Thursday, October 30, 2008

Federal Reserve Invoking Serious Monetary Inflation

The U.S. Federal Reserve is trying everything right now to fix the financial crisis. The latest plan, as outlined below by Toni Straka at The Prudent Investor, involves sending billions of dollars to foreign countries around the world. The end result of all this is going to be severe monetary inflation, read on...

Only 75 minutes after the Federal Open Market Committee (FOMC) slashed Fed Funds half a point to the lowest recorded level of 1%, chairman Ben Bernanke started his money dropping helicopter fleet in order to shower the world with another $120 billion. This time it is the central banks of Brazil, Mexico, Singapore and South Korea that will receive up to $30 billion each in newly established swaplines.

A Fed press release states that each country will enter into $30 billion swaplines with the Fed,
in order to help improve liquidity conditions in global financial markets and to mitigate the spread of difficulties in obtaining U.S. dollar funding in fundamentally sound and well managed economies.

In response to the heightened stress associated with the global financial turmoil, which has broadened to emerging market economies, the Federal Reserve has authorized the establishment of temporary liquidity swap facilities with the central banks of these four large and systemically important economies. These new facilities will support the provision of U.S. dollar liquidity in amounts of up to $30 billion each by the Banco Central do Brasil, the Banco de Mexico, the Bank of Korea, and the Monetary Authority of Singapore.
The Fed has now established swaplines with 14 central banks responsible for 28 countries in order to market its only product: Federal Reserve Notes (FRNs) that are backed by nothing than the belief that today's FRN will buy you the same amount of goods and services in the future.

The other central banks helping to fly the FRN helicopters are the Reserve Bank of Australia, the Bank of Canada, Danmarks Nationalbank, the Bank of England, the European Central Bank, the Bank of Japan, the Reserve Bank of New Zealand, the Norges Bank, the Sveriges Riksbank, and the Swiss National Bank.

IMF Will Dish Out Still More FRNs
In its efforts to flood the whole world with FRNs the Fed
welcomes the announcement today by the International Monetary Fund of the establishment of the Short-Term Liquidity Facility, which is designed to help member countries that are facing temporary liquidity problems in the global capital markets. The Federal Reserve is supportive of the IMF's role in helping countries address and resolve their ongoing economic and financial difficulties.
Jumping to the IMF website one finds more details how the IMF will dish out more FRN loans all over the world with the newly established Short-Term Liquidity Facility (SLF). This comes one day after the IMF warned that Latin America would not escape the global turmoil.
According to the release members can borrow up to 500 percent of their quota.

Quoting IMF head Dominique Strauss-Kahn the new facility is a better design than usual standby agreements. He said the IMF would use its full financial force to stem the crisis.
Here are the details of the SLF:
  • Purpose. Provide large, upfront, quick-disbursing, short-term financing to help countries with strong policies and a good track record address temporary liquidity problems in capital markets.
  • Eligibility. Countries with a good track record of sound policies, access to capital markets and sustainable debt burdens may qualify (the IMF's standard debt sustainability analysis should indicate a high probability that both public and private debt will remain sustainable). Policies should have been assessed very positively by the IMF's most recent country assessment.
  • Conditions. Financing is made available without the standard phasing and loan conditions of more traditional IMF arrangements. However, borrowers are expected to certify that they are committed to maintaining strong macroeconomic policies.
  • Size of loan. Disbursement of IMF resources can be up to 500 percent of quota, with a three month maturity. Eligible countries are allowed to draw up to three times during a 12-month period.
Altogether it appears as the global banking machine requires more and more grease with every week but the engine is sputtering worse than at the beginning of the credit crisis.

We have entered the stage where even hundreds of billion of freshly created money will not be enough to deflate the biggest credit bubble in an orderly way.

Stocks reacted to the news of the rate cut in a classical "buy the rumour, sell the news" fashion. Early gains fizzled away as soon as the widely expected rate cut was announced as was the case after a second late bounce.

The near 10% advance in crude oil signals that commodities are again bought as as an inflation hedge.

Make no mistake: Only because recent inflation figures looked better than in summer does not mean that all this poisonous "liquidity" will not result in monetary inflation. What we see here is monetary inflation by the textbook and it will be felt dearly within the next 12 months. Central banks have gone wild since they found themselves behind the curve, rather following the wishes of Wall Street than insulating the inflation virus and absorbing all the liqudity that allowed the leverage excesses of this millennium.

Oh, and by the way; IMHO gold as the oldest inflation hedge has seen its low of the year with a very high probability based on the fundamentally bad outlook.

This article has been reposted from The Prudent Investor. The full post can also be viewed on The Prudent Investor.

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