I read your blog today, thought I would chime in on something you might not have considered re: petroleum producers pricing oil in Euros. Remember what they used to say about Russia during the last days of Communist rule? The phrase was, "We pretend to work, and they pretend to pay us." In other words, nobody worked in Communist Russia, and nobody got paid. It was just one huge Ponzi-type fraud. What about today? Today we run another kind of fraud....
My friend and securities trader, Evan Kennedy (kennedyevan@hot-no-spam-remove-mail.com) wrote me an email in reply to the last entry. I am posting his reply here:
I read your blog today, thought I would chime in on something you might not have considered re: petroleum producers pricing oil in Euros.Posted by Da Mystik Homeboy at September 18, 2003 11:35 AMRemember what they used to say about Russia during the last days of Communist rule? The phrase was, "We pretend to work, and they pretend to pay us." In other words, nobody worked in Communist Russia, and nobody got paid. It was just one huge Ponzi-type fraud.
What about today? Today we run another kind of fraud. We pay our foreign friends for their goods with dollars that we print at will. Then our foreign friends take these fiat dollars, and with them they buy Treasury bonds. That allows the US economy to hold together, which in turn allows our foreign friends to continue selling us their merchandise and services. So it's a sort of insane, fantasy arrangement. We print phoney money to buy their real merchandise and services. Our foreign friends accept the phoney money and with that money they buy our bonds. Why do they buy the bonds? They buy our bonds because if they didn't buy them, rates in the US would go sky-high, the US would sink into recession, and our foreign friends couldn't sell us their goods and services.
In other words, we buy their good with the money they now lend us.
But all fantasies eventually bump into reality. Foreigners now own 46% of US Treasuries. At some point they will have had enough. They'll be loaded with too much US paper, and when it's perceived that there's too much US paper, then the dollar will start a serious slide. At that point there'll be a scramble to either get out of US Treasuries or at least diversify.
So the phenomenon that's holding the global economy together at this point is the continued acceptance of US dollars. As long as the world continues to accept dollars the game can go on, and the US can continue to operate while producing massive deficits in both its trade and in its current account.
There are two opposing forces at work today, and one of them is going to win. There's the forces of deflation. This is a function of world over-production or I should say INCREASING over-production. Over-production puts pressure on prices, and it puts pressure on corporations to become more "productive."
For most corporations, their big expense is labor, so how to you become "more productive"? You fire people. The more people you can fire and still produce the same amount of goods and services, the more productive you become.
That's one element in deflation. The other is lower wages, and here you're talking about China, India and Asia. There's no way that the US can compete in the area of wages, so what's the answer? The answer is to transfer our manufacturing and services to lands where we can take advantage of cheap labor. Again, deflation.
OK, we can't compete, but at the same time the American people want to keep up their high standards of living and their buying habits. America's consumers don't want to cut back, so they buy on credit, but they do keep buying. This creates the negative trade balances, but the Fed creates the dollars which make up the difference.
What about the deflationary forces that I discussed above? The Fed fights the deflationary forces by expanding the money supply. The US is swimming in money [editor's note- from the recent interest rate drops], and if you're swimming in money how can you have deflation?
The flood of money inflates the price of housing and it inflates the prices of stocks. But underneath it all is the disease. And since the disease isn't addressed, it gets worse and worse. But people don't like disease, even economic disease -- so they ignore it -- for now.