4/25/11

Is This What the Beginning of Hyperinflation Looks Like From the Inside?

Gold is making new nominal highs almost daily. Silver, meanwhile is making 30 year highs. Prices at the pump are soaring, despite an oversupply of oil. The latter is only partly explained by ongoing Middle East turmoil and refinery retooling in preparation for the summer driving season. Anyone who eats has no doubt noticed that food prices are going up while the packages that food comes in are shrinking.

"Panic dollar selling is setting in," hedge fund manager Dennis Gartman says. "This may carry farther than any of us dream of or, worse, have nightmares of." In the race to the bottom, the dollar is ahead of the pack.

US finances are in terrible shape. The federal deficit is almost 10% of GDP, and total debt if you include Social Security, Medicare, and Medicaid is about $75 trillion, five times greater than GDP. "It is a testament to the delusion--and plain dishonesty--which surrounds America's fiscal debate that this figure is not more widely cited," writes Liam Halligan for The Telegraph.

In response, during a recent summit the leaders of Brazil, Russia, India, China and South Africa (the BRICS) announced that they want to trade between themselves in their own currencies. This comes amid a growing chorus in China pushing for a limit of dollar reserves to 1.3 trillion. At present, China, whose economy the IMF says will outpace that of the US by 2016, has 3.04 trillion in dollar reserves. What's going to happen to the dollar when China sells off $1.74 trillion? And who, besides the Federal Reserve, is going to buy our bonds?

Some have speculated that the Federal Reserve is writing (selling) puts on Treasuries to keep rates low. As Frederick Sheehan notes, "the Fed-sponsored put option is the logical next step to dampen the yield curve."

A put is an option contract that gives its owner the right to sell the put writer an underlying asset for a set price within a certain time. If one owns the underlying asset, buying puts on that asset is like buying insurance. One can also buy puts to make a downside bet on an asset. The put writer, on the other hand, is selling insurance or betting that the underlying asset will not fall below the set price within the time frame specified in the contract.

If the Federal Reserve is selling puts on Treasuries, and there's reason to believe that it is because it did just that during the Y2K non-crisis, it is selling insurance on US debt. This is pretty much the same thing that AIG did. The only difference is that the Federal Reserve has a printing press and AIG did not. The Fed can't default, but if rates go above its target strike prices, the Fed will have to print so much money that the currency will collapse.

And a collapse is due. Since the latter half of the 19th century, the world has had four monetary orders. The past three have lasted between 20 and 44 years, or 30 years on average. Our current fiat, faith based system is 40 years old. Add to this the Federal Reserve's money printing and Washington's "openness" to a new global reserve currency.



Maybe they are commodities in a bubble as many suggest, but gold and silver, for thousands of years regarded as money, appear to be remonetizing. Talk of a new gold or other asset backed monetary system is all the rage in the blogosphere while central banks and large university endowments are taking physical delivery of the shiny metal. While it was certainly better to have begun doing so during the last ten years, maybe regular people should start doing this too.

Wikinvest Wire