[A-List] Benson's deflation paradox

["bon moun" <sherrynstan@xxxxxxx>]

Benson's
Economic & Market Trends
The Deflation Paradox: The US Trade Deficit and "Phony" Deflation
September 10, 2003
The Federal Reserve, under the current administration, is permitting the
US money supply to "rip" by artificially holding short term interest
rates well below the rate of official CPI. The US is running 5% budget
deficits, Euro land 4%, and Japan 8% - these government deficits are
larger than savings which means that without the creation of highly
inflationary new money and credit, there would be absolutely "no
growth"!

China is printing new money at a 20% rate and Japan has vowed to not let
its currency appreciate, even if it has to print enough new money to buy
every US bond and note the US Treasury needs to finance our $500 billion
budget deficit.
The Fed Chairman has made it his current quest to fight "deflation".
Given the massive printing effort of the world's central banks, the
efforts to fight deflation are beyond cynical. What's really going on?

Obviously, Asia doesn't want to "trade" on a level playing field and
they want to force their currencies "down" and continue to help the
American Consumer spend more than they earn. They will finance our
Federal and Trade deficits, as long as we help them build the latest and
most efficient factories and ship our jobs to the other side of the
Pacific. By letting Asia hold their currencies down by 30% - 50% below
the "free market rate", in the US it appears we are importing deflation,
while China, Japan and the rest of Asia, accumulates a massive hoard of
US Dollar reserves.

With Asian currencies artificially held down, to the US it would appear
like we are importing deflation. Meanwhile, Asia and the rest of the
world are reflating and printing money like crazy. At first blush, this
deflation is a paradox - in reality, the deflation is both phony and
temporary. However, the phony deflation is extraordinarily convenient
and gives Greenspan a cover to keep short term US interest rates
depressed and money growth high. The moment the US dollar and Asian
currencies are allowed to "float" and seek the level that brings trade
back into balance, the prices of Asian goods, causing deflation, will
soar. Import prices will go to normal and we will see a tremendous
amount of "missing inflation" - the phony deflation will vanish and the
deflation paradox will be over. This will not be a good day for Alan
Greenspan and interest rates.

At present, inflation in services is running at a 3.5% - 4% rate and the
only reason that inflation looks tame is because manufactured import
prices are artificially held at 30% to 50% below where they should be
and holding the core CPI down. Can you imagine what will happen to
interest rates when the dollar sinks, and the CPI is seen to really be
rising at 4% to 5%?

Not only are Asians eager to take work from lazy Americans and Mexicans
who don't want to work for $10 a day, but they are delighted to become
America's biggest creditors. At present, the United States, through its
rising trade deficits, has built up debts abroad of over $3 Trillion
dollars, and we are adding to the total at a rate of $500 billion a
year. Asia has been willing to finance America's consumption orgy and
federal deficits because they are building up massive currency reserves,
held primarily in US Dollar assets. Being a banker to the world's super
power that controls Mid-East oil, looks like it is in Japan's and
China's short term interests. China and Japan need oil and other
commodities and building up dollar reserves that the world will take in
payment for now is almost as good as building up strategic reserves of
these commodities which will be essential to running their industrial
complex.

The reason our beloved Fed Chairman is so cynical in selling us on
"deflation", is that not only will there be an inflationary shock from
the Dollar going down against our trading partners, but at some point
those massive dollar reserves building up overseas are going to be
exchanged for something of value; something real. Not only will a sharp
drop in the dollar cause a sudden "Pop" in inflation, but when
foreigners want to swap their dollars for something real, there will be
another surge of inflation. The Fed Chairman knows this and talk of
deflation is a delaying tactic hoping to postpone the dollar crash until
a new Administration and Fed Chairman can get all the credit for
creating far too much money and credit.

Indeed, the "Deflation Myth" may end sooner than later. The US is
growing, but not creating jobs. The incumbent President is extremely
vulnerable on this political issue and in the mid-term election he
showed his practical side, and "protected steel". When the day comes
that either our current President puts "jobs first" to be re-elected, or
a new US President fulfills his campaign promise to do the same, the
current game of the Deflation Paradox will be long over. The only reason
the Asians are willing to add to their dollar reserves is because we are
sending them jobs. The only reason it makes sense to keep reserves in
dollars, is because the dollar is "artificially" strong. Secretary of
Treasury Snow was sent to China to make it look like the Administration
was "talking tough" on letting the Yuan float. In reality, the deal is
we'll just talk, as long as the Chinese are willing to buy more US
Treasury bonds. Both sides know that if the rules of the game are
changed, the US will be in for a currency and economic shock. For China
and the rest of Asia, dollar foreign exchange reserves are viewed as
valuable and strategic. If the dollar is to be devalued, the reserves
must be diversified from the dollar. The dollar devaluation becomes more
likely if the US is forced to allow other powers to have a say in
dividing up Iraq's oil, and pressure before the election drives the US
President to actually act instead of talk.

With the US Trade Deficit at $500 billion, getting out of the dollar
while you can is the only sane thing to do. Moreover, since other major
currencies are inflating, all the currencies are ugly; the dollar just
wins the "Ugly Contest".

Getting into the Euro, Yuan, or Yen are cyclical plays. The game
suddenly becomes, "he who sells the Dollar first wins" and with the Fed
holding short term interest rates at 1%, it cost speculators almost
nothing to borrow dollars to short against foreign currencies, or buy
real assets. Getting into gold, silver and commodities, looks like a
much better long term secular play, as the "Deflation Paradox" is about
to end.


Richard Benson
President
Specialty Finance Group LLC
Member NASD/SIPC
800-860-2907
www.sfgroup.org