US Fed Gold Holdings vs. US Public Debt

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BIS warns financial system vulnerabilities

Speaking of the BIS, their report warns of another impending financial system collapse if structural debt problems aren't treated.

http://kingworldnews.com/kingworldnews/KWN_DailyWeb/Entries/2010/6/28_Secretive_and_Powerful_BIS_Annual_Report_Released.html

“When the transatlantic financial crisis began nearly three years ago, policymakers responded with emergency room treatment and strong medicine: large doses of direct support to the financial system, low interest rates, vastly expanded central bank balance sheets and massive fiscal stimulus. But such powerful measures have strong side effects, and their dangers are beginning to become apparent.”

“Here are the worst problems arising now from the continued use of the extraordinary programmes: Direct support is delaying vital post-crisis adjustment and runs the risk of creating zombie financial and non-financial firms. Low interest rates at the centre of the global economy are discouraging needed reductions in leverage, thereby adding to the distortions in the financial system and creating problems elsewhere.”

“The sustained bloat in their balance sheets means that central banks still dominate some segments of financial markets, thereby distorting the pricing of some important bonds and loans, discouraging necessary market-making by private individuals and institutions, and increasing moral hazard by making it clear that there is a buyer of last resort for some instruments. And the fiscal stimulus is spawning high and growing government debt that, in a number of countries, is now clearly on an unsustainable path.”

“The financial disruptions in the first half of 2010 have brought the fragility of the industrial world’s financial system into stark relief: a shock of virtually any size risks a replay of the events we saw in late 2008 and early 2009. The sovereign debt crisis in Greece is clearly jeopardising Europe’s nascent recovery from the deep recession brought on by the earlier crisis.”

“Unlike then, however, we have hardly any room for manoeuvre. Policy rates are already at zero and central bank balance sheets are bloated. Although private sector debt has started to decline, public debt has taken its place, with sovereign fiscal positions already on an unsustainable path in a number of countries. In short, macro-economic policy is in a vastly worse position than it was three years ago, with little capacity to combat a new crisis – it will be difficult to find a source of further treatment should another emergency arise. Regaining the ability to react to economic and financial crises, by putting policies onto sustainable paths, is therefore a priority for macroeconomic policy.”

Pension fund reforms looming

http://abcnews.go.com/Business/Retirement/public-pension-reform-states-cut-benefits-massive-funding/story?id=10448854

One of the reasons I started this blog is because I was getting tired of being bashed by my own friends and family for being the messenger of bad news, and to be honest--I got tired of my own redundancy. The news coming out of the mainstream press today includes material I was harping about months and years ago. Mutual funds, pension funds, and even money market funds are at risk (see this blog on money market redemptions). Many blogs included actionable items, from a personal finance standpoint.

In regards to our public finances, we are teetering past the point of no return, with debt levels unsustainably high, and the threat of our financial systems collapsing at its highest point since the Great Depression. Pending financial reforms do not remove this systemic risk--they are backward-looking band-aids which do little to eliminate the toxicity of a $1 quadrillion derivatives market, in light of the fact that worldwide GDP is less than $60 trillion.

Our government and Wall Street haven't removed the iceberg(s); they're merely draining the Titanic one bucketful of water at a time--with high seas on the horizon. And the financial press is re-arranging the deck chairs in order to numb the masses into believing all is well, through manipulation of data and outright lies about unemployment and inflation numbers.

Excessive leverage from places as disparate as Iceland to Palm Springs created credit bubbles and the subsequent bursting. In many regions of the developed world, the process of de-levering is still in place, aided by zero-interest rate policies, quantitative easing, and fraudulent accounting endorsed by government authorities. The Fed's easy-money lending to banks is meant to recapitalize their broken balance sheets, but Main Street is still credit-starved--banks aren't lending. In the process, the Fed's balance sheet has ballooned, including the gigantic inventory of toxic mortgage-backed securities, with a market value of pennies on the dollar. The massive debt monetization incurred by the bailouts will dampen any semblance of a sustainable recovery.

But the USDollar carry trade marches on, where arbitrageurs (including hedge funds and banks) borrow dollars at 0% and speculate elsewhere with the unintended consequences of creating additional asset bubbles. Meanwhile, accusations of the Chinese manipulating the yuan artificially low are ridiculous, considering the Chinese central bank merely pegs the yuan to the USDollar. If we are to believe the US stance on a "strong USDollar policy", then logic would dictate the yuan would also be a "strong" currency. The yuan is sinking because the USDollar is sinking, and while we're at it, so is the Euro. It's a race to the bottom in an attempt to stimulate exports.

In the paper chase to zero, I am holding on to something tangible.

More BIS projections

http://www.telegraph.co.uk/finance/economics/7564748/Sovereign-debt-crisis-at-boiling-point-warns-Bank-for-International-Settlements.html

BIS on public debt

http://www.bis.org/publ/work300.pdf?noframes=1

Conclusion

Our examination of the future of public debt leads us to several important conclusions. First, fiscal problems confronting industrial economies are bigger than suggested by official debt figures that show the implications of the financial crisis and recession for fiscal balances. As frightening as it is to consider public debt increasing to more than 100% of GDP, an even greater danger arises from a rapidly ageing population. The related unfunded liabilities are large and growing, and should be a central part of today’s long-term fiscal planning.

It is essential that governments not be lulled into complacency by the ease with which they have financed their deficits thus far. In the aftermath of the financial crisis, the path of future output is likely to be permanently below where we thought it would be just several years ago. As a result, government revenues will be lower and expenditures higher, making consolidation even more difficult. But, unless action is taken to place fiscal policy on a sustainable footing, these costs could easily rise sharply and suddenly.

Second, large public debts have significant financial and real consequences. The recent sharp rise in risk premia on long-term bonds issued by several industrial countries suggests that markets no longer consider sovereign debt low-risk. The limited evidence we have suggests default risk premia move up with debt levels and down with the revenue share of GDP as well as the availability of private saving. Countries with a relatively weak fiscal system and a high degree of dependence on foreign investors to finance their deficits generally face larger spreads on their debts. This market differentiation is a positive feature of the financial system, but it could force governments with weak fiscal systems to return to fiscal rectitude sooner than they might like or hope.

Third, we note the risk that persistently high levels of public debt will drive down capital accumulation, productivity growth and long-term potential growth. Although we do not provide direct evidence of this, a recent study suggests that there may be non-linear effects of public debt on growth, with adverse output effects tending to rise as the debt/GDP ratio approaches the 100% limit (Reinhart and Rogoff (2009b)).

Finally, looming long-term fiscal imbalances pose significant risk to the prospects for future monetary stability. We describe two channels through which unstable debt dynamics could lead to higher inflation: direct debt monetisation, and the temptation to reduce the real value of government debt through higher inflation. Given the current institutional setting of monetary policy, both risks are clearly limited, at least for now.

How to tackle these fiscal dangers without seriously jeopardising the incipient recovery is the key challenge facing policymakers today. Although we do not offer advice on how to go about this, we believe that any fiscal consolidation plan should include credible measures to reduce future unfunded liabilities. Announcements of changes in these programmes would allow authorities to wait until the recovery from the crisis is assured before reducing discretionary spending and improving the short-term fiscal position. An important aspect of measures to tackle future liabilities is that any potential adverse impact on today’s saving behaviour be minimised. From this point of view, a decision to raise the retirement age appears a better measure than a future cut in benefits or an increase in taxes. Indeed, it may even lead to an increase in consumption (see eg Barrell et al (2009) for an analysis applied to the United Kingdom).