It’s always amusing to see news articles being published that should have been published many months, if not years, ago. Finally, I am beginning to see more articles and newsletter writers talk about the current currency war.
The power nations of the world are playing a reckless game with their currency in a race to devalue, while developing nations have no choice but to follow them into the death spiral.
The Race to Devalue
Venezuela, South America’s biggest oil producer, announced this week the devaluation of its currency for the fifth time in nine years. Finance Minister Jorge Giordani told the world that Hugo Chavez has ordered his government to weaken the exchange rate by a whopping 32 percent to 6.3 bolivars per dollar starting Feb. 13.
Last year, Chavez went on a spending spree that almost tripled the fiscal deficit, but helped him win a third six-year term. The recent devaluation was announced to help narrow the budget deficit by increasing the amount of bolivars the government receives from oil exports.
While our biggest nations have printed at astronomical rates, we have yet to see the full consequences of their actions. But as I mentioned in “The Assassination,” when the developing world is forced to participate, the effects of their actions are more immediately recognized.
Venezuela reached an annual inflation of 22 percent last month. With a further devaluation of 32 percent, how high will inflation go?
It’s no wonder that a few years ago, Chavez not only ordered the repatriation of 90 percent of Venezuela’s gold reserves held abroad, but also planned to nationalize the gold sector and use the production to boost the country’s international reserves:
“I have here the laws allowing the state to exploit gold and all related activities. That is to say, we’re going to nationalize the gold and we’re going to convert it, among other things, into international reserves because gold continues to increase in value” – Hugo Chavez
I talked about Venezuela’s gold hoarding back in 2011 in my letter, “The Hoarding Has Begun.” During that time, through subsequent letters, I wanted to make it clear the country was hoarding its gold to protect itself against the self-imposed devaluation of its own currency as a result of the currency war.
It’s a very simple concept: Hoard your gold to protect against the inflation you bring onto yourself.
Short Term Gains for Long Term Suffering
One look around the world and you will see that I was right.
Despite all of the doom and gloom in the last few years, world indexes climbed. Last year, the Athens market rose 32.5%, the Hang Seng added 22.6%, the Nikkei 225 climbed 22%, and the Shanghai market 4.5%. India added 25.7%, South Africa climbed 23%, Russia rose 10.5% and Germany’s DAX soared 29.5%.
Venezuela? An insane 300%.
This is all as a result of worldwide monetary injections by the central banks, turning the market into a system of speculation, not true economic growth.
Eventually the market climb will stop, only to be left with an inflation rate so high that citizens will pay the price. You will see more riots and protests along the streets of Caracas as citizens can no longer afford a loaf of bread as their savings implode.
I said Chavez repatriated Venezuela’s gold a few years ago because he knew they were going to devalue their currency at a rapid pace; that he was preparing the country for his round of massive devaluation. And it’s all unfolding now…
Germany, whose 2012 exports just hit an all-time high due to the devaluation of the Euro (as I mentioned would happen in my newsletter, The Assassination), just announced a few weeks ago they were repatriating most of their gold (see Prepare for a Crisis).
If one of the world’s biggest powers is hoarding their gold, what do you think they’re preparing for?
I’ll let you read between the lines for the answer. But take some cues from Venezuela.
Hoard your gold to protect against the inflation you bring onto yourself.
The Biggest Money Printer
China is not only one of the world’s biggest countries, exporters, and gold producers, it is also the world’s largest money printer. From China Times:
“In 2008, the country added 7.1 trillion Yuan (US$1.13 trillion) to the currency market, while the United States added 5.08 trillion Yuan (US$815 billion) and Europe 5.7 trillion Yuan (US$915 billion).
In 2009, China added 13.5 trillion yuan (US$2.1 trillion), while the US, Japan and the eurozone significantly scaled back their supplies. China has been steadily adding 12 trillion yuan (US$1.9 trillion) each year since 2009.
Following the global financial crisis of 2008, major economies in the world have been “printing money.” Examples include the quantitative easing measures adopted by the United States and the European Central Bank’s “unlimited” bond-buying program. Most recently, Japan launched its own version of quantitative easing on Jan. 22 by raising its inflation target and announcing open-ended purchases of government bonds. The amount of newly increased money supply peaked in 2012, totaling over 26 trillion yuan (US$4.1 trillion), with China accounting for nearly half of it.”
That’s right, China accounted for nearly half of the world’s new money supply last year.
It’s no wonder why China continues to be a major purchaser of gold. They know they’re printing and devaluing, so they protect themselves by buying gold.
Hoard your gold to protect against the inflation you bring onto yourself.
Japan the Catalyst
In my letter Prepare for a Crisis, I wrote that, “Japan’s new Prime Minister, Shinzo Abe, has once again set the stage for a potential global currency war, announcing plans to create money and buy bonds as the government looks to stimulate their weakening economy.”
Abe’s mandate is very clear: He needs to end deflation by reflating the Japanese economy. In order to do that he must follow through with the mandates set forth by the Bank of Japan by taking various “Measures Aimed at Overcoming Deflation,” and setting the stage for “powerful easing,” including what seems to be an explicit attempt to weaken the yen.
The recent spotlight in the currency war is now shining brightly on Japan.
It was just announced that the Japanese December current account deficit was not only nearly double the expected 144.2 billion yen, printing at some 264.1 billion yen, but was only the first back-to-back monthly current account deficit since 1985.
That means a massive devaluation of the Yen and more aggressive rounds of easing will need to take place in order to combat such deficits. But as they conduct their monetary program, shockwaves will be sent throughout the world.
While Japan’s currency has little direct impact on the world’s largest nations, the domino effects of its monetary programs have many different wave lengths. For example, even though moderate moves in the yen’s value will have little effects on China directly since it does not compete head-to-head with Japan’s high-end electronics and car exports, it causes an imbalance with other competing nations.
To weaken the yen, the Bank of Japan needs to buy foreign assets in massive quantities. Because of the size of purchases required, the likely purchases will be in US Dollar and Euro-denominated assets – much like what China has done with its surplus.
However, as Japan buys, they create a higher demand for both US dollars and euro currency. Higher demand generally leads to higher prices and neither the US nor Europe want to see an appreciation of their currencies. Both the US and Europe may choose print more to slow the appreciation of their respective currency, and in turn, shockwaves will be felt around the world.
Japan’s weakening of currency shows a much more immediate effect on small competing nations. The yen has weakened by nearly 20% recently against the Korean won, one of Japan’s primary competitors. This is a direct threat to Korean exports, which represent 50% of its economy.
Like Korea, Japan is a net exporter of goods and their economy relies heavily on exports. If their currency remains at high levels, exports will undoubtedly continue to decline as buyers move to cheaper countries for goods and services. The decline will leave Japan in a major state of deflation. But as Japan prints to rebalance, it will leave Korea in a position to do the same thing.
Despite Japan’s size in world position, their actions affect us all.
Japan’s debt-to-GDP ratio is now well above 200%. This represents a dangerous circumstance for the country because they are an economy that carries the world’s largest sovereign debt burden. They cannot afford to deflate because, as history has proven, debt and deflation cannot coexist.
That means they cannot afford higher interest rates.
I expect policymakers to eventually drive real interest rates into negative territory; if they do, it will be the first time in Japan’s post-bubble era. As a result, I believe the yen will continue to weaken through monetary injections and low interest rates.
Don’t be surprised to see Japanese equities rally.
The Return of Speculation?
Gold and silver’s run last year were not without its hurdles. Speculators and paper traders of both gold and silver surely remember the many margin hikes that the CME imposed which forced many traders and funds to liquidate throughout 2011. This forced the price of both gold and silver down on many occasions, and put fear into those speculating on the precious metals.
After effectively shutting down the major rise of gold and silver in the paper markets, the tables have finally turned. With US stocks back up and sucking up heavy retail volume, the CME has decided once again to cut margins in a whole range of products, including gold and silver, by as much as 10 and 14%.
Perhaps this will stir the pot for traders again and entice the speculators back into the market. This should force the price of precious metals higher as it becomes cheaper to speculate. If not, we’ll likely see more margin cuts in the near term until speculators come back with more money.
The best time to buy stocks is when nobody wants them, and the best time to sell stocks is when everybody wants to buy them. It’s a simple concept.
Nobody wanted stocks last year, but I said to buy because of the massive liquidity injections into the economy. Now that stocks have been performing, everyone wants them. Eventually, people will take their profits and the market will go lower.
Right now, it seems nobody wants gold stocks. Heck, it’s been more than a year and they’ve done practically nothing as a group.
The many reasons for the sector’s underperformance are spewing out everywhere: ETFs have taken over; production costs are rising; gold is falling; deflationary credit crunch leading to financing risks for projects.
The theories are partially true. However, with gold stocks relatively cheaper than gold itself, gold investors may soon want to turn back and rebalance the discrepancy between gold and gold stocks.
While timing is a key issue in today’s market, if gold holds at these levels or even climbs slightly higher above 1700, I would anticipate gold stocks moving much higher.
And if the recent margin cuts by the CME are enough to entice speculators back into the leveraged market, gold may very well go back above 1700 shortly.
We Just Don’t Get It
For 99.9% of the world’s population, nominal vs. real is a very difficult concept to grasp. That’s why governments around the world can print so much and get away with it.
The general population has often voted in power those who pour free money onto society. The printing helped Chavez get another term; it helped Obama get the same thing.
Fundamentally, it doesn’t make sense. But most things in life rarely do. I am sad to say that our North American education system doesn’t make an effort to teach the concepts of the financial markets. The general population has no idea what’s going on with the world’s finances and truly believe in the euphoria induced by the printing of world governments.
Perhaps the reason for the lack of education is so that governments can continue doing what they’re doing.
Hoard your gold to protect against the inflation we bring onto ourselves.
Until next week,
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