"For weeks if not months, many knowledgeable and sound market analysts have been issuing warnings about the entirely unjustified level of "complacency" in the markets. What they have identified is a level of "risk aversion" (or more properly the absence of ANY level of "risk aversion") which is TOTALLY inappropriate to the situation. This week, the complacency was holed below the waterline.
(Gold Last Week - April 15, 2005)
That was written at the end of a week during which the Dow had lost 373 points (with commensurate losses on the other major US stock indices) to hit its lowest levels of the year. This "sharequake" quickly spread right around the world. To this was added the announcement of another record US trade deficit ($US 61 Billion for February). And to that was added, by the end of the week, a renewed bout of weakness in the US Dollar as measured by the $US index.
This week, the Dow continued to weaken, until the extraordinary 206 point spike of April 21. This spike came on the day after the core US CPI increase for March came in at a 31 month high. It came while the $US oil price was rising steadily from the lows it had set in the previous week. It came while the CRB index was clawing back lost ground, and while the $US index was rising further. It also came in a week in which Gold finally broke out of the $US 422-428 trading range in which it had been caught for the previous month. As you can see on the chart above, Gold has bounced from its 200 day moving average this week to hit its highest level ($US 435.30 spot future closing basis) since March 18 this week.
US stock markets are still hanging in there - just. The rest of the economic and financial situation has continued to crumble.
In the middle of this two week period came the biggest non-event in modern financial history - the G7-IMF-World Bank meetings in Washington. We have MUCH more to say about these meetings, and their aftermath, in the Late April issue of The Privateer (Number 525 - published on April 24). Within days of the end of these meetings has come an extraordinary escalation in US political rhetoric DEMANDING that China acts NOW to float its currency.
Please note this fact. China made the decision to fix the value of their currency (the Yuan or Renmimbi) to the US Dollar back in early 1995 - the last time that the $US index was as low as the lows it reached at the end of last year. For most of the following decade - from early 1995 up until the beginning of 2002 - the US Dollar was RISING against the rest of the world's currencies, dragging the Chinese currency right along with it. Not a word came out of China about their goods being made less competitive on world markets because of this.
The US Dollar began to fall on a trade weighted ($US index) basis at the end of January 2002. The fall was not taken seriously throughout 2002, 2003 and most of 2004. On June 30, 2004, the Fed RAISED its funds rate (from 1.00%) for the first time since May 2000, in the first of seven consecutive 0.25% rises which has seen the Fed Funds rate climb to its present level of 2.75%. As these rate rises continued, as the budget, trade, and current account deficits continued to increase, and as the US Dollar continued to fall, unease grew too, not so much in the US at first, but certainly in the rest of the world.
To this day, the Bush Administration officially has a "strong Dollar policy". To this day, the official Treasury line is that the trade and current account deficits are simply a reflection of the fact that the US has the most vibrant and the solidest investment markets in the world and that the deficits exist because of the desire of overseas investors to put their capital into these US markets.
This line was accepted without question while the stock markets were still booming in the late 1990s. It was accepted with only the rarest dissenting voice while the US Dollar was still rising up until early 2002. The whole question was pushed under the carpet in the lead up to and during the invasion of Iraq in 2003, the subsequent occupation in the 2003 and the first half of 2004. Then came the Iraqi elections in January 2005 and the question was defused again. But throughout the period, the disquiet was growing, not so much inside the US but very much outside the US.
The last "fig leaf" for the Bush Administration was the Iraqi elections of January 30, 2005. Having invaded Iraq for the newly professed purpose of turning it into a "democracy", the original professed purpose of separating Saddam Hussein from his WMD's having long since being debunked, they now had a "democratic Iraq". It had to be democratic, it had had an election, after all.
In an unbroken but so far gently increasing movement since that date, international attention has focussed squarely on the financial perils facing the US. Inside the US itself, Mr Bush's "popularity" has been steadily decreasing as has public approval of the Iraqi adventure. What is gaining momentum with each passing day is the thing that the US political establishment fears above all other things, an increasing attention to and dissatisfaction with the state of the domestic US economy.
All political establishments, whenever and wherever situated, have one overriding vested interest. That is the maintenance of their power. Ultimately, the biggest threat to that power is always internal and comes from the people in the nation over which they preside. The time honoured way to damp down any public dissent is to distract the public, and the most oft used means to accomplish this is war. The invasion of Iraq is a perfect illustration of this. But Iraq no longer provides a sufficient distraction. The invasion of Iraq has been "successful", as has the professed object of that war, to make Iraq a "democracy".
The US political establishment knows that the financial condition of their nation is deteriorating with ever increasing speed. They know that they need another distraction, but they also know that Iraq has stretched them very thin and that another war is a huge risk. There have been belligerant noises about both Syria and Iran for many months now, but nothing concrete has happened. Meanwhile, US prices of all descriptions inexorably rise and the economic lot of the "average" American inexorably worsens.
So, if the US political establishment cannot have a war as a distraction, they need a SCAPEGOAT. To deflect the blame for the steady deterioration of the US economy, they must have an outside agency to blame. If they don't, they risk the blame falling on themselves.
It has become increasingly obvious over the period since the end of January, and especially over the period since the non-event which was the recent G7-IMF-World Bank meetings in Washington, that the scapegoat being set up is CHINA.
At the beginning of February, a bill surfaced in the US Senate which threatened to slap 27.5% tariffs on ALL Chinese exports to the US if they did not take steps to float their currency in 180 days. At the time, this bill was downplayed by both the Bush Administration and the Treasury, who said that they preferred to employ "financial diplomacy". The bill went into "committee", and promptly vanished from the news. It has resurfaced this month, to be passed by a 67-33 majority in the Senate.
Mr Bush himself, who has been circumspect on this issue, has waded in over the past week. First, "Administration Officials" were out in public demanding the "immediate" floating of the Yuan. Then Mr Bush himself was doing it. Then he was claiming to be seeing (undefined) "signs" that the Chinese were indeed moving to float their currency. Mr Rob Portman, nominated by Mr Bush to be his top trade negotiator, has promised a "top to bottom review" of the trade complaints against China if he is confirmed in his post. And it doesn't stop even there. On April 21, Californian Republican Duncan Hunter, Chairman of the Congressional committee overseeing the US armed services, claimed that China was using its huge reserves of US Dollars to buy sophisticated weapons which could destroy US aircraft carriers!
This is a ratcheting up of US political rhetoric which is much faster and more overblown than was the similar sequence which led up to the Iraqi invasion. The US political establishment is running scared in front of what they see as a rapidly escalating financial debacle. They NEED a distraction. Another war is too risky. They need a scapegoat. Clearly, China is it.
If the Chinese are REALLY crafty, they will comply - to an extent - with the demands out of the US to "float" their currency. They will probably not float it entirely, but merely establish a range in which their currency can trade. Of course, the initial reaction by the Bush Administration would be predictable. WE WON - AGAIN!! The reaction on financial markets would be equally predictable. There would be huge rally, the mother of all bear traps.
In reality, of course, any move by the Chinese to float their currency would very quickly INCREASE the domestic costs of US imports from China. This would equally quickly ratchet up what is already very disturbing levels of price inflation inside the US. It would equally quickly increase US domestic prices, thereby putting at increasing risk the maintenance of existing levels of US consumer spending. And as everyone (even the US political establishment) knows, the overwhelmingly largest component in US economic "growth" figures is US consumer spending.
If the Chinese DO comply with the Bush Administration demands, to the extent they comply, they take themselves off the table as a scapegoat for the assured further deterioration of domestic US economic and financial conditions. Where is the US political establishment to find a substitute? China is as BIG, in this context, as exists.
The US establishment is desperately trying to buy time, any amount of time, by any means seen as not suicidally risky. China as scapegoat is the latest ploy in this regard. After China, there is NOTHING.
Gold remains, above the fray, as the pre-eminent means of preserving purchasing power in a rapidly escalating financial impasse. The amazing explosion of China bashing by the Bush Administration over the past week illustrates just how "tight" the situation is becoming.