Three Potentially Disastrous Outcomes From Ben Bernanke's QE 2 Wager

The Fed’s Quantitative Easing 2 announcement of $600 billion in additional Treasury purchases is literally a “bet the farm” move. True, the Fed had already engaged in an unbelievable amount of bailouts both known and unknown. However, the Fed’s previous moves were all made when 1) the world financial system was teetering on the brink of collapse and 2) other countries were engaging in similar practices.

In contrast, the Fed’s new QE 2 announcement comes at a time when the consensus is that the US economy is recovering (I don’t buy it, but most analysts/ commentators do) and other central banks have publicly declared they won’t be engaging in additional easing (the ECB and UK) or are outright tightening credit and raising interest rates (China and Australia).

So this time, the Fed is going at it alone. Indeed, the only other major economy that is determined to engage in more intervention is Japan, which has thrown trillions of yen down the toilet for decades with nothing to show for it. And it’s not like Japan is pleased about the Fed’s move as it devalues the Dollar and cuts into Japanese export margins.

Consequently, even the country engaging in more QE is NOT a fan of Bernanke’s QE 2 plan. However, this is just ONE of the myriad of problems QE 2 faces. The three biggest problems with QE 2 are:

1. The potential for a US Dollar break-down 2. Treasuries falling and pushing interest rates UP 3. China retaliating.

Of these, #3 is the most worrisome for the global financial markets. Let’s be clear here, China is extremely adept at making investing/ financial decisions. And while we do need to take its decision to cut Treasury exposure seriously, I cannot believe China would actually telegraph that it was dumping Treasuries when the dumping really starts.

Moreover, China has shown that when it comes to real issues, it doesn’t mess around. Consider the September 7th news story in which a Chinese fishing boat crashed into two Japanese coast guard ships. Japan arrested the captain and his crew. China responded by cutting rare earth exports to Japan.

Rare earths are used in a multitude of electronics (hybrid cars, LCD screens, magnets, batteries, TVs, etc). China controls 93% of the world production of these elements. And Japan’s economy, which is focused on electronics manufacturing, is heavily dependent on these items for growth.

Consider this sequence of events. 1) A Chinese boat crashes into a Japanese coast guard ship. 2) Japan arrests the crew. 3) China CUTS its exports of critical resources that Japan NEEDS.

The message here is clear. China does NOT mess around and is more than happy to play hardball when it comes to issues it deems important. Moreover, when China holds a trump card, it’s not afraid to use it.

These are some of the trump cards China currently holds: 1) Rare earths production 2) US Treasuries ownership (a decision by the #1 holder to dump would start a global rush from the US Dollar) 3) Derivatives: China could simply tell its banks and firms to renege on all derivatives deals, not just the commodity ones (commodity derivatives only comprise 2% of global derivatives, interest rate-based derivatives, in contrast, comprise 80% or so of the $600 TRILLION derivative market. 4) Interest rates hikes.

In plain terms, China has ALL the trump cards when it comes to global monetary/ economic issues. For that reason, its decision to simply ban exports of rare earth elements to Japan during the fishing boat tussle should be seen as a MAJOR warning of how China will conduct its affairs as it continues its quest to become a global super power.

Which is why Bernanke’s decision to blame China for everything is NOT a good idea.

Our illustrious Fed Chairman recently told Congress that China is the BIG problem and that the Fed is blameless. Nevermind, that the speech was one of the biggest loads of self-serving nonsense in history, this is literally Bernanke loading insult on top of injury (he’s personally seen to it that China loses BIG $$$ on its US Dollar investments).

How China will respond to this remains to be seen. But if the Japan/ China fishing tussle is any guide, Bernanke’s going about EVERYTHING the wrong way here. No one knows how China will respond to this, but one thing is clear: the Global monetary showdown just got one BIG step closer to its end.

PS. If you’re worried about the future of the stock market and have yet to take steps to prepare for the Second Round of the Financial Crisis… I highly suggest you download my FREE Special Report specifying exactly how to prepare for what’s to come.

I call it The Financial Crisis “Round Two” Survival Kit. And its 17 pages contain a wealth of information about portfolio protection, which investments to own and how to take out Catastrophe Insurance on the stock market (this “insurance” paid out triple digit gains in the Autumn of 2008).

Again, this is all 100% FREE. To pick up your copy today, got to http://www.gainspainscapital.com and click on FREE REPORTS.

Raw materials are exploding in price. I just corresponded with a buyer from a major US department store who just got back from a buying trip to China and India. Yarn shortage are resulting in quoted prices rising daily for fabrics and finished garments. We will see apparel pricing increasing at double digit rates in the spring of 2011. Since our policy in the 1990’s was to outsource the textile and apparel industry, there isn’t much ability to shift this production back to the US in the short term.

Food, clothing, shelter and energy. The essential human needs for life in an advanced economy in the 21st century. Commodity prices that ultimately show up in the grocery store (hogs, beef, grain) have been running at double digit increases for months. Clothing I spoke to above — clothing prices are poised to rise rapidly in the spring. Shelter is the good news story from the consumer’s perspective as home prices continue to plummet. Energy prices are also beginning to accelerate as the dollar continues to drop due.

High inflation (except housing) is inevitable in 2011.

Then I heard what sounded like a voice among the four living creatures, saying, “A quart of wheat for a day’s wages, and three quarts of barley for a day’s wages, and do not damage the oil and the wine!” Revelation 6:6

Disclaimer: Opinions posted on Free Republic are those of the individual posters and do not necessarily represent the opinion of Free Republic or its management. All materials posted herein are protected by copyright law and the exemption for fair use of copyrighted works.