Obama better have a plan for this. Otherwise, we're toast. Simple as that.

[AnnArborGator]

One way or another, this is not going to end in a pretty fashion:

...the International Monetary Fund said traders are probably using the dollar to fund so-called carry trades around the world and it may still be overvalued.
{. . .}
The U.S. currency has dropped against 15 of 16 major counterparts in the past six months as investors increased carry trades, where they borrow in countries with low interest rates to invest in higher-yielding assets.

http://www.bloomberg.com/apps/news?p...d=amB3TbFgfUik

When everyone is in on a carry trade it can't ever unwind in an orderly fashion. Just ask the Japanese. However, that doesn't mean that such a carry trade can't go on for years (The carry trade using the Yen as the funding currency lasted for a couple decades or so). The important thing to note is that the carry trade depresses the value of the funding currency (currently the US Dollar). Denninger lays out the risks:

1) When the global economy truly recovers oil will skyrocket up to or beyond the $150 where it was in late 2008. If the dollar is indeed still "overvalued" and going to 40 as many technicians predict, oil will likely reach $300 a barrel. This will in turn drive gasoline prices north of $6, heating oil will reach $7-8/gallon, and diesel will be commensurate with heating oil.

2) This will in turn decimate the trucking industry. Now you know why Buffett bought BNI. Many things he may be, but dumb isn't one of them. Trucks will of course remain for terminal-to-door deliveries but for long-haul they will simply be uneconomic. Those who currently are employed in this business will lose their jobs. All of them.

3) The middle class will be decimated. Those who live in suburbia, who are primarily middle-class Americans, will find themselves faced with commute costs that are double or more what they pay now. Those in the middle class who live in the Northeast where heating oil is the primary fuel for winter, where natural gas infrastructure does not exist to replace heating oil, will find themselves choosing between heat and food in large numbers.

What's far worse is that all carry trades eventually unwind and in the history of the markets I have never seen it happen in an "orderly" fashion. Japan witnessed the destruction of the Yen Carry last year and it was horrific. We will see it in the future - exactly when cannot be predicted with certainty, but that it will happen in an uncontrolled fashion will be. While this "unwind" will bring relief from sky-high commodity prices it will do so at the expense of asset prices, which will collapse.

http://market-ticker.denninger.net/a...ry-Trades.html

So that seems to be the current situation. Warren Pollock believes we're undergoing a phase transition in the financial crisis where our choices become limited to: (1) deflationary spiral, (2) currency crisis, and (3) hyperinflation. He discusses it in this video and hopes for a deflationary spiral (the very thing Bernanke et al seem hell bent to avoid) because it at least buys us time:



For more reading on the carry trade and its effects:

The mechanics of the carry trade require that you sell the carry currency and buy foreign currencies against it. So one of the side effects is that it depresses the value of the borrowed currency.

Another side effect is that the carry trade helps inflate global asset bubbles. {AA's note: Hmm...wonder if that's helped the stock market melt-up we've seen since March}

Unfortunately for dollar-based consumers (that’s us!), the falling dollar has side effects. It drives up the cost of imports, raising our cost of living. It also boosts the price of commodities like gold and oil. And it means the cost of travelling abroad goes up, too.

http://www.moneyandmarkets.com/easy-...%80%9D-2-35506

[TR1228]

I believe you're in agreement here, but some believe that the deflationary bust that is the natural consequence of an inflationary boom is "unlimited" in that it would shrink the supply of dollar bills to just about nothing. That really seems to be the M.O. of the guys in charge right now, but it's just not true. The recession would drop the supply of dollars somewhat in the process of clearing out our debt (in proportion to the size of the artificial bubble we created), but the supply of dollars would not drop to nothing. Indeed, the recession the free market is trying to bring upon us would encourage Americans to save and invest as opposed to consume, something which would help us grow our production so we can dig our way out of this hole.

The alternative, though, is inflation without limit. Since the government controls the printing presses, they can drive the value of the dollar to nothing, but since nowhere near all dollars are in the form of credit, the supply of dollars can't fall to nothing. It's really a choice of serious short-term pain now or trying to push the problem a year or two down the road at catastrophic long-term costs.

[g8orbill]

bozobama wants the dollar to go away

[AnnArborGator]

Originally Posted by TR1228

I believe you're in agreement here, but some believe that the deflationary bust that is the natural consequence of an inflationary boom is "unlimited" in that it would shrink the supply of dollar bills to just about nothing. That really seems to be the M.O. of the guys in charge right now, but it's just not true. The recession would drop the supply of dollars somewhat in the process of clearing out our debt (in proportion to the size of the artificial bubble we created), but the supply of dollars would not drop to nothing. Indeed, the recession the free market is trying to bring upon us would encourage Americans to save and invest as opposed to consume, something which would help us grow our production so we can dig our way out of this hole.

The alternative, though, is inflation without limit. Since the government controls the printing presses, they can drive the value of the dollar to nothing, but since nowhere near all dollars are in the form of credit, the supply of dollars can't fall to nothing. It's really a choice of serious short-term pain now or trying to push the problem a year or two down the road at catastrophic long-term costs.

Agreed. I'd take the deflationary bust over a currency crisis/hyperinflation. Unfortunately the plan seems to be destroy the purchasing power of the dollar along with any remaining semblance of America's middle class, because we all know that Bernanke only cares about being able to say that he "avoided the Great Depression 2.0". I fear what he's pushing us toward, though, will be incalculably worse than the Great Depression.

[Swampmaster]

Don't worry, take it easy, just relax. Obama / reid / pelosi / frank / rangel have everything figured out---it's under control. They have a long-term plan that is carefully thought out. Your money is safe in their hands.

[cocodrilo]

And while the country is going to economic hell (isn't this a form of child abuse re our children and our children's children?), what's dominating the news on TV 24/7? Health care reform (the subject du jour - abortion!), and Major Hasan (let's see, he was a Muslim at Fort Hood, right?).

[VTGator]

Another side effect is that the carry trade helps inflate global asset bubbles. {AA's note: Hmm...wonder if that's helped the stock market melt-up we've seen since March}

Carry trades that use the US dollar as the funding currency cannot create bubbles in the US. The global asset bubble the article is referring to can only take place in the countries of destination.

You obviously do not understand how the carry trade works. I am pointing this out only because you are always so certain about your wild and disastrous predictions, which often have no base much like in this case.

[The_Graygator]

Ann Arbor, this is the plan.

Make this economy so bad, so insufferable, so miserable, that people will seek out govt. to help them and make their decisions for them.

The more people who lose their jobs, the more desperate they are for health care coverage and buy into the govt. plan.

[AnnArborGator]

Originally Posted by VTGator

Carry trades that use the US dollar as the funding currency cannot create bubbles in the US. The global asset bubble the article is referring to can only take place in the countries of destination.

You obviously do not understand how the carry trade works. I am pointing this out only because you are always so certain about your wild and disastrous predictions, which often have no base much like in this case.

I understand that a simple carry trade couldn't directly fund an asset bubble in the country of the funding currency. But why couldn't the proceeds from the riskier investments in the destination countries be repatriated into equities in the funding country? That's what I had in mind.

And, regardless of the carry trade's effects (or lack thereof) on our domestic equity activity, that doesn't really change the fundamental risks it poses to our currency does it? That's why my question about the equity melt-up was posed as an aside and in question form: it was merely a secondary possibility that had me wondering if the big boys have added another level of complexity to the carry trade itself. The direct risk to our currency exists whether or not they have added a new layer of complexity, IMO.

[gregthegator]

""Carry trades that use the US dollar as the funding currency cannot create bubbles in the US."'

REally...perhaps, just perhaps....you should educate yourself on the good ole uSA bond market...

and of course the financial sector itself...by 2013....KABOOM!

[AnnArborGator]

VT, I have another question for you, apart from the question above about putting on a carry trade and then using the proceeds from said trade to buy domestic equities (in the funding country).

Since a carry trade requires someone on the other side to buy the funding currency sold by the person putting on the carry trade, isn't it also very possible that the person on the other side of the carry trade uses their dollars to buy US equities?

I think greg also makes a good point about the US bond market bubble, which is another domestic asset class that could experience large inflows from the other side of the carry trade (those who are buying the dollars being sold by someone putting on the carry trade).

[Swampmaster]

When will obama's camp at least try to create 1 new job?

[AnnArborGator]

Creating jobs would be beneficial to the middle class which runs counter to their (Obama/Bernanke et al) objectives. Sad but true.

[TR1228]

If you want to see what the guys in charge of our economy today are thinking, read this:

http://www.politico.com/news/stories/1109/29330.html

The basic summary is that China produces a lot but their citizens don't consume as much as they produce, and that this is terrible and will lead to a collapse. Wow, just wow. Here's an idea: how about China stops lending us all their wealth and then they can spend it themselves? Have you ever heard anyone say "Gee my income is just way too high, I don't have anything I could possibly spend it on, I'm so scared!" It's not difficult at all to consume more if you have the production; just stop giving all your wealth to Americans. The hard part is increasing your production.

Only modern mainstream economists could think this way...

[AnnArborGator]

LOL TR...Modern mainstream economists are a joke. They worship at the altar of Keynes and shun all other ideas, which shelters them from logic.