KLCI @ 31 July 2013

Fitch Downgraded of Malaysia outlook from stable to negative. More foreign funds are pulling out. A break out in dollar will leads to short term weakness in KLCI.

The Fed at 100: Omnipotent or Senile?

 

Posted on: Monday, July 15, 2013Written by: Richard Duncan

The Federal Reserve turns 100 years old this year, so this week let’s take a quick look back at the most important episodes during its long history, and also consider its current role in the world.

• In the early 1930s the Fed failed spectacularly in its original mission to prevent financial panics from turning into economic crises. A third of all US banks failed and the economy spiraled into a decade-long depression.
• During World War Two, the Fed helped finance the war by buying government bonds and fixing interest rates at an abnormally low level.
• In 1968, at the behest of President Johnson and with congressional approval, the central bank stopped backing dollars with gold, taking the country and the world from a commodity-backed monetary system to a pure fiat system. That change played a leading role in producing two rounds of double-digit inflation during the 1970s.
• In 1981, Fed Chairman Paul Volcker crushed inflation by pushing up bank lending rates to 20%. The very high rates created a severe recession and caused the unemployment rate to jump to 10.8%.
• From 1987 to 2006, Ayn Rand disciple-gone-astray Alan Greenspan reigned as Fed Chairman. He bailed out the speculating community so consistently following each and every market dip that the public came to believe that investing in stocks and property was a guaranteed path to riches. All the while, he championed financial sector deregulation and encouraged the development of a $700 trillion (largely unregulated) derivatives industry.
• The period from 1984 to 2007 is sometimes referred to as the Great Moderation because inflation and interest rates came down from double-digits to low single digits and because swings in the business cycle became much less pronounced. The Fed frequently takes credit for these developments. The reality, however, is that inflation fell because the US began importing cheap manufactured goods from ultra-low wage countries, while a surge in credit supported consumption at home. In the process, the US Current Account deficit grew to $800 billion and the ratio of total debt to GDP rose from 160% to 370%.
• In 2008 when the Great Moderation gave way to the New Depression, the Fed cut interest rates to 0%. When that didn’t halt the economic collapse, Fed Chairman Bernanke began creating money from thin air.
• During the last four and a half years, the Fed has created roughly $2.5 trillion that way, using the money to buy government bonds and mortgage debt, of which the Fed now owns $1.9 trillion and $1.2 trillion, respectively. This has not only allowed the government to finance its massive budget deficits at very low interest rates (much as it did during World War Two), it has also generated a new boom in the equity and property markets. Now, that Fed-induced boom is the only thing keeping the world from plunging back into a very severe recession.
• In 2012, the Fed “earned” $91 billion, making it (I believe) the most profitable business in history! That figure is double the highest corporate profits ever recorded: $46 billion by ExxonMobile in 2008. This year, with a much larger balance sheet, the Fed will earn even more.
• Today – and every day so far this year – the Fed is creating (or should I write conjuring?) $2.8 billion from nothing and buying bonds with it. Each day!

The Fed is desperately trying to reflate the US economy and, thereby, the global economy – and it is succeeding, at least for the moment. The financial markets hang on Bernanke’s every word, facial expression and vocal intonation. If he speaks of monetary accommodation, asset values inflate by several trillion dollars. If he utters the world “taper”, trillions of dollars of net worth evaporate. In short, the Fed is far more powerful than ever before.
Preventing a worldwide credit bubble (largely of its own making) from collapsing is a lot of responsibility for a 100 year-old. But, the horrifying truth is that (at least for the foreseeable future) the fate of the global economy will be determined by what the Fed does during the months and years ahead. Now that the Fed has become nearly omnipotent, all that the rest of us can do is to hope and pray that senility (or megalomania) does not begin to cloud its judgment any time soon.

Posted on: Monday, July 15, 2013 | Leave A Comment | Written by: Richard Duncan

The Evolution of Money

1.       Business community started business in form of barter trade

2.       Due to limitation of barter trade, the business community came up with an agreed item that represent value – commodity.

3.       Again due to the limitations of commodities: there are heavy, difficult to move around, the idea of receipt money came up.

4.       How the receipt money work is that the rich merchants will deposit their gold or other precious commodities into a reputable vault service provider in return the service provide will issue a receipt stating the value of precious commodities kept in the vault.

5.       The merchant pay for the good he bought using receipt money then the seller will present receipt money at the vault to convert into gold.

6.       The interesting part is the vault service provider realized that a lot of sellers did not convert their receipt money into gold, instead use it to pay for their own purchases.

7.       The process continued for years where the receipt money continue to circulate in the market without going back to the vault that issue it.

8.       Occasionally, some bearers of the receipt money appeared at the vault to request for a replacement of receipt money as it was torn or the ink faded but no one asked for gold.       

9.       The vault owner start to realise that since no one is asking back their gold and probably they have lost track of the original owner of the gold.

10.    The idea of issuing additional new receipt money during the waiting period to merchant that did not deposit gold.

11.    Of course for a fee known as interest.

12.    That is how the banking business started.

13.    The evolution in banking business give birth to the fractional reserve receipt money concept – issue 2000 while gold only worth 1000 – 2:1

14.    Proliferation of small banks started to issue their own receipt money and went bust.

15.    Lead to formation of bank of England and Federal Reserve was formed to regulate the banking industry

16.    Key regulation of central banks is only one form of paper money.

17.    Those who control central bank will b so powerful that control supply of money.

18.    Central bank objective is to regulate the supply of money with long term objective of economy growth and employment rate and policy interest rate.

19.    A critical decision severe the link of money to gold in 1971 has changed the anatomy of money.

20.    Since then money no longer back by gold, instead back by debt – a promise that will be paid in the future

21.    Hence, since 1971, money we use today is no longer “money”, but debt

22.    Since then, knowledgeable folks started to reject paper money

23.    Slowly, more and more wealth is finding its way to gold and other commodities that has ever lasting value

24.    Gold was valued at USD30-US40 per ounce – the price was derive from Bretton Wood Agreement (1944) where US has agreed to peg 1 ounce of gold ot USD35.

25.    This system worked well for almost 30 years – ie the gold price fluctuation was minimal but not after 1971.

  

26.    See chart above, gold shot up to approximate USD180 in Jan 1974 and retreated to just above USD100.

27.    Gold touched USD700 in Jan 1980 a whopping increase from 1970s.

28.    Where is gold price now?

         

29.    Although USD was fiat money, the American is so good in marketing their dollar to the whole world

30.    Gold stayed USD 250 – 450 range for period of good 20 years (1980s – 2000s)

31.    In early second millennium (year 2000 onwards) the mounting of US national debts and real demand from China and India has push gold to unprecedented territory – how about USD1,900 per ounce in early 2011.

32.    It is really mind-boggling.

33.    Let’s do a quick calculation: from USD350 (2000) to USD1900 (2011) : 540% increase in period of a decade.

34.    Why is it a fall in 2013 to current USD1200 level?