“Margin Call from Hell”
By Mike Whitney
March 14, 2015
“There are no nations…. no peoples…. no Russians.. no Arabs…no third worlds…no West. There is only one holistic system of systems, one vast and immane, interwoven, interacting, multi-variate, multi-national dominion of dollars. Petro-dollars, electro-dollars, multi-dollars, reichmarks, rins, rubles, pounds, and shekels. It is the international system of currency which determines the totality of life on this planet. That is the natural order of things today.”
– Arthur Jensen’s speech from Network, a 1976 American satirical film written by Paddy Chayefsky and directed by Sidney Lumet
The crisis that began seven years ago with easy lending and subprime mortgages, has entered its final phase, a currency war between the world’s leading economies each employing the same accommodative monetary policies that have intensified market volatility, increased deflationary pressures, and set the stage for another tumultuous crack-up. The rising dollar, which has soared to a twelve year high against the euro, has sent US stock indices plunging as investors expect leaner corporate earnings, tighter credit, and weaker exports in the year ahead. The stronger buck is also wreaking havoc on emerging markets that are on the hook for $5.7 trillion in dollar-backed liabilities. While most of this debt is held by the private sector in the form of corporate bonds, the stronger dollar means that debt servicing will increase, defaults will spike, and capital flight will accelerate. Author’s Michele Brand and Remy Herrera summed it up in a recent article on Counterpunch titled “Dollar Imperialism, 2015 edition”. Here’s an excerpt from the article:
“There is the risk for a sell-off in emerging market bonds, leading to conditions like in 1997. The multitrillion dollar carry trade may be on the verge of unwinding, meaning capital fleeing the periphery and rushing back to the US. Vast amounts of capital are already leaving some of these countries, and the secondary market for emerging bonds is beginning to dry up. A rise in US interest rates would only put oil on the fire.
The World Bank warned in January against a “disorderly unwinding of financial vulnerabilities.” According to the Financial Times on February 6, there is a “swelling torrent of ‘hot money’ cascad[ing] out of China.” Guan Tao, a senior Chinese official, said that $20 billion left China in December alone and that China’s financial condition “looks more and more like the Asian financial crisis” of the 1990s, and that we can “sense the atmosphere of the Asian financial crisis is getting closer and closer to us.” The anticipated rise of US interest rates this year, even by a quarter point as the Fed is hinting at, would exacerbate this trend and hit the BRICS and other developing countries with an even more violent blow, making their debt servicing even more expensive.” (Dollar Imperialism, 2015 Edition” Michele Brand and Remy Herrera, CounterPunch)
The soaring dollar has already put the dominoes in motion as capital flees the perimeter to return to risk-free assets in the US. At present, rates on the benchmark 10-year Treasury are still just slightly above 2 percent, but that will change when US investment banks and other institutional speculators– who loaded up on EU government debt before the ECB announced the launching of QE–move their money back into US government bonds. That flush of recycled cash will pound long-term yields into the ground like a tent-peg. At the same time, the Fed will continue to “jawbone” a rate increase to lure more capital to US stock markets and to inflict maximum damage on the emerging markets. The Fed’s foreign wealth-stripping strategy is the financial equivalent of a US military intervention, the only difference is that the buildings are left standing. Here’s an except from a Tuesday piece by CNBC:
“Emerging market currencies were hit hard on Tuesday, while the euro fell to a 12-year low versus the U.S. dollar, on rising expectations for a U.S. interest rate rise this year. The South African rand fell as much as 1.5 percent to a 13-year low at around 12.2700 per dollar, while the Turkish lira traded within sight of last Friday’s record low. The Brazilian real fell over one percent to its lowest level in over a decade. It was last trading at about 3.1547 to the dollar…
The volatility in currency markets comes almost two years after talk of unwinding U.S. monetary stimulus sent global markets reeling, with some emerging market currencies bearing the brunt of the sell-off…
Emerging market (EM) currencies are off across the board, as markets focus back on those stronger U.S. numbers from last week, prospects for early Fed tightening, and underlying problems in EM,” Timothy Ash, head of EM (ex-Africa) research at Standard Bank, wrote in a note.
“In this environment countries don’t need to give investors any excuse to sell – especially still higher rolling credits like Turkey.” (Currency turmoil as US rate-hike jitters bite, CNBC)
Once again, the Fed’s easy money policies have touched off a financial cyclone that has reversed capital flows and put foreign markets in a downward death spiral. (The crash in the EMs is likely to be the financial calamity of the year.) If Fed chairman Janet Yellen raises rates in June, as many expect, the big money will flee the EMs leaving behind a trail of bankrupt industries, soaring inflation and decimated economies. The blowback from the catastrophe is bound to push global GDP into negative territory which will intensify the currency war as nation’s aggressively compete for a larger share of dwindling demand.
The crisis in the emerging markets is entirely the doing of the Federal Reserve whose gigantic liquidity injections have paved the way for another global recession followed by widespread rejection of the US unit in the form of “de-dollarization.” Three stock market crashes and global financial meltdown in the length of decade and a half has already convinced leaders in Russia, China, India, Brazil, Venezuela, Iran and elsewhere, that financial stability cannot be achieved under the present regime. The unilateral and oftentimes nonsensical policies of the Fed have merely exacerbated inequities, disrupted normal business activity, and curtailed growth. The only way to reduce the frequency of destabilizing crises is to jettison the dollar altogether and create a parallel reserve currency pegged to a basket of yuans, dollars, yen, rubles, sterling, euros and gold. Otherwise, the excruciating boom and bust cycle will persist at five to ten year intervals. Here’s more on the chaotic situation in the Emerging Markets:
“The stronger the US boom, the worse it will be for those countries on the wrong side of the dollar. […] The US Federal Reserve has pulled the trigger. Emerging markets must now brace for their ordeal by fire. They have collectively borrowed $5.7 trillion, a currency they cannot print and do not control. This hard-currency debt has tripled in a decade, split between $3.1 trillion in bank loans and $2.6 trillion in bonds. It is comparable in scale and ratio-terms to any of the biggest cross-border lending sprees of the past two centuries. Much of the debt was taken out at real interest rates of 1pc on the implicit assumption that the Fed would continue to flood the world with liquidity for years to come. The borrowers are ‘short dollars’, in trading parlance. They now face the margin call from Hell…. Stephen Jen, from SLJ Macro Partners said that ‘Emerging market currencies could melt down. There have been way too many cumulative capital flows into these markets in the past decade. Nothing they can do will stop potential outflows, as long as the US economy recovers. Will this trend lead to a 1997-1998-like crisis? I am starting to think that this is extremely probable for 2015.’” (Fed calls time on $5.7 trillion of emerging market dollar debt, Ambrose Evans Pritchard, Telegraph)
As the lone steward of the reserve currency, the Fed can boost global liquidity with a flip of the switch, thus, drowning foreign markets in cheap money that inevitably leads to recession, crises, and political unrest. The Fed was warned by Nobel Prize-winning economist, Joseph Stiglitz, that its loosy goosy-monetary policies, particularly QE, would have a ruinous effect on emerging markets. But Fed Chairman Ben Bernanke chose to shrug off Stiglitz’s advice and support a policy that has widened inequality to levels not seen since the Gilded Age while having no noticeable impact on employment , productivity or growth. For all practical purposes, QE has been a total flop.
On Thursday, stocks traded higher following a bleak retail sales report that showed unexpected weakness in consumer spending. The news pushed the dollar lower which triggered a 259 point rise on the Dow Jones. The “bad news is good news” reaction of investors confirms that today’s market is not driven by fundamentals or the health of the economy, but by the expectation of tighter or looser monetary policy. ZIRP (Zero interest rate policy) and the Yellen Put (the belief that the Fed will intervene if stocks dip too far.) have produced the longest sustained stock market rally in the post war era. Shockingly, the Fed has not raised rates in a full nine years due in large part to the atmosphere of crisis the Fed has perpetuated to justify the continuation of wealth-stripping policies which only benefit the Wall Street banks and the nation’s top earners, the notorious 1 percent.
The markets are bound to follow this convoluted pattern for the foreseeable future, dropping sharply on news of dollar strength and rebounding on dollar weakness. Bottom line: Seven years and $11 trillion in central bank bond purchases has increased financial instability to the point that any attempt to normalize rates threatens to vaporize emerging markets, send stocks crashing, and intensify deflationary pressures.
If that isn’t an argument for “ending the Fed”, then I don’t know what is.
MIKE WHITNEY lives in Washington state. He is a contributor to Hopeless: Barack Obama and the Politics of Illusion (AK Press). Hopeless is also available in a Kindle edition. He can be reached at firstname.lastname@example.org.