The forces of inflation are going to fight back, but only after burying their dead...
ALL ATTEMPTS TO REFLATE the system are failing, writes Dan Denning of The Daily Reckoning Australia.
Leverage is collapsing. Next on the docket is a series of interest rate cuts by central banks, starting with the Reserve Bank of Australia at 2:30pm in Sydney today.
Fifty basis points was a shoo-in. But the RBA really wanted to make a splash – and give Aussie banks room to pass on the reduction to borrowers. So it was a full percentage point, just to get started.
Meantime, Aussie banks have been borrowing from the Future Fund? Established by an act of parliament in 2006, the Future Fund is a state-owned investment fund, aimed at growing its returns to "assist future Australian governments meet the cost of public sector superannuation liabilities" – kind of a state pension fund playing the markets.
Now The Australian newspaper reports that "Three of Australia's largest banks have obtained long-term loans from the Future Fund as cash dried up from other sources." It happened in late March and early April of this year, just after Bear Stearns went belly up.
"The ANZ, Westpac and National Australia Bank (NAB) tapped funding for up to 10 years," says the paper. Leaked documents showed that ANZ borrowed $500 million from the Fund. What NAB and Westpac borrowed was not disclosed. But isn't that interesting? A back-door borrowing program at the Future Fund.
Or maybe it's an investment for Australia's pensioners? You decide! All borrowing is, one way or another, borrowing from future income. If you can create surplus value with the borrowing, then you are not stealing from future income. But if you're borrowing from the future to meet today's liabilities...well that's a kind of theft. The same theft the managers of our global economy are trying to get away with, too.
Central banks and finance ministers are creating massive new government liabilities via bank rescues and bail out plans. That's not money the central banks have in a giant lock box. It's money borrowed from the future that will have to repaid.
Even though gold stocks are still struggling, thanks to the collapse of lending and risk-taking by investors, we expect Gold Bullion prices to go much higher. Governments will increase their liabilities massively in the coming months. The supply of money is growing. The supply of Gold is not.
Let's not forget the context of today's bursting credit bubble. From 2001 to 2006 you had a huge explosion in global real estate, financed by massive easy credit courtesy of historically low interest rates. Now, the real assets bought with that borrowed money – mostly houses – are falling all over the globe. This makes households less wealthy, especially households that converted what little equity they had into lines of credit to finance consumption.
At the same time, those houses were securitized, insured, guaranteed as credit-worthy and sold as investments to pension funds, money centre banks, regional banks, hedge funds and life insurance companies. They were also used as collateral for further borrowing by those same institutions. A huge edifice of finance was built on a foundation of borrowed money. With the foundation crumbling into rubble, it's all falling apart. What happens next?
The central bankers are now in the position of deciding which institutions are saved and which fail. There will be some saving in the next few weeks. And then there will be the failing. More money will be created out of thin air. The forces of inflation are going to counter attack, but only after burying their dead.
Depositors in banks should be protected, especially since governments in Europe, the United States and Australia have explicitly moved to guarantee banks deposits. But there will be no such insurance for stock prices. The only saving grace for Aussie investors is that the collapse in share prices gives you the best chance since 1987 to pick up real assets selling at or below book value.
If you dare.