Inverse Asian Crisis
Heinrich Leopold
Given the recent turbulence in financial markets, there is the question why this can happen despite huge economic research departments at Central Banks and at financial companies? Are we heading towards a depression or towards hyperinflation?
It is important to understand the background of monetary policy in order to understand what is happening now and what the possible outcomes will be.
The classical mechanism for monetary policy is to stimulate growth through low short term interest rates, which are then invested into the economy by companies and consumers through long term investments at high rate of return.
Nevertheless, the globalization of the financial industry changed the picture significantly as countries , companies and consumers can basically finance in any major currency and put the proceed into another high yielding currency. This is even possible for Japanese housewives by taking out a multi currency account.
Below picture shows how capital flows work as it is not anymore required to finance in a home currency. Capital is raised in a low yielding currency like the Japanese Yen and the Swiss Franc and then invested in high yielding currencies such as the US dollar, Chinese Yuan and Indian Rupiah.
So, globalization has more and more changed the picture of monetary policy: Central Banks are increasingly powerless to stimulate its own economy as low interests are used to finance higher yielding currencies abroad. No wonder Central Banks worldwide rush to increase interest rates: high interest rates attract capital from abroad and thus stimulate the economy.
This is exactly the reasoning behind a strong currency policy as high interests and a high currency attract worldwide capital and thus increase monetary growth, which in turn ensures high economic growth. Below picture shows impressively how a strong US dollar coupled with high interest rates could foster enormous monetary growth in the US during the nineties.
Ironically, monetary policy today is not about inflation: it is about control of the worldwide capital flows. Countries are competing for worldwide capital by high interest rates.
However, strong capital inflows create a debt bubble over time, which triggers a deflationary credit crunch within a country, which eventually leads to low economic growth, low inflation and interest rates. Slowly a country becomes itself an exporter of capital rather than an importer.
We have seen this for Japan and Switzerland over the last decades and now there are strong signs that the US and Europe slip very fast into a deflationary credit crunch. Having been capital importer for decades, these huge economic countries will see low growth, record low inflation and interest rates over the next decade. The US and Europe are going through the same process as Japan and Switzerland before them.
Fortunately, this does not mean the end of the world for the world economy as low US and European inflation and interest will very likely lead to a gigantic capital flow into emerging countries like China, India, Russia and Brazil.
Needless to say, that this will trigger phenomenal worldwide growth leading to strong demand for commodities.
The strategy remains clear: Investments in emerging markets and commodities including gold and silver have to be favoured over the next decade. The current housing crisis in the US is just an incredible speed pump for this trend as the US and the European Central Banks are forced to keep their interest rates low.
I look forward to receiving your comments.
Heinrich Leopold
hgleopold@yahoo.com
21 August 2007
Certain statements included herein may constitute "forward-looking statements" with the meaning of certain securities legislative measures. Such forward-looking statements involve known and unknown risks, uncertainties and other factors that may cause the actual results, performance or achievements of the above mentioned companies, or industry results, to be materially different from any future results, performance or achievements expressed or implied by such forward-looking statements.
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