Controlled Monetary Chaos

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Back in March, Port Phillip Publishing held a two day investment conference unique to Australia…the World War D conference . You just don’t see speakers of this calibre in one room in this country.

Why?

Well, the financial industry (think super funds, investment banks) usually put these things on. Their sole purpose is to peddle a ‘don’t worry, be happy’ line. ‘Invest your cash, leave it to us, it’s all under control.’

Well, it’s not all under control. The West is going at it against Russia, using Ukraine as a pretext. The US in particular is concerned about Russia and China joining forces, especially in an economic sense, which could undermine the power of the US dollar.

Actually, Russia and China are joining forces right now. The two nations, along with a number of ‘Stans’, are currently conducting the largest series of military exercises ever staged between the two nations. It’s happening in Inner Mongolia under the auspices of the Shanghai Cooperation Organisation.

But that’s not all. Tensions are heating up between China and the US in the South China Sea…the US deployed the USS Carl Vinson to the region on Friday. And, just like clockwork, the Middle East powder keg is in the ignition stage…again…

The biggest war of all though, the war against risk, is on in earnest too. Central banks the world over are doing their best Jedi Knight impression and telling the world not to worry about risk. They have eliminated it from modern financial markets.

If you think that line is rubbish, which it is, you’ll want to take a squiz at what the speakers at our conference had to say. We’ve just released our World War D conference DVD…you can watch a preview of it here.

Find out why one of the speakers expects a big correction in the third quarter (which is now) as the QE taper finally removes excess liquidity from the financial system. Or what Jim Rickards thinks will happen to the gold price when the global financial system inevitably explodes.

It’s not all doom and gloom though. Kris Sayce gives it to the ‘fake contrarians’ for ‘waiting for the crash’. Sam Volkering talks about the possibilities of technology. And Phil Anderson is wildly bullish based on his cycle analysis.

There’s plenty of food for thought in all the presentations. Get your copy here

Moving back closer to home, reporting season all but wraps up this week. Following the trend of the past few years, earnings this year have been OK but not great. Which is what you’d expect for an economy generating below trend economic growth.

I can’t see things getter better in 2014-15 either. Not from a fundamental perspective anyway. That’s because the 2014-15 financial year will bear the brunt of the sharp drop off in mining investment spending. Along with continued falls in Australia’s terms of trade (the iron ore price is back near its June low already…so much for the bounce), it doesn’t bode well for employment or economic growth.

It should go without saying that the end of the greatest mining boom in the nation’s history will come with a hangover. It need not be raging, but there will certainly be a dry mouth and a headache.

It will show up in weak to negative national income growth. How weak or negative depends on many things. But according to a recent research paper from the RBA, it won’t be too bad. Or at least that’s what I think they are trying to say.

The chart below, from the RBA’s study, shows the effect of the mining boom, with the shaded area being the post-boom estimates. As you can see, the boom created a big gain in household income, and to a lesser extent, an increase in national purchasing power and real GDP growth.

Happily, the RBA sees a post boom plateau effect taking shape, which is not unusual. I’ve never really seen a central bank forecast anything other than a sanguine outcome for any type of financial shock.

That’s because they use ‘models’ that can’t possibly replicate the real world. I don’t know how the next few years will play out for Australia in a post mining boom environment. But I’m sure they won’t play out the way the RBA see it. It’s just too neat.

We’re in a unique period of ‘controlled monetary chaos’. Central banks are playing a massive confidence game with the markets, and Australia is not immune from the fallout. Our dollar is much higher than it ‘should be’, a victim of the currency wars currently underway between the dollar, yuan, euro, yen and pound.

Speaking of which, the US seems to be losing the battle at the moment. The greenback is the strongest major currency in the world, or at least it has been lately. Check out the chart below. The US dollar recently broke out above resistance and surged higher.

The dollar is now ‘overbought’ and due for a correction, but the trend is up, which bodes ill for commodities and precious metals right now. Commodities are usually an ‘anti-US dollar’ trade.

The US is losing the currency wars

The dollar’s strength is due to the Fed’s ongoing taper program and expected interest rate rises next year. In the world of currencies, it’s all relative, and relative to any other major currency, the greenback doesn’t look too bad right now.

But the big question is…what will the taper and higher interest rates do to the US and global economies? Don’t forget, the Chinese yuan is loosely pegged to the US dollar, so tighter US monetary policy translates into tighter conditions in China as well. The effects will be widespread.

We’ll look into what those effects might be tomorrow, but for today, we’ll leave you with this chart and something to ponder…

The chart shows US official interest rates as set by the Fed since 1950. The shaded areas indicate recession. In every single instance of recession, the Fed tightened monetary policy in the lead up period.

Does that mean a recession cannot happen now that interest rates are so low…and that the Fed will only tighten in baby steps?

We’ll explore the topic in detail tomorrow.

Regards,

Greg Canavan
For The Daily Reckoning Australia

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Greg Canavan
Greg Canavan is the Managing Editor of The Daily Reckoning and is the foremost authority for retail investors on value investing in Australia. He is a former head of Australasian Research for an Australian asset-management group and has been a regular guest on CNBC, Sky Business’s The Perrett Report and Lateline Business. Greg is also the editor of Crisis & Opportunity, an investment publication designed to help investors profit from companies and stocks that are undervalued on the market. To follow Greg's financial world view more closely you can subscribe to The Daily Reckoning for free here. If you’re already a Daily Reckoning subscriber, then we recommend you also join him on Google+. It's where he shares investment research, commentary and ideas that he can't always fit into his regular Daily Reckoning emails. For more on Greg go here.
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2 Comments on "Controlled Monetary Chaos"

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Ross
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There was always a bigger demand for compliant team Australia’s dollar washing machine than for the physical ore & gas.

Bubbles create a purchasing power whose veracity can change in an instant on the externally perceived quality of the underlying collateral. Leave the selling of rear view mirror views of purchasing power to Goldman and their sucker clients.

Assets that serve long term economic capacity growth have been out of favour in all the endemic deficit, unfunded liability, and extreme consumer leverage driven economies.

slewie the pi-rat
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in slewienomics, the high “dollah” simply means that the US is “exporting inflation”. people who have lo^oked up from their propaganda salads long enough to grok what “inflation” did to 1Q 2014, US GDP will understand the macro-NECESSITY of this, here and NOW. toe-ing the wing-nut line does not appear to this pi-rat to improve thought. but what do i know? well, for starters, here’s an alternate view of this “modern history”: it has all been a very “just” and “moral” pharisaical administration of, and genuflection toward, pseudo-religious “laws” of political-economic boilerplated self-righteousness which have flowed like a never-ending stream… Read more »
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