. Spain, representing over 12% of eurozone GDP, saw sovereign yields jump from 4.1% at the beginning of 2010 to 6.6% by the end of the year. Yields on most other eurozone countries have been rising as well - a clear indication that the eurozone is an increasingly risky bet.

 

While a euro secession by the PIGS could actually leave a stronger currency region at the end, it would be a traumatic event. That prospect is undermining confidence in the euro at just the time when the world is considering where to go next.

 

Perhaps a mature currency that didn't falter so easily amidst the recent global financial crisis would be a good contender for the world's reserve. The euro, by contrast, is both young and in serious trouble. If less than two-dozen nations are too immense a burden for the euro to shoulder, should we expect better results when it's stretched across two hundred?

  

YUAN: CAPITALIST COUNTRY, COMMUNIST CURRENCY

 

The investment community is slowly coming around to my long-held excitement about the miraculous growth of China. This is no frenzy. In fact, if anything, I think many are still too skittish when it comes to this market. Yet, those that are jumping on the bandwagon are now proclaiming the Chinese yuan as the logical successor to the dying dollar. But while China is becoming an immense economic force, the yuan itself is hobbled by the country's communist past.

 

Foremost, China enforces stern capital controls on the yuan. A reserve currency must be freely and easily exchangeable with other currencies. Even within China's borders, one cannot exchange large amounts of yuan for dollars or any other currency.

 

China is slowly undertaking reforms to relieve these controls, but remember they were not put there arbitrarily. The controls allow China to suppress the value of the yuan, thereby maintaining artificially high exports, among other consequences. If China allowed the yuan to trade freely, it would lose the power it maintains over its money - and by extension, its people.

 

Let's remember that all fiat currencies are routinely manipulated and inflated. The People's Bank of China has reported M2 growth of over 140% in the past five years - almost entirely to maintain a stable exchange rate with a depreciating dollar. Given rampant inflation, combined with exchange restrictions and a serious lack of transparency, the yuan is simply not ready for primetime.

  

YEN: BLACK HOLE OF DEBT

 

The Japanese yen is the third amigo at the international fiat fiesta. While it doesn't suffer the structural risks of the euro, the yen is subsisting in an environment of massive sovereign debt. Japan's debt-to-GDP ratio is the highest of any developed country at 225%, meaning there is a perpetual impetus to print more yen to pay it back. The yen must endure this debt-noose, making it a poor alternative to the USD, which suffers the very same problem.

 

While I believe Japan is in a much better position because it generally maintains a net trade surplus and because most of their debt is held domestically, it's still not a stable unit with which to conduct world trade.

 

Perhaps more importantly, with a world seeking yen reserves, the price of yen would increase drastically. This is politically unpalatable in Japan, where the export lobby is constantly trying to push the yen down to boost their sales overseas.

 

These two factors combine in such a way as to make the yen a plainly infeasible reserve currency. The appreciation in yen value would simultaneously make Japan's debt problems worse and cause its export industry to suffer greatly, meaning that Japan probably doesn't want this role any more than we want her to have it.

 

As an aside, if you type "yen as reserve currency" into Google, it will ask, "Did you mean: yuan as reserve currency?" I guess even the world's smartest search engine doubts the yen could fill that role.

 

THE SIMPLEST ANSWER IS OFTEN THE BEST

 

As J.P. Morgan famously said to Congress in 1913, "gold is money and nothing else." Morgan meant that gold was unmatched in its effectiveness as a store of value and medium of exchange.

 

Given that his namesake bank started accepting physical gold bullion this past February as counterparty collateral, why should the trend of a widespread return to gold be considered only a remote possibility? On the contrary, it should be expected - if for no other reason than every other currency is fundamentally dismal.

 

Markets are powerful things, and require a reliable medium of exchange. The call for sound money is not just philosophical; it is derived from the market itself. Throughout human history, merchants have always turned to pure gold and silver over every pretender. This is not the first experiment in a paper money system, nor is it the first widespread debasement of money. In fact, the lessons of history were impressed upon our well-read Founding Fathers to the point that they included the following clear language in the Constitution: "No state shall... make any Thing but gold and silver Coin a Tender in Payment of Debts."

 

While it has always been possible that another fiat currency would rise up to take the dollar's place, and thereby keep this irrational experiment in valueless money going awhile longer, the particular circumstances that abound today make it seem less and less likely to me. Instead, I'm seeing signs that the world is moving back to gold at a breakneck speed.

 

This is a return to normal and has many positive implications for the global economy. It's certainly a trend we can all welcome, and profit from.



Tags:  chinadollarrmbyenyuan
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Quake Response Puts Yen on the Line
Posted by Peter Schiff on 03/18/2011 at 11:41 AM
One of the immediate financial consequences of the catastrophic Japanese earthquake is that Japan needs to call on its huge cache of foreign exchange reserves to rebuild its shattered infrastructure. To pay for domestic projects, Japan will require yen - not dollars, euros or Swiss francs. As a result of these conversions, the yen rallied considerably after the quake struck.

But a surging yen runs counter to the macro-economic currency plans favored by most global economists. In order to maintain Japan's position as a net-exporter of manufactured goods and net-buyer of US debt, the yen needs to stay down. So, the G-7 group of the world's leading economies has intervened in the foreign exchange market by selling yen holdings, thereby pushing the currency down. In the short-term, their efforts appear to have been "successful," with the yen dropping sharply today.

Theoretically, this action is being taken to preserve export earnings, but this is only a secondary effect. Primarily, in making this move, the G7 is saying that the key to rebuilding Japan's earthquake-ravaged economy is to raise the price of everything it needs to buy.
  
After all, absolute purchasing power is far more important than nominal export earnings. When the yen gains in strength, Japan earns more dollars from its exports, which could now be used to purchase the raw materials necessary to rebuild its infrastructure. However, by weakening the yen, Japan earns fewer dollars for its exports, increasing the economic burden of reconstruction.

Conventional wisdom is that a weakening currency is a boon for economic growth and exports; however, history does not support this view. 

For example, during the 20-year period from 1971 to 1991 - often referred to now as an economic miracle - the Japanese yen tripled in value against the dollar, an average appreciation rate of about 10% per year. This increasing purchasing power enabled the Japanese to enjoy steady economic growth and rising living standards. Over that time, Japan's GDP grew at an average rate of 4.5% and net exports increased fivefold. Government debt as a percentage of GDP fell slightly to about 20%. 

Over the following 20 years, from 1991 - 2011, the Japanese economy has been dead in the water. Yen appreciation slowed considerably, with the currency rising by approximately 50% against the dollar, or about 2.5% per year. However, over that time, the Japanese economy and net export growth essentially stagnated, with GDP growing by less than 1% per annum and government debt exploding to over 120% of GDP. 

The real problem for Japan is that in the aftermath of the bursting of the stock and real estate bubbles, the Japanese government refused to allow market forces to repair the damage. Instead, it based its foolish approach on restricting the rise in its currency to maintain exports to the United States.  In this cart-before-the-horse worldview, Japan assumed its economic growth was a function of its exports. In reality, exports flow from economic growth.

So, in order to engineer an export-led recovery, Japan embarked on an era of central government planning, Keynesian style pump-priming, and nearly endless quantitative easing. The result was disaster. The only bright spot was that the underlying strength of the Japanese economy kept a lid on consumer prices despite all the inflation deliberately created by the Bank of Japan. So even while good jobs have become harder to find, ordinary consumers have had the benefit of falling prices. It is ironic that Japan's "deflation" is cited as the primary cause of its malaise. If Japan's economy had been less efficient, its 20-year malaise would have been accompanied by increasing consumer prices, a.k.a. stagflation. This would have caused much more suffering to the Japanese people.

Still, as a result of its enormous economic policy errors, much of Japan's efforts over the past 20 years have benefitted Americans rather than its own citizens. A tremendous share of their purchasing power was transferred across the Pacific, helping to inflate a bubble economy in the United States. Of course, as the Japanese economy struggled beneath the weight of this massive American subsidy, it gradually passed the baton to China, which for the same foolish reasons was happy to run with it.

The unfortunate reality is that the Japanese government is doing more economic damage to Japan than the earthquake and tsunami did. This new round of inflation will overwhelm the ability of the Japanese economy to offset upward pressure on consumer prices. Combine that with the lost output associated with the quake and the expense of reconstruction, and it becomes evident that inflation will soon become a major threat to Japan. As this realization forces interest rates higher, the cost to Japan of servicing its massive government debt will be crushing. 

There is still time for Japan to rethink its self-destructive monetary policy, let its currency rise, and allow its economy to recover. If they do, the US will experience its own disaster as the dollar tanks.


Tags:  Japanyen
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Japan Intervenes to Bail Out America.com
Posted by Peter Schiff on 09/17/2010 at 4:21 PM

This week, after the Japanese yen had surged to a fifteen-year high against the US dollar, the Japanese government decided to intervene in the foreign exchange market. To great fanfare, the Bank of Japan initiated a vigorous campaign to buy US dollars, thereby stemming the rise of the yen and pulling up the greenback. The effects were immediate, with the yen falling an astonishing 3% on the day of the announcement. At a time when American politicians are growing increasingly vocal about China’s currency manipulations, Washington was strangely silent on the Japanese move. This was completely overlooked by the hawkeyed media.

While missing this blatant irony, the media spin doctors cast the Japanese decision as an attempt by the island state to prop up its own fragile economy. More accurately, the intervention was done to help American consumers buy more cars and electronics from Japan. In truth, although more American purchases would nominally benefit some Japanese exporters, a weaker currency is a detriment to the overall Japanese economy.

The politics of currency intervention are actually quite simple. Japan’s economy is dominated by large manufacturers that export lots of goods to Americans. The problem is that Americans can’t really afford to buy in the quantities that they did just a few years ago. So, instead of looking for new customers with more money to spend, either in their own country or in other productive economies, Japanese manufacturers use their political clout to lobby their government to bailout their traditional U.S. customers. The bailout takes the form of a direct transfer of purchasing power from Japanese savers to American consumers, so that Americans can continue buying products they couldn’t otherwise afford. In short, pushing up the dollar allows Japanese exporters to postpone a necessary, but costly, restructuring.

The tendency for governments to sacrifice the needs of the general population in favor of entrenched corporate interests is not unique to Japan. In the United States, we have taken similar measures on behalf of our dominant industries. However, instead of manufacturers and exporters, whose political clout has waned along with their economic prospects, Washington has moved to protect the profits of the financial, retail, and real estate industries– the true heavyweights of the American corporate world. These industries profit when Americans borrow money to buy things they can’t afford. To keep this behavior going, the government must make it possible for consumers to take on more debt; but, in so doing, these policies have left us with an ailing economy in need of deep and drastic restructuring.

In a way, what the Japanese government is doing for American consumers is very similar to what our government is doing for American homebuyers. Rather than let home prices fall, the US government subsidizes homebuyers so they can continue overpaying for houses they cannot actually afford. The beneficiaries of these moves are those selling, building, and financing overpriced homes. Unfortunately, the last thing we need as a nation is to build, buy, or finance more homes. Our economy would improve if the resources devoted to the real estate market could be devoted to other, more needed industries. 

Japan should allow the dollar to fall, which would force their manufacturers to adapt to a changing global market where Americans consume less, and those in emerging markets consume more. Instead, it is vainly trying to preserve the status quo and appease entrenched political factions.

Just like here in the US, Japanese politicians take cover by falsely claiming that the intervention “saves jobs.”  However, the jobs that are saved come at the expense of more productive jobs that are either lost or not created. If Americans cannot afford to buy Japanese products, it makes no sense for the Japanese to continue selling them to us. Rather they should devote their time, effort, savings and resources to selling products to customers who can actually afford to pay.

Japan’s bailout of American consumers is nothing more than international vendor financing. This is the same technique used by telecom companies during the Internet boom of the late ‘90s. In order to pump up short-term profits, manufacturers of communications gear loaned money to cash-strapped Internet startups so they could buy switches and routers. Of course, when the dot-coms went bankrupt, all those phony sales were written off; then, the stocks of those companies doing the financing, like Cisco, Lucent, and Nortel, collapsed as well (though they did not collapse to zero like the dot-com companies). Although their performance would have lagged during the boom, the equipment manufactures would have been in far better shape fundamentally if the phony sales had never been made.

The same fate awaits the US and Japan. In this analogy, Japan is Cisco and the United States is Pets.com. Sooner rather than later, both Japan and China will realize that they have been hoodwinked by a fast-talking sock puppet without a credible plan to pay them back. When that happens, they will take the write down and let us fend for ourselves.



Tags:  dollarJapanyen
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