Mr Schiff opens up his latest economic video blog by discussing the recent interest rate hike by the Reserve Bank of New Zealand, to 3%, which followed a similar move, the day before, by the Reserve Bank of India, to 4.5%. He welcomes these upward moves and wonders when the same upward moves in interest rates will be carried out by the Federal Reserve in the United States.
“Don’t hold your breath,” he says, because the phoney US economy is on the artificial life support of zero percent interest rates; if the Fed pulls the plug, then the phoney economy will die. It needs to die, thinks Schiff, and needs to be replaced by a viable economy.
He then analyses the situation in terms of his fundamental view that a collapse in the value of the US Dollar is almost inevitable.
In terms of the housing market, Schiff thinks the Federal Reserve may be afraid of raising interest rates because many US banks are loaned out for 30-year terms at low interest rates (e.g. 4%) and if interest rates go up to perhaps where they should (e.g. 6%) then all of these banks will go bankrupt again and the Fed will come under massive political pressure to bail them all out for a second time with Ben Bernanke’s helicopter money.
Even if the Fed should send out a second wave of helicopters, a further problem emerges. When central bank interest rates eventually go higher, to something like 6%, although the current home owners may still be locked into 4% fixed-rate long-term loans, new potential home owners will be looking at 30-year loans at much higher rates (e.g. 8%-10%). Therefore demand for housing will collapse, along with house prices.
So not only will the banks need an immense second wave of helicopter bailouts to prop them up, their loans will then be held against collateral rapidly diminishing in value.
To this Gordian Knot, we can add the further Cat’s Cradle of the US government’s own need to keep interest rates low. Low rates enable it to keep rolling over its $13 trillion Dollars worth of debt, much of which is in one-year T-bills, with the total outstanding amount of explicit government debt expected to go over $18 trillion Dollars by 2014.
Hence, when the time comes to put interest rates up in Paul Volcker style to prevent the Dollar from collapsing, then the Federal Reserve will almost certainly lose its nerve and refuse to do the right thing. The Dollar will then collapse under the resultant runaway inflation.
Here’s the rub, thinks Schiff:
The sooner this crash is endured, the easier it will be to survive and the quicker the recovery will kick in once we have hit the true bottom. However, if the Federal Reserve is incapable of inducing this crash at the current time, due to political pressure, then the political pressure will be that much worse in a couple of years, when the repercussions of pricking the bubble will be even worse.
Hence, expect eventual runaway inflation and a collapse of the Dollar, as the Federal Reserve stands immobile, incapable of action.
The Fed has boxed itself in, says Schiff. Rates must go up but it cannot raise rates. The irresistible force has met the immovable object.
Expect fireworks when the force and the object clash, as one day they must.
With the Dollar cratering this week, the last shoe in Peter Schiff’s Austrian-based prediction set from 2007 may finally be dropping.
In his latest video blog (July 15th), Peter Schiff comments upon the 9% drop in the Dollar Index this month, with the Dollar showing particular weakness against the Euro, the Yen, and the New Zealand Dollar.
Schiff thinks this Dollar Index drop may be the direct result of the recent G20 meeting, where a clear split opened up between the American stimulus-and-spend position and the European austerity-and-save position — dare we say the Krugman versus Schiff divide? — which has subsequently weakened the Dollar outlook versus the Euro outlook, despite the earlier problems with Greece et al.
Mr Schiff has faced much criticism in the past two years because of his 2007 conviction that a forthcoming crash, on the bursting of Greenspan’s bubble, would be accompanied by US government bailouts, bank failures, Fannie and Freddie bankruptcy, zero percent interest rates, massive government borrowing, quantitative easing, and record deficits. Under these predicted conditions, he saw it as highly unlikely that the Dollar would increase its strength relative to other currencies; yet this is exactly what happened.
The financial world turned in panic to the Dollar as a ‘safe haven’, thereby pushing up the Dollar Index value, when virtually everything else crashed almost exactly in line with Schiff’s many other predictions, all based upon his long-term analysis of the Greenspan bubble and its necessary eventual bust, according to the tenets of the Austrian Business Cycle Theory (ABCT).
Despite the avalanche of snickering criticism, Mr Schiff remained convinced that economic gravity would eventually grab the Dollar in the same way that cartoon gravity eventually grabs hold of Wile E. Coyote whenever he chases the Road Runner over a cliff — despite Wile E. Coyote’s fervent desire to remain up in the air.
The Dollar’s recent problems may thus mark economic gravity finally nailing the elusive Dollar, thinks Schiff; it was certainly difficult for gravity to remove all the subtle traces of a smile from Mr Schiff’s cherubic face as he opined upon the issue.
He then moves on to price inflation, with some commentators at CNBC saying that price inflation is almost invisible and is certainly nothing to worry about. On the contrary, claims Schiff; to him the price inflation train is highly visible because prices should be dropping in a time of US economic distress, but they are holding up due to all of the money inflation pumped into the US economy by the Federal Reserve.
(As in Britain, many US government-measured figures have been massaged down over the years, to create a better press for government. Ronald Reagan took housing-related costs out of the CPI, because they were going up too quickly, and there have been many other finaglings and finessings over the years, especially since 1980. To take a clearer look at US price inflation, it is often worth taking a looking at the Shadowstats web site, which is currently showing US price inflation at approximately 9%, using the US government’s 1980 price inflation methodology, rather than the approximate 1% figure reported currently using the US government’s 2010 price inflation methodology.)
Schiff predicts that when prices do start going up significantly, as the inflation train rushes towards us, it may be too late for anyone to do much about it, because the inflationary stimulus policies of the US government and its Federal Reserve have made the US economy so febrile that any punitive Volcker-style interest rate rises required to shut down rapid price inflation will cripple the US economy completely. The analogy Schiff uses is of a man who has got rid of his party hangover (the 2008 bust following the preceding boom) by taking another large cup from the punch bowl (the Keynesian stimulus policy). This may have made the pain go away temporarily (producing the infamous green shoots of recovery), but have left the man in an even worse state to cope with reality when the second hangover inevitably kicks in (which is starting about now).
The man would have been better off taking the painful hit of the first hangover and dealing with it, says Schiff, rather than hitting the punch bowl for a refill. One assumes that hitting the punch bowl for a third time, as Obama may do with another round of stimulus, will cause even less temporary relief and will cause even more eventual pain.
To wrap up, Schiff predicts that when the Dollar index starts going really low (sub-80) then the US bond market will start to move downwards in line with the US stock market. He also criticises the theatrics in Washington over the recent passage of the financial regulations bill. The too-big-to-fails will get bigger, Schiff claims, due to all of the extra regulation and easy access to government finance, while the smaller firms will either be more likely to fail or to merge into the larger entities, thereby decreasing competition and allowing yet more financial complacency, which can only be bad news for the long-term recovery.
Peter Schiff begins his latest economic video blog, broadcast on July the 1st, by discussing the recent market volatility in China, before returning to the latest US economic data; this shows the biggest drop in house building for 40 years and the lowest numbers of Americans planning to buy cars, for many years, with both sets of news reflecting AEP’s latest Cassandrine piece in The Daily Telegraph.
Schiff thinks it is interesting that these two major market drops are precisely in those two areas that the American government has recently tried to ‘stimulate’, with the ‘Cash for Clunkers’ programme and all of the help for those struggling to make their McMansion house payments.
With jumps in unemployment claims and a weak US stock market, Schiff then discusses the bullish bond market, which he thinks should be worried in the longer term about the secondary effect of a weak stock market, which is an inflationary stimulus response from the US government which will be bearish for bonds.
Before he gets back to the topic of China, Schiff also discusses a large recent one-day drop of $50 in the price of gold, which he reckons provides a great buying opportunity in the ten-year gold bull market. This drop, he thinks, was caused by a strengthening Euro with European investors formerly buying gold for an inflation hedge switching back to the Euro in the face of several austerity programmes announced by European governments.
But the Dollar is gradually moving towards a collapse, Schiff thinks, which will cause the Dollar price of gold to shoot up, when the Chinese eventually remove the entire Renminbi Dollar peg.
The Chinese government prefers the status quo of propping up the Dollar, says Schiff, but they will be forced to gradually loosen their ties with the Dollar market because of increasing problems at home.
In China, several provinces have recently increased their minimum wages by 30% to cope with the rocketing price inflation caused by the Dollar peg and the resultant price protests. When the Chinese government bows to the inevitable and completely removes the peg, the Renminbi will appreciate significantly and the Chinese people will finally become able to consume their own production.
Schiff reckons that to avoid the resultant Dollar collapse, Obama will make the Keynesian mistake of burning the US economy to a cinder in further rounds of stimulus and inflation, thereby killing the US bond market and stoking up the gold market.
Even gold is no guarantee to hold value when bloated government currencies compete as to which one can inflate the most. The current problems facing some of the eurozone’s member states means that, paradoxically, the price of gold may fall as people cash in their assets. Elsewhere, one notes the performance of the US government in announcing a “spending freeze” which does not include 87% of federal government outgoings or the unspent hundreds of billions from last year’s stimulus bill. A good account of the problems in Europe can be found here and the Cato Institute has a report on the US “spending freeze” here.
However, it seems all too likely that at some point the futility of swapping euros for dollars and back will become clear as the demented game of paying one credit card bill with another credit card. At that point, tangible assets will become the targets of panic-stricken investors, destabilizing such stores of value as gold or land.
To an individual or small business caught in this disaster, it will be like watching giants fighting in a sandbox, not caring who they tread on. It may seem odd for some to hear a humanitarian plea for sound money, but anyone who has ever seen a 1923 “5 tausend Mark” postage stamp overprinted to make it a “2 millionen Mark” stamp will have some idea of the nightmare that inflation threatens, especially to anyone on a fixed income. A few weeks after the stamp you see was issued, 50 billion Mark stamps were being issued and a loaf of bread cost over 300 billion Marks.
