Monday, August 18, 2008

The inverted pyramid of global liquidity

Sources: Bank of International Settlements / Independent Strategy

As a matter of fact, if Washington really intended to stabilize the Dollar or, more ambitiously, to push it up against the other currencies, there would only be one way (5), in two parts: raising significantly the Fed's interest rates, and lowering drastically the pace of money printing. But if the government decided to implement this type of policy, the US economy (both real and financial) stops dead a few weeks after : the real estate market falls to zero by lack of affordable credit and as a result of soaring interests on Adjustable Rate Mortgage loans, consumption becomes negative (i.e. shrinks back each month), corporate failures multiply exponentially, Wall Street collapses under the burden of innumerable debts and succumbs to the instantaneous implosion of the CDS market due to counterparties default...

Such a series of events, sure to happen if Washington implements a voluntary policy of dollar-rescue, is probably unacceptable by the US authorities. Therefore, apart from talking – and further self-discrediting – they cannot do anything. The method used in the past decades is no longer available: no one will accept to buy large amounts of Dollars in order to rescue the US currency if some voluntary policy (like the one described previously) is not implemented by Washington. As they will not do it, the rest of the world will draw its own conclusions: everyman for himself, knowing that from mid-August onward, as Beijing is relieved from the constraint of the Olympic Games, a large number of “tough” options (6), put on the back burner until the Games, will resurface (7).

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