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Why can't the Federal Reserve solve the dollar crisis, even though it has the biggest printing press?

Călin Rechea (Translated by Cosmin Ghidoveanu)
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Why can't the Federal Reserve solve the dollar crisis, even though it has the biggest printing press?
Călin Rechea (Translated by Cosmin Ghidoveanu)

Extraordinary is no longer a word that is sufficient to describe what the Federal Reserve, the US central bank, has done or is doing to stop the propagation of the effects of the coronavirus epidemic, not just on the economy of the United States, but on the global economy.

Unfortunately, even "extraordinary" is no longer enough, because the accumulated imbalances are far too big. The normalcy that everyone longs for, is no longer possible, as the illusions "built" through irresponsible lending can no longer be maintained, and this painful process will become increasingly obvious, especially in the emerging economies.

Perhaps the authorities in those countries will finally reach the conclusion that the "accumulation" of constantly bigger loans, often under the pretense of building infrastructure, doesn't open an "easier" path to development at all.

On the contrary, if the objective is sustainable development, then the path can only be the "hard" one of capital accumulation and economic freedom.

Until then, all we can do is look in astonishment at the desperate attempts of the Fed to achieve something, any small result whatsoever, in the real economy, following the unlimited operations of printing and lending launched in the last few weeks.

Following these operations, the balance sheet of the American central bank has increased by approximately 1.5 trillion dollars in the last three weeks, to 5.81 trillion dollars, as the portfolio of government bonds "acquired" through printing has increased by 818 billion dollars, to 3.34 trillion.

Despite this unprecedented monetary expansion, the US dollar has gained significant strength over a basket of the currencies of the main developed economies, as shown by the evolution of the dollar index, calculated daily by Intercontinental Exchange.

The dollar index is an indicator built as a geometric mean of the value of the dollar against the Euro, the yen, the pound sterling, the Canadian dollar, the Swedish crown and the Swiss Franc.

The value of the index rises when the dollar strengthens in relation to the currencies in the basket.

The reopening of the swap lines with the central banks of Canada, UK, Japan, Switzerland and the European Central Bank did not help. The balance of those operations in the balance sheets in the Federal Reserve only increase vertically after the expansion of the list of central banks to include those in Australia, Brazil, South Korea, Mexico, Singapore, Sweden, Denmark, Norway and New Zealand.

The reopening of the swap lines with the central banks of Canada, UK, Japan, Switzerland and the European Central Bank did not help. The balance of those operations in the balance sheets in the Federal Reserve only increased vertically after the expansion of the list of central banks to include those in Australia, Brazil, South Korea, Mexico, Singapore, Sweden, Denmark, Norway and New Zealand.

The latest data from the Federal Reserve shows that the balance sheet of the currency swap rose to 348.5 billion Euros the week which ended on April 1st, 2020, as the limit of swap operations from the extended list is 450 billion dollars, and their maturity is up to 6 months.

As written by reputed American analyst James Rickards, author of the books "The death of money" and "Currency wars", the nature of swap operations is that of a loan, which needs to be repaid on maturity, and the "chain" must have no weakened links.

Not even the expansion of the currency swap operations halted the strengthening of the US dollar, and the exacerbation of the dollar shortage on the international markets has led to the surpassing of a new record: the volume of sales of American bonds.

According to the latest official data, the amount of American government bonds in the portfolios of foreign central banks, which are held in custody by the Federal Reserve, decreased by approximately 136 billion dollars in March 2020, to 2.86 trillion dollars.

Under these circumstances, the Fed also launched a program of repo operations together with other central banks, in order to provide liquidity in dollars, in the context of shutting the "forced" selloffs of American securities.

"The Fed has taken on the role of central bank of the world", Bloomberg wrote after the announcement of that program.

Unfortunately for those who preach the solving of humanity's issue with the help of the printing press or cheap loans, the strengthening of the dollar against the other currencies didn't stop.

In a recent article posted on the website "The Daily Reckoning", James Rickards writes that we shouldn't be surprised at the shortage of dollars, because "while the Fed has printed 4 trillion dollars, 100 trillion dollars in new debt has been created worldwide".

Rickards also writes that "if there is a dollar deficit, China is unable to control its currency, and the emerging markets cannot refinance their debts".

Spanish economist Daniel Lacalle estimates a 13 trillion dollar deficit globally, caused by "the explosion of debts denominated in dollars from the emerging economies in the last 20 years".

The explanation? "Foreign and local investors have not accepted the elevated currency risk, because, under circumstances such as the current ones, many countries may decide to devalue their currencies, which would destroy their creditors", Lacalle further writes.

That is also the reason why the promise of "unlimited" interventions only influences the markets for a few days.

"The word "unlimited' is just a communication instrument", also according to Daniel Lacalle, and there is no unlimited quantitative easing program in the United States because "the limits are imposed by the confidence in and the demand for dollars".

Precisely for that reason, all the operations of the central banks, as well as their optimistic spin present in the international financial press, can only postpone the "judgment day", because we are in the last stage of a "debt super-cycle", resulting from a "Faustian bargain of the governments and the central banks".

In a 2012 analysis, Scott Minerd, investments director at Guggenheim Investments wrote that "in the Faust drama, the devil persuaded a bankrupt emperor to print and spend vast quantities of paper money to solve the country's problems, but the result was the destruction of the empire and the onset of chaos".

That same year, Jens Weidmann, the chairman of the Bundesbank, quoted that same work by Johann Wolfgang von Goethe in a conference, again to denounce the Faustian bargain of the central banks.

In the conclusion of his analysis, Scott Minerd wrote that "governments that have relied on quantitative easing, instead of implementing the necessary structural reforms, have signed the biggest Faustian bargain in the financial history of the world".

Now the bill has come due.

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