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Pertinent Monetary Economics from Ralph G. Hawtrey

Global markets (currencies, commodities, interest-rates, equities) remain extraordinarily unsettled. As for the rejuvenated U.S. equities Bubble, The Dow and S&P500 gained less than 1%. The Transports added 2%, increasing 2004 gains to 24%. The Morgan Stanley Cyclical index was unchanged, while the highflying Utilities dropped 4%. The Morgan Stanley Consumer index added 1%. The broader market was strong, with the small cap Russell 2000 gaining 2% (up 15% y-t-d) and the S&P400 Mid-cap index adding 1% (up 12% y-t-d). The technology sector was strong, with the NASDAQ100 up 2% (2004 gain of 10%) and Morgan Stanley High Tech index gaining 3%. The Semiconductors rose 3%. The Street.com Internet Index rose 4% (up 35% y-t-d), and the NASDAQ Telecom index added 2%. The Biotechs gained 2%. Financial stocks were mixed. The Securities Broker/Dealers were up 1.5%, while the Banks were about unchanged. And while bullion rose $3.95 to $455.90, the HUI Gold index dropped 7%.

With Treasury yields whipping about violently, bond traders must be pulling their hair out. Today's huge rally helped re-steepen the yield curve. For the week, 2-year Treasury yields declined 10 basis points to 2.92%. Five-year Treasury rates dipped 3 basis points to 3.60%. At the same time, ten-year Treasury yields rose 2 basis points at 4.25%. Long-bond yields ended the week at 4.93%, up 4 basis points for the week. Benchmark Fannie Mae MBS yields added one basis point. The spread (to 10-year Treasuries) on Fannie's 4 5/8% 2014 note was unchanged at 39, and the spread on Freddie's 5% 2014 note narrowed one to 34. The 10-year dollar swap spread was up 1.75 to 41.0. Corporate bonds spreads were generally little changed. The implied yield on 3-month January Eurodollars rose 5.5 basis points to 2.825%.

Corporate debt issuance jumped to a strong $18.3 billion (from Bloomberg). Investment grade issuers included News America $1.75 billion, Clorox $1.65 billion, World Savings $1.3 billion, Ford Motor Credit $1.25 billion, Citigroup $1.0 billion, Key Bank $750 million, Chesapeake Energy $600 million, PNC Bank $500 million, First Tennessee Bank $400 million, Suntrust Bank $350 million, Enbridge Energy $300 million, and Huntington National $250 million.

Junk bond funds saw outflows of $186.4 billion (from AMG). Issuers included CCO Holdings $550 million, SBA Communications $250 million, WDAC Subsidiary $200 million, and MAAX Holdings $170 million.

Convert issuers included Universal City $450 million, Scientific Games $250 million, American Equity $250 million, OMI Corp. $225 million, American Equity $175 million, Synaptics $100 million, and Cray Inc. $65 million.

December 1 - MarketNews: "The Chicago Board of Trade...experienced its highest monthly volume ever in November, with turnover for the month increasing 58% from the prior year to 59,467,507 contracts amid a surge in financial futures and options trading. Month-over-month volume was up 24.3%, the exchange said. Trading in the exchange's franchise Treasury futures and options was up 26% from a month ago and up 67.8% from year-ago figures with a total of 49,911,971 financial contracts traded."

Heavy foreign dollar debt issuance included Venezuela $1.5 billion, Republic of Brazil $1.25 billion, Swedish Export Credit $1.0 billion, Banco Santander $700 million, Royal Bank of Scotland $675 million, Yara International $500 million, Fairfax Financial Holdings $470 million, and Woori Bank $300 million.

Japanese 10-year JGB yields were unchanged at 1.44%. Brazilian benchmark bond yields rose 3 basis points to 8.21%. Mexican govt. yields ended the week at 5.28%, up 5 basis points for the week. Russian 10-year dollar Eurobond yields were unchanged at 5.89%.

Freddie Mac posted 30-year fixed mortgage rates jumped 9 basis points this week to 5.81%. Fifteen-year fixed mortgage rates were 8 basis points higher at 5.23%. One-year adjustable-rate mortgages could be had at 4.19%, down 8 basis points. The Mortgage Bankers Association Purchase application index was about unchanged for the week. Purchase applications were up about 5% from one year ago, with dollar volume up 15%. Refi applications sank 12.3% during the week. The average new Purchase mortgage declined to $225,500, and the average ARM dropped to $304,800. ARMs dropped to 32.3% of total applications.

Broad money supply (M3) expanded $7.1 billion (week of November 22). Year-to-date (47 weeks), broad money is up $480.2 billion, or 6.0% annualized. For the week, Currency increased $0.6 billion. Demand & Checkable Deposits jumped $23.6 billion. Savings Deposits declined $18.0 billion, with a year-to-date gain of $339 billion (11.7% annualized). Small Denominated Deposits dipped $0.4 billion. Retail Money Fund deposits added $2.7 billion, while Institutional Money Fund deposits dipped $1.2 billion. Large Denominated Deposits rose $7.9 billion. Repurchase Agreements declined $6.7 billion, and Eurodollar deposits fell $1.3 billion.

Bank Credit surged $46.5 billion for the week of November 24 to $6.781 Trillion. Bank Credit has expanded $506.9 billion during the first 47 weeks of the year, or 8.9% annualized. For the week, Securities holdings jumped $23.6 billion, and Loans & Leases rose $22.9 billion. Commercial & Industrial loans gained $6.3 billion, while Real Estate loans dipped $2.9 billion. Real Estate loans are up $286 billion y-t-d, or 14.2% annualized. Consumer loans were about unchanged for the week, while Securities loans jumped $14.2 billion. Other loans expanded $5.7 billion. Elsewhere, Total Commercial Paper rose $4.4 billion ($24.3bn in 3 weeks) to $1.393 Trillion. Financial CP added $5.1 billion to $1.259 Trillion ($25.4bn in 3 weeks), expanding at a 9.2% rate thus far this year. Non-financial CP dipped $0.7 billion (up 25.8% annualized y-t-d) to $133.7 billion. Year-to-date, Total CP is up $124.3 billion, or 10.6% annualized.

Fed Foreign "Custody" Holdings of Treasury, Agency Debt rose $5.9 billion to $1.323 Trillion. Year-to-date, Custody Holdings are up $255.9 billion, or 26% annualized. Federal Reserve Credit jumped $5.7 billion for the week to $785.5 billion, with y-t-d gains of $38.9 billion (5.7% annualized). Fed Credit has surged $20.6 billion over the past eight weeks.

This week's ABS issuance came to about $7 billion (from JPMorgan). Total year-to-date issuance of $591.9 billion is 37% ahead of comparable 2003. 2004 home equity ABS issuance of $383.5 billion is running 82% ahead of last year's record pace.

Currency Watch:

Today's bludgeoning put the dollar index down 1% for the week and below 81 for the first time since May 1995. The Euro ended today's session at a record 134.54. The Iceland krona gained almost 5% this week, the British pound 2.65%, Polish zloty 2.2%, and Hungarian forint 2.0%. The Argentine peso declined almost 1%, with small losses suffered by the Canadian and Australian dollars.

Commodities Watch:

November 30 - Bloomberg (Hector Forster): "Japan, the world's largest consumer of crude oil after the U.S. and China, said oil imports rose for a fourth consecutive month in October, gaining 14.3 percent from a year earlier... Japan imports more than 99 percent of its oil, according to the ministry."

I wouldn't much want to be an energy trader either. January Crude Oil sank $6.90 this week to $42.54. The Goldman Sachs Commodities index dropped 11.6% for the week, reducing year-to-date gains to 18.6%. The CRB index declined 2.3%, with 2004 gains of 11.4%.

China Watch:

December 3 - Bloomberg (Xiao Yu): "China faces a bigger influx of foreign currencies as investors bet the government will let the yuan appreciate, the state-run Xinhua News Agency said, without disclosing specific amounts."

November 29 - Bloomberg (Simon Casey): "China, the world's largest steel producer, will import 37 percent more iron ore this year than in 2003 as mills boost output to meet domestic demand, Macquarie Bank said. Chinese iron imports will rise to 203 million metric tons from 148 million tons last year... The nation's steel output will jump 23 percent this year to 270 million tons."

December 3 - Bloomberg (Allen T. Cheng): "China's technology exports in the first 10 months rose about 52 percent to $128.3 billion from a year earlier, said Shan Qingjiang, deputy director general at the Ministry of Commerce's technology division. For the full year, technology exports will probably climb 41.2 percent to $160 billion..."

December 2 - Bloomberg (Allen T. Cheng): "China's economy generated 8.4 million jobs in the first 10 months, achieving the target set by the government, China Central Television reported."

November 30 - Bloomberg (Allen T. Cheng): "Chinese consumers are the most optimistic in the world, with 78 percent expecting the economy to improve in the coming year, according to a survey by market researcher AC Nielsen. China was followed by India, where 77 percent of consumers said they expect an improvement and Indonesia with 76 percent, said New York-based Nielsen, which interviewed 14,134 people in 28 markets..."

December 2 - Bloomberg (Joshua Fellman): "Hong Kong real estate sales, mainly of apartments, more than doubled in November, rising for a 14th month as property prices and transactions increased in the city because of an economic rebound. Sales of building units, which also include factory and office space, jumped to HK$44.51 billion ($5.73 billion) last month... Transactions rose 42 percent to 13,690."

Asia Inflationary Boom Watch:

December 1 - Bloomberg (Seyoon Kim): "South Korean export growth picked up in November for the first time in six months, with shipments reaching a record $23.3 billion as manufacturers sold more cars and cell phones abroad. Overseas sales rose 28 percent from a year earlier after climbing a revised 20 percent in October..."

December 2 - Bloomberg (Seyoon Kim): "South Korea's foreign-exchange reserves rose $14.2 billion in November, the biggest-ever monthly gain, as the central bank bought U.S. dollars to stem the won's appreciation. The reserves, the fourth largest in the world, reached a record $192.6 billion at the end of last month, the Bank of Korea said..."

December 3 - Bloomberg (Theresa Tang): "Taiwan's foreign-currency reserves, the third-highest in the world, rose in November to a record $239 billion, boosted by net foreign capital inflows and an appreciation of the euro and Japanese yen. The reserves, which trail those of Japan and China, rose for a 41st month from $235 billion in October..."

December 1 - Bloomberg (Shanthy Nambiar and Aloysius Unditu): "Indonesian exports surged 46 percent in October, more than expected, on rising oil prices and demand for palm oil, nickel and coal in China and India. Exports rose to $7.27 billion from a year earlier..."

November 30 - Bloomberg (Grace Nirang and Wahyudi Soeriaatmadja): "Indonesia plans to raise prices of gasoline, diesel and other fuels by as much as 40 percent next year, and cut subsidies to help narrow the country's budget deficit, government ministers said."

November 30 - Bloomberg (Kate Mayberry): "Malaysia's broadest measure of money in circulation expanded in October at its fastest pace since June as banks extended more loans to consumers and companies. M3, the most closely watched measure of money supply, rose 10.7 percent in October from a year earlier..."

December 1 - Bloomberg (Khoo Hsu Chuang): "Malaysia's economic growth may exceed a government forecast of 7 percent expansion this year, Second Finance Minister Nor Mohamed Yakcop said. 'I'm confident of getting more than 7 percent growth. Private consumption is the engine of growth; we are in for a good patch of two years.'"

November 29 - Bloomberg (Francisco Alcuaz Jr.): "The Philippines raised its economic growth forecast for this year to more than 6 percent, the fastest in more than a decade..."

December 3 - Bloomberg (Francisco Alcuaz Jr.): "Philippine export growth picked up in October as electronics makers sold more disk drives and computer chips to Japanese factories. Overseas sales rose 12 percent from a year earlier to $3.75 billion after increasing 8.4 percent in September..."

Global Reflation Watch:

December 3 - Bloomberg (Lily Nonomiya): "Japanese companies increased capital spending more than expected in the three months ended Sept. 30, prompting economists to predict the government will raise its estimate for growth in the world's second-largest economy. Capital spending, including investment in software, rose 14.4 percent from a year earlier..."

November 30 - MarketNews Intl.: "Home construction in France remained buoyant in October, as three-month housing starts posted a 21.8% rise on the year, while permits for the same period were up 21.4%, according to non-seasonally adjusted data released Tuesday by the Construction Ministry."

December 2 - Bloomberg (Todd Prince): "Russia's foreign currency and gold reserves rose for a 14th-straight week to a record $117.1 billion, nearing the country's total foreign debt. The central bank said the reserves rose $3.2 billion in the week ending Nov. 26... Russia's foreign currency and gold reserves are surging as the central bank buys dollars being brought into the country by oil and gas exporters..."

December 1 - Bloomberg (Ben Holland): "Turkish exports climbed 45 percent in November from the same month last year, the fastest pace of growth this year... The country had exports of $5.8 billion in November... Exports in the 12 months through Nov. 30 climbed 35 percent to $62 billion..."

November 30 - Bloomberg (Vernon Wessels and Mike Cohen): "South Africa's economy expanded an annualized 5.6 percent in the third quarter, the fastest pace since 1996 and more than economists expected, as the lowest interest rates for two decades boosted demand."

November 29 - Bloomberg (Heather Walsh): "Latin American economies will grow more than 5 percent this year, faster than previously forecast, driven by demand for commodities and low financing costs, the World Bank's chief economist for Latin America said."

December 1 - Bloomberg (Guillermo Parra-Bernal): "Brazil's economic growth quickened to its fastest pace in eight years in the third quarter as lower interest rates boosted demand at home and exports of soybeans and cars surged. Gross domestic product grew 6.1 percent in the July-through-September period from a year ago after expanding 5.6 percent in the second quarter..."

December 2 - Bloomberg (Daniel Helft and Andrew J. Barden): "Argentine central bank President Martin Redrado said the country's monetary supply will expand as much as 15 percent in 2005, without stoking inflation and keeping the exchange rate stable."

Dollar Consternation Watch:

November 29 - UPI: "China Premier Wen Jiabao launched an indirect attack on the U.S. failure to halt the dollar slide while vowing not to revalue the yuan under pressure. In the strongest sign yet ofBeijing's concern at the weakening dollar, Wen questioned the American government's management of its currency, The South China Morning Post reported... 'China is a responsible country. We have ensured that the exchange rate of the renminbi remained stable during the 1997 Asian financial turmoil and, by doing so, contributed to the resolution of the crisis,' Wen said...'Today, we have to ask a question. The US dollar is depreciating and there is no attempt to manage it. What is the reason for this? Shouldn't the relevant parties take measures?' Wen described the revaluation of yuan as a major economic issue that should not be carried out under pressure, pointing that change in the exchange rate required certain conditions. 'The most important is to have a stable macroeconomic environment, a healthy and complete market mechanism and a healthy financial system.'"

California Bubble Watch:

December 3 - San Francisco Chronicle: "Bay Area home prices are increasingly outstripping incomes, making it less likely that nurses, teachers and firefighters can purchase properties here than in other major metropolitan areas... A quarterly analysis by the California Association of Realtors found Bay Area household incomes are $82,910 short of being able to afford a median-priced home... a Bay Area buyer now needs an income of $151,338 to afford a typical home..."

Bubble Economy Watch:

December 2 - The Wall Street Journal (Ann Davis): "Wall Street firms that are best positioned to take advantage of the bull market in commodities trading, and those that continue to post strong bond-trading gains, are poised to pay bankers much higher year-end bonuses than peers, according to a report by Deutsche Bank AG. Reflecting more-generous bonuses, Goldman Sachs Group Inc.'s total compensation expense is expected to rise an outsized 37% over last year's, according to Deutsche Bank's brokerage industry analyst, Richard Strauss. Morgan Stanley and Lehman Brothers Holdings Inc. are expected to post compensation increases of 25% and 30%, respectively."

December 1 - Bloomberg (Jeff Green): "Thor Industries Inc. Chief Executive Wade Thompson, whose company is the world's largest maker of motor homes and travel trailers, expects the industry's shipments to rise in 2005 for the fourth straight year... Thompson and chief executives of three rivals said they plan to hire more workers and Thor, Fleetwood Enterprises Inc., Winnebago Industries Inc. and other recreational-vehicle makers expect shipments to rise 14 percent this year to 364,900 units, the best since 1978..."

Mortgage Finance Bubble Watch:

December 2 - Bloomberg (Al Yoon): "Freddie Mac, the second-biggest provider of financing for U.S. residential mortgages, said investors in Asia purchased a record 40 percent of its $3 billion five-year reference note sale. Foreign investors accounted for 48 percent of the notes, which pay an interest rate of 4 percent and were priced to yield 30.5 basis points more than the U.S. Treasury's five-year note..."

December 1 - Bloomberg (Kathleen M. Howley): "U.S. home prices increased at the fastest pace in 25 years during the third quarter, led by Nevada and California, as the economy improved and low mortgage rates made financing more affordable. Prices across the nation rose an average of 13 percent from a year earlier, surpassing the second quarter's 9.8 percent pace, according to a report from the Washington-based Office of Federal Housing Enterprise Oversight, or Ofheo. It was the biggest increase since 13.1 percent in 1979's third quarter."

If You Missed it on CNBC Watch:

December 1 - Dow Jones: "The amount of trash produced by U.S. consumers serves as an indicator of the domestic economy's health, said Michael Hoffman, deputy director of research at Friedman Billings Ramsey. 'I think we're in a healthy environment,' Hoffman said Wednesday on CNBC, referring to economic conditions. Hoffman said the volume of trash has been increasing recently in step with observations that the U.S. economy is in a recovery."

Pertinent Monetary Economics from Ralph G. Hawtrey

Recent comments from the eminent Stephen Roach: "The asset economy does not just have its origins in America. It is very much a by-product of support from global investors and policy makers. One of the outgrowths of an increasingly asset-dependent economy is a shortfall in income-based national saving. America has taken this shortfall to an unprecedented extreme. The net national saving rate -- the combined saving of consumers, businesses, and the government sector after deducting for the depreciation of worn-out capacity -- fell to a record low in the 1-2% range in 2003-04. Lacking in domestic saving, America has had to import foreign saving from abroad -- and run massive current account deficits to attract that capital."

I have to this time take exception with Mr. Roach's analysis. The "origins" of our "asset economy" are surely not only here at home, but they reside in the bowels of Washington and Wall Street. And I would argue that the key issue today is not a lack of "savings" or our massive current account deficits. These are only symptoms of the massive Credit Inflation that has ridden roughshod through our Credit system and economy and now destabilizes the world. And I'm no fan of the language "attract capital" or "import foreign saving" in this context. Foreign financial flows are merely the "recycling" of dollar balances - created in gross excess by our financial sector and federal government - into U.S. securities. Foreign central banks can be faulted for being complicit with respect to their dollar purchases. But if they don't buy who will? And are we really going to continue castigating the lender - the buyer of last resort of our debt? There should be no confusion surrounding the lack of central bank enthusiasm for intervening in the markets on our behalf.

I guess we can refer to foreign "savings" or "capital," yet the fact of the matter is that foreigners are accumulating our IOUs - no more, no less. We consume and import too much. There is nothing gained by using language that muddles the issue; no one is forcing us to issue trillions of IOUs or to stock our stores and homes full with imported goods. There is, as well, no way for export growth to balance our trade deficit. Furthermore, foreign central banks are only inflating Credit, not creating or allocating savings and "capital." The bottom line remains that we are in the midst of history's greatest inflation, and I do believe there are clear analytical advantages to disentangling a very complex environment down to the key issues of Credit Inflation, Inflationary Processes and Speculative Finance.

I also read these days much commentary regarding the American consumer. Some believe the spendthrift American household sector (along with the abstemious Asian and European consumers!) is to blame for the current account deficit and weak dollar. And very bright minds aver that consumer debt provides today's "weak link" for both fragile domestic and global economic systems. While such a viewpoint is justifiable, I nonetheless believe it misdirects emphasis away from what should be the paramount issue. If our quest is to identify the true source of increasingly destabilizing Monetary Disorder, look to Wall Street and not Main Street; look at home and not abroad; look in the mirror instead of throwing stones at our neighbors (especially when our neighbors hold our mortgages). And the poor unsuspecting American consumer is reacting as one would expect considering the extraordinary inflation in the value of their assets: they are merrily enjoying the fruits of their non-labor, while scampering to buy more inflating assets.

The Paramount Issue - the "origins" - The Core - The Epicenter of the U.S. Credit Bubble lies in financial sector leveraging and securities speculation. Not surprisingly, this subject matter is taboo for most economists. But I will (again) strongly argue that the leveraging of marketable securities has been and continues as the instrumental source of Credit inflation - the commanding source of system liquidity, purchasing power, income growth and corporate cash flow. This mechanism of speculative leveraging - at the direction of the Greenspan Fed and Wall Street - artificially lowered interest rates, created the perception of unlimited supply of finance and liquidity, and sustained ultra-low rates when fundamentals dictated that they should move significantly higher. The collapse in rates has stoked housing, equities, and increasingly broad-based asset inflation. This has nurtured an inflationary boom of consumer borrowing and spending excesses, not to mention rather ferocious "animal speculative spirits." The consumer sector has responded vigorously to The Source - the ballooning financial sector.

When it comes to cogent analyses of Credit, inflation, and the prominent role of speculative trading in Inflationary Processes, I am happy to return to the work of one of my favorite "monetary" economists, Ralph G. Hawtrey (1879-1975). The focus of Mr. Hawtrey's analysis of the "Trade Cycle" was the instrumental monetary role played by traders and merchants borrowing to increase the inventory of goods and commodities. Like few contemporary economists, he was keen to Credit, Credit inflation, and marketplace speculative dynamics. It's a good week to ponder the wisdom of Mr. Hawtrey.

Recognizing the prominence that asset markets today have with respect to credit, liquidity, and income - when reading Hawtrey's "traders," "merchants," "production" and "goods" think in terms of contemporary systems commanded by asset-based lending and securities markets. Today's traders leverage bonds and merchants inventory and hawk securities!

From Ralph Hawtrey:

"An expansion of credit is similarly started through the sensitiveness of merchants to the rate of interest. Merchants are tempted by cheap money to hasten their purchases. It is obvious that much depends upon the psychology of the merchants and other traders, and particularly on their expectations as to the course of markets. One who expects demand to grow will hasten to buy... When prices are rising, the holding of goods in stock is itself profitable; when prices are falling, the holding of goods in stock is a source of loss. When prices are rising, a very high rate of interest may fail to deter merchants from borrowing; when they are falling, an apparently low rate of interest may fail to tempt them... Each state of expectation tends to bring about its own fulfillment. The optimists borrow freely, and the spending power thus created brings about the rise of prices they hope for; the pessimists refrain from borrowing and the shortage of spending power brings about the fall of prices they fear. It is only at the turning-points, when the banks check borrowing, or succeed in reviving it, that the optimists and pessimists are respectively mistaken... Traders' expectations, whether erroneous or correct, form one element in the problem of the regulation of credit... The inherent instability of credit, which becomes apparent in the vicious circle of expansion and the vicious circle of contraction, is due to the mutual relations of these three factors. Optimism encourages borrowing, borrowing accelerates sales, and sales accentuate optimism. Pessimism discourages borrowing, and the consequent decline in sales intensifies pessimism." (R.G. Hawtrey, The Trade Cycle, Readings in Business Cycle Theory, p. 346).

"The consumers' purchasing power is...largely supplied out of the credits which the traders borrow from the banks. Credit originates in production and is extinguished in consumption. The supply of purchasing power is thus regulated by the transactions which require to be financed." Currency and Credit (C&C), 1919, p. 10

"Apart from this shuffling of debts, all the credit created is created for the purpose of being paid away in the form of profits, wages, salaries, interest, rents - in fact, to provide the incomes of all who contribute, by their services or their property, to the process of production, production being taken in the widest sense to include whatever produces value. It is for the expenses of production, in this wide sense, that people borrow, and it is of these payments that the expenses of production consist. So we reach the conclusion that an acceleration or retardation of the creation of credit means an equal increase or decrease in people's income." C&C p. 40

"Self interest prompts both the enterprising trader ever to borrow more, and the enterprising banker ever to lend more, for to each the increase in his credit operations means an increase in his business... The general rise of prices will involve a proportional increase of borrowing to finance a given output of goods, over and above the increase necessitated by the increase in output. This increase of borrowing, meaning an increase in the volume of credit, will further stimulate trade. Where will this process end? ...The indefinite expansion of credit seems to be in the immediate interest of merchants and bankers alike. The continuous and progressive rise of prices makes it profitable to hold goods in stock, and the rate of interest which the merchant who holds such goods is prepared to pay is correspondingly high. The credit created...becomes purchasing power in the hands of the people engaged...; the greater the amount of credit created, the greater will be the amount of purchasing power and the better the market for the sale of all kinds of goods. The better the market the greater the demand for credit. Thus an increase in the supply of credit itself stimulates the demand for credit... Either the expansion or the contraction of credit may therefore proceed absolutely without limit, and the corresponding fall or rise in the value of the monetary unit would therefore also proceed without limit. In each case all standard of value will be completely lost." C&C, pp. 12/13

"Inflation means a too free creation of credit." C&C p. 365

"We shall find that the expansive tendencies of credit are in perpetual conflict with the maintenance of a fixed standard of value..." C&C p. 16

"The danger arises from the undue increase in credits; the remedy is to be found only in the curtailment of credits. The grant of credit rests in a banker's absolute discretion." C&C p. 23

"Difficulties in enforcing the control of credit occurred at the climax of trade activity, but that was chiefly on account of the heavy commitments which involved traders in further borrowing on any terms." The Trade Cycle p. 348

"The existence of any large class of traders, whether they be bankers, underwriters, finance companies, or any others, with long-period assets and short-period debts, is always a source of danger." C&C p. 195

"Traders borrow to purchase and hold stocks of goods or securities, and bankers encourage them to increase these stocks, and so to increase their borrowing, by lowering the rate of interest... As prices rise, the quantity of credit needed to finance a given consignment of goods increases in proportion, and the creation of credit is still further accelerated." C&C p. 43

"The only effective method of controlling the issues of paper money is to control the creation of credit, for the demand for legal tender money for circulation is consequential upon the supply of credit. Hence the need for a central bank of issue. Inevitably a central bank with a monopoly of a legal tender note issue must be subject to carefully devised legal or at any rate administrative restraints...The actual limitations imposed on this right must be so devised as to guard the community against the various disorders which may arise from an imperfect standard of value or medium of payment." Page 52

"...inflationism, that insidious financial vice, which seems so attractive, but overindulgence in which may enfeeble or wreck the system." C&C p. 365

"It is one of the advantages of the standpoint which we have adopted, treating credit as the primary means of payment and money as subsidiary, that it brings out the causes and the nature of these cyclical movements with special clearness. And I think it enables us to trace the instability of credit, not so much to the banker as to the merchant and the promoter." C&C p. 377

"We have treated money as subsidiary to credit. In a highly-developed system of deposit banking, such as that of England or the United States, the justification for this is obvious. Purchasing power is created and extinguished in the form of credit." C&C p. 380

"When it comes to practical consequences, all that debtor and creditor ask is that they may know how they stand, that they may be secured against arbitrary or incalculable variations in the value of the monetary unit... the danger is that the unit may wander far beyond these limits. Beset by the tendency of credit towards inflation, it is always liable to fall away from whatever standard may be adopted. Unless a return to the standard is regarded as an unequivocal obligation, there is no limit to the possible depreciation. The unit may follow in the well-trodden path of the assignats, the continental currency, the Austrian paper florin, the rouble. A return to a standard once lost is a painful and laborious journey... As Cobden once said of the greenbacks, after the debauch comes the headache. It is the inherent instability of credit that is perpetually involving the world in credit expansions... We traced the instability of credit to its source... We found that the initiative in production rests with the merchant and the promoter, the dealer in commodities, and the dealer in capital issues." C&C p. 375/76

To wrap this up, the dollar "monetary unit" is in free-fall and our Creditors are being punished. "All that debtor and creditor ask is that they may know how they stand, that they may be secured against arbitrary or incalculable variations in the value of the monetary unit." We are witnessing a truly extraordinary development, the loss of confidence in the world's main reserve currency. And surely the consensus will stick with the story that a weaker dollar is no real problem, and this fallacy may survive a little longer. After all, at this point it's Bubble Business as Usual for the U.S. Credit System. The falling dollar lends support to the blow-off stage of Credit Bubble excess. Heightened inflationary pressures at home (including equity prices!) augment Credit excess, while rising prices of commodities and non-dollar things - along with incredible liquidity excess throughout Asia and global "developing" financial markets - exacerbate Credit profligacy globally. But that's precisely why they're called "blow-offs," and this one's for the history books.

But financial folly is mercilessly sowing the seeds... The Source - the highly leveraged U.S. Credit system - is now acutely vulnerable to higher rates. And I do believe it has reached a point where low rates are self-defeating - only exacerbating Monetary Disorder and a dollar crash. And the problem is that it will take significantly higher rates today to suppress inflationary forces and support the dollar than it would have last year or even last month. Dollar confidence has faltered not coincidently as inflationary pressures have broadened and mounted.

When rising rates commence the de-leveraging process, the illusion of endless liquidity will be challenged. Levitated asset prices from U.S. stocks and bonds, to emerging securities, to California homes will be immediately vulnerable. In this regard, it is worth noting that the initial signs of systemic stress have appeared: speculative bond market profits have largely disappeared, interest rate markets have turned treacherous, and the yield curve is lurching about. The leveraged players will see few good alternatives other than battening down the hatches. And derivative players - reeling from chaotic trading in currency, energy, commodity, equity, and interest-rate markets - will be increasingly skittish and risk-averse. Rising risk aversion in an unwieldy Bubble environment signals we are not many steps away from Acute Financial Fragility. But, as Mr. Hawtrey recognized many years ago, "There is an inherent tendency on the part of traders to borrow more and more and of bankers to lend more and more." (C&C p. 30)

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