"Currency crisis is gathering storm"

Ed Harrison sent us a link to his latest post, and it’s a doozy.

Most of us in the US who are financially-minded have been sufficiently caught up with the three ring circus of market turmoil, seemingly-a-new-trick-every-day Fed and Treasury interventions, and continuing financial firm implosions that we haven’t looked up much to see what is happening in the wider world. Yes, the Baltic Dry Index is tanking, a bunch of Eurobanks nearly failed, but hey, that was two weeks ago, old news, Iceland collapsed, Argentina is on the ropes again (but that seems to happen every five years), South Korea is wobbly, and plunging commodity prices are giving exporting countries big shocks. But in the generally-provincial US, that amounts to background noise.

Your humble blogger has taken note of further worrisome developments, such as the dramatic fall in the Australian and New Zealand dollars (7% on Friday, ouch, on top of steep falls before that), the pound and the euro without being sure what to make of that. It appears to go beyond flight to quality; some of its is high demand for dollars to unwind dollar-related trades, and the Friday action in particular, with big moves in the dollar and an even bigger rise in the yen, versus huge bid-asked spreads in some other currencies, seemed to be a flight to liquidity. And then we have other countries looking shaky: the Baltics, Russia, a lot of Eastern Europe. and Latin America.

Harrison has focused on this constellation, and what he sees is not pretty:

In the last few weeks, the currency market is where the action has been….all of this is a prelude to some sort of currency crisis….

But, it is in commodity and emerging market currencies where the trouble is brewing. First, we saw a nightmarish plunge of the Australian and Kiwi Dollar as commodities plummeted. This all out assault on commodity and emerging market currencies then widened to include the Icelandic Krona, the South African Rand, the Polish Zloty, the South Korean Won, the Hungarian Forint, and the Mexican Peso amongst others.

This speaks to hot money fleeing emerging markets wholesale…. today, I caught two interesting perspectives on this debacle that made me blanch. One was the cover story in the Economist.

A few months ago, many emerging economies hoped they could take mass casual leave from the credit crisis…

This detachment has proved illusory…. The IMF, which has shed staff this year because of the lack of custom, is now working overtime (see article). The governments of South Korea and Russia have shored up their banking systems. Their foreign-exchange reserves, $240 billion and $542 billion respectively, no longer look excessive. Even China’s economy is slowing more sharply than expected, growing by 9% in the year to the third quarter, its slowest rate in five years.

The emerging markets, which as the table shows enter the crisis from very different positions, are vulnerable to the financial crisis in at least three ways. Their exports of goods and services will suffer as the world economy slows. Their net imports of capital will also falter, forcing countries that live beyond their means to cut spending. And even some countries that live roughly within their means have gross liabilities to the rest of the world that are difficult to roll over. In this third group, the banks are short of dollars even if the country as a whole is not.

Yves here. The whole article is very much worth reading. Back to Harrison:

But, the analysis penned by Ambrose Evans-Pritchard is what really caught my eye. He makes the case for us to worry about a full-scale currency crisis worse than the 1931 currency crisis of the Great Depression. The link: Bank credit. You can think of Sweden in the Baltics, Austria in Central Europe, Spain in Latin America — and you begin to picture the interconnectedness that will imperil Europe’s banking system much more than either Japan’s or America’s:

The financial crisis spreading like wildfire across the former Soviet bloc threatens to set off a second and more dangerous banking crisis in Western Europe, tipping the whole Continent into a fully-fledged economic slump…

Experts fear the mayhem may soon trigger a chain reaction within the eurozone itself. The risk is a surge in capital flight from Austria – the country, as it happens, that set off the global banking collapse of May 1931 when Credit-Anstalt went down – and from a string of Club Med countries that rely on foreign funding to cover huge current account deficits.

The latest data from the Bank for International Settlements shows that Western European banks hold almost all the exposure to the emerging market bubble, now busting with spectacular effect.

They account for three-quarters of the total $4.7 trillion £2.96 trillion) in cross-border bank loans to Eastern Europe, Latin America and emerging Asia extended during the global credit boom – a sum that vastly exceeds the scale of both the US sub-prime and Alt-A debacles.

Europe has already had its first foretaste of what this may mean. Iceland’s demise has left them nursing likely losses of $74bn (£47bn). The Germans have lost $22bn.

Stephen Jen, currency chief at Morgan Stanley, says the emerging market crash is a vastly underestimated risk. It threatens to become “the second epicentre of the global financial crisis”, this time unfolding in Europe rather than America.

Austria’s bank exposure to emerging markets is equal to 85pc of GDP – with a heavy concentration in Hungary, Ukraine, and Serbia – all now queuing up (with Belarus) for rescue packages from the International Monetary Fund.

Exposure is 50pc of GDP for Switzerland, 25pc for Sweden, 24pc for the UK, and 23pc for Spain. The US figure is just 4pc. America is the staid old lady in this drama.

Amazingly, Spanish banks alone have lent $316bn to Latin America, almost twice the lending by all US banks combined ($172bn) to what was once the US backyard. Hence the growing doubts about the health of Spain’s financial system – already under stress from its own property crash – as Argentina spirals towards another default, and Brazil’s currency, bonds and stocks all go into freefall.

Broadly speaking, the US and Japan sat out the emerging market credit boom. The lending spree has been a European play – often using dollar balance sheets, adding another ugly twist as global “deleveraging” causes the dollar to rocket. Nowhere has this been more extreme than in the ex-Soviet bloc.

The region has borrowed $1.6 trillion in dollars, euros, and Swiss francs. A few dare-devil homeowners in Hungary and Latvia took out mortgages in Japanese yen. They have just suffered a 40pc rise in their debt since July. Nobody warned them what happens when the Japanese carry trade goes into brutal reverse, as it does when the cycle turns.

When the markets open on Monday, I expect the crisis in Emerging markets to take top priority. Iceland was the first victim of this crisis. The dreadful events there should be a warning to policy makers to address this now or else we could see some awful writedowns at European institutions in the very near future — not to mention the potential economic destruction this turmoil could cause.

Yves again. Now the meltdown may resume Monday, but another scenario may play out. Recall 40 nations (EU and Asian) met in Beijing over the weekend, endorsing Nicolas Sarkozy’s call for a revamping of international banking regulations and more coordinated, tougher supervision. None of this directly addresses the looming currency crisis, but the markets sold off badly Friday, and if there is any stabilization or reversion on Monday, the backing away from the abyss plus the hope that the next phase of meetings, scheduled for November 15 in Washington DC, might ameliorate the situation, may put the currency crisis in abeyance for a couple of weeks.

And Brad Setser suggests another possible way out of this mess:

And while we are on the topic of “stabilizing speculation,” China could also shift some of its portfolios from dollars to euros and pounds and Brazilian real and Australian dollars and Russian rubles. This is the time to diversify – not when the dollar is under pressure! Dollar strength amid US weakness strikes me as a growing problem.

*Rescue is the wrong word. Countries typically invests abroad to achieve their own policy goals — whether financial returns or strengthening their own ambitions to be a global financial center — not to “rescue” another country’s banks and help another country stabilize its markets. True rescues – investments with a high probability of a loss done to assure domestic financial stability – are generally done the government of the country that regulates the troubled financial institution. No country wants to “rescue” another countries’ banking system if that means losing money.

**The argument that China needs liquidity and only Treasuries are liquid doesn’t really work – China’s Treasury holdings are already so large that they are effectively illiquid, especially in the current market environment.

In this fraught environment, for China visibly (and the key is visibly) to start buying other currencies would have a disproportionate effect on psychology (and be rewarding to China, since it would profit from the rally it helped engineer). That might stem the panicked capital flight, and while it is probably insufficient to restore real stability, it could keep a necessary (and painful) revauluation/readjustment process from morphing into a rout.

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  1. Max

    Reaction of the developing nations currencies to the current crisis is a clear and honest market reaction, and sets them up for a faster adjustment and recovery. It is the opacity of the dollar risks that is the real problem.

  2. Yves Smith


    I wouldn’t be quite so cheery. If memory serves me correctly, the peak to trough fall in GDP in Indonesia in the Asian crisis was 18%. Plus they had widespread rioting with significant fatalities and a regime change.

    Then, the rest of the world ex Russia was in pretty good shape. This time, we have more emerging economies on the ropes, a first world financial crisis well in progress, and a global recession, probably nasty, starting. A “speedy adjustment” this time is likely to make the Asian crisis look like a walk in the park.

  3. reddweb

    what happens to dollar long term if china diversifies. Is this the peak of dollar..hmmm…forever ? New reserve currency ? may be a basket of currencies called “reserve dollar” can be used as global reserve currency.

  4. Max


    I am not cheery, but I want to bring to your attention the real elephant in the room.

    Also, their currencies were kept undervalued based on the purchasing parity, so the declines in their currencies still leaves them with the needed leeway in the international trade. The US does not have that luxury, as the strong USD only exacerbates its problems.

  5. Charles Butler

    The problem with E-P’s analysis on Spanish banks (fortunately now only ‘under stress’ from the property crash – an upgrade, by any measure) is that he is talking about lending by Spanish-owned or controlled Latin American banks. This is domestic lending within those countries and not Spanish lending to foreign countries. The 300 billion dollar figure most certainly includes an fx conversion of loans outstanding in domestic currency. Typical attention span deficit stuff.

    None of this is to say that Spanish banks do not face certain risks in Latin America. Profitablity would be one, but the effects on the parent company are not measured by the USD rate. The final earnings are booked in euros. That is the rate that matters. The threat of nationalization is another, explaining why Repsol tanked so badly following the Argentine pension fund news.

    We can only assume that the quality of analysis is about the same for the other countries.

  6. bena gyerek

    just posted this on the china thread, but seems appropriate here as well..

    i think people who view the recent dollar rally as a “flight to quality” and therefore confirmation of the dollar’s role as reserve currency are making a big mistake.

    i agree with the view that the dollar’s current rise is very technical in nature. it is not just because of margin calls in predominately dollar-denominated derivative contracts. it is also because it is impossible to short the dollar during the current liquidity crisis, and indeed most existing short dollar positions are being forcibly unwound.

    this technical squeeze explanation is consistent with the relatively mediocre performance of gold, and the outperformance of the yen.

    once the crisis is over (but the global recession just beginning) and speculation against the dollar can resume, i think it is inevitable that the dollar will plummet because the us economy will be worst hit by collapsing domestic demand due to its severe household indebtedness.

    now, if i put myself in china’s shoes, my question is not simply “why should the dollar be the reserve currency?”, but rather “why do we need a single reserve currency at all?” any currency that is highly liquid, and that is backed by a central bank with a credible inflation record and a government with a aaa rating can act as a reserve currency.

    the prevailing view in asia and europe seems to be that we are moving from a world of a single hegemon to a multi-polar world. it is logical for reserves to do the same.

    so if i were china, i would use the current technical dollar rally as an excellent opportunity to sell some of my dollars (but by no means all of them), to buy euros, sterling, swiss francs, and indeed any other currency that is currently stupidly undervalued, that will help diversify my reserves portfolio, and with whom i do a lot of trade (korean won, brazilian real, etc).

    i do also note the important point that prices are set at the margin. for china and others to move the bulk of their existing reserves out of dollars would presumably move the dollar too much against them. instead the focus may be to start building new reserves in other currencies. all the same, any such move to diversify reserves away from the dollar would significantly weaken the dollar going forwards. it would also be very welcome from most other governments as it would help reverse the irrational dislocation caused by the current liquidity crisis.

    i also note the important point that this is not just a chinese issue. taiwan and others may seize the current opportunity to rebalance their reserves, and in doing so they may force the hand of china.

  7. Max

    bena gyerek,

    I wouldn’t count on an end in the US deleveraging crisis any time soon, though. We are barely half through the mortgage crisis, just so you know.

  8. Anonymous


    I also would point to the fact that the drop in oil hasn’t benefited anyone but the US. Oil is in dollars.

    China seems to be in a much stronger position than anyone is giving them credit for. What they do with this position is going to be scary.

    The claim that this problem is euroland based is becoming stronger. The whole system was “stuck” on friday when the futures were limit down before the market opening. Look at the charts, Europe couldn’t even fall any further without getting money out of the US.

  9. Anonymous

    BG, I agree that much of the current dollar strength is technical in nature and less a flight to safety.

    Watch how quickly spot gold responds to the slightest move in dollar valuation. Recently, it is as though gold has been hard pegged to the dollar. Meanwhile, movements of other commodities have not displayed such tight coupling in their movements. If most of the dollar strength was caused from deleveraging I would expect the value of gold to fall in a more random manner, in relation to dollar movements, as both equities and gold are sold off by those deleveraging.

    Of course, my observations are ancedotal. Opacity doesn’t exist and if the statistics were made available I am not sure I would believe them.

  10. Anonymous


    When Hypo Bank went under, it was due to the lendig of a not-long-ago acquired Irish operation. Did the rescue of this miscreant fall to Ireland? No, it fell to the central bank of the country in which the bank was domiciled.

    Similarly, AIG is a global enterprise, with its roots in China and very large operations there and in Japan. Yet who had to rescue AIG? Again, the country in which the parent company is domiciled.

    Evans-Pritchard did not specifically say that banks were funding in Euros to lend to foreign countries, Note his construct here, “The financial crisis spreading like wildfire across the former Soviet bloc threatens to set off a second and more dangerous banking crisis in Western Europe,” “Western European banks hold almost all the exposure to the emerging market bubble” and on Austria “Austria’s bank exposure to emerging markets is equal to 85pc of GDP.” The capital flight will take down foreign units that a la Hypo can imperil the parent. Remember, European banks are highly geared to begin with.

    Per John Hempton, the prototypical balance sheet of a bank in a current account deficit country is that its banks have only 70% of liability side of their ledger in deposits, max. The rest comes from market funding. As we have seen with European banks, a lot of their funding was in dollars. The same is sure to be the case with emerging economy banks. Plunging FX rates mean a huge increase in funding costs, which shortly means insolvent banks.

    And for countries not with big current account deficits, but a capital flight nevertheless, you get to the same answer by a different route. Capital flight leads to a big rise in interest rates. Banks lend long and borrow short. Suddenly the are hemorrhaging cash, and perhaps unable to roll debts. The parent can either step in to try to effect a rescue, or let it go under. If the latter, the loss of the equity in the sub is a direct hit to parent equity, which given how stressed EU banks are, probably would put them under statutory minimums. I do not see what is wrong with Evan-Pritchard’s conclusions here.

    He said the banks were exposed, which is an accurate statement. You made accused him of making an assumption as to HOW they are exposed which is in fact found nowhere in the article.

    I’d say you had better to learn to read more carefully before you accuse others of sloppy analysis. Looks like a classic case of projection to me.

  11. Anonymous

    Anonymous 6:00,

    Charles is completely right. Spanish banks have not jumped at the last EM bubble, they have been invested big in Latin America for two decades now (I wonder how this may be amazing for E-P), and have survived their share of EM crises.

    On leverage, please take into account that Spanish banks are not leveraged at all, as they are not investment banks (à la Deutsche Bank or Barclay’s) but retail financers.


  12. Jojo

    Good article on emerging market troubles here:

    Financial Crisis Watch
    October 23, 2008

    Emerging Markets: Foreign Currency Debt Troubles
    Foreign-denominated debt is squeezing countries from Romania to South Korea as their local currencies falter

    By Carol Matlack and Mark Scott

    When Daniel Ion bought his first home last year, his monthly mortgage payment was $704. Now it’s $939–and rising. “We wanted so much to have our own house, but now we are really starting to feel the burden,” says Ion. Soon, he frets, his salary as a manager at a toy factory may not be sufficient to cover the payments.

    Another subprime hard-luck story? Not exactly. Ion lives in Bucharest, and his plight illustrates one reason emerging markets such as Romania are in trouble. Like U.S. subprime borrowers, Ion was lured by a mortgage with easy up-front terms. But a bigger problem is that his loan is in euros while his salary is in lei, the Romanian currency, which is off by 12% against the euro in the past year. Foreign-currency loans are popular in developing countries because they offer lower interest rates than those in local currencies. In Romania, for instance, foreign currency loans run as low as 8%, vs. 10% or more for loans in lei.

    All told, borrowers in emerging markets owe some $4.7 trillion in foreign-denominated debt, up 38% over the past two years. Many developing countries still look strong on paper, with big foreign reserves and healthy trade surpluses. But the statistics can mask heavy dependence on offshore loans to keep economies buoyant. “It’s amazing that people don’t pay attention,” says Mark Mobius, head of Templeton Emerging Markets Fund (EMF). Borrowers have been taking out “mortgages in yen and Swiss francs because they thought the money was so cheap.”

    Governments and international lending agencies are scrambling to rescue the hardest-hit countries. The hundreds of billions of dollars the U.S. and Europe are pumping into frozen credit markets also will help. But for some countries, it’s already too late to avoid a painful hangover, says Morgan Stanley’s (MS) Ronny Rehn in London. “There will be extreme repercussions,” he says.

    Who could suffer, and how? …

    Full article


  13. Anonymous

    max @4:20,

    “a clear and honest market reaction”

    Allow me to point out that is not necessarily the view outside the US.

    I am yet to see a convincing explanation of how the $US can be strengthening against every significant currency except the yen based on fundamentals.

    What fundamentals?

    The US is running both a large budget and a large trade deficit, and I think one of the unexpected shocks of the next few years is how the US Current Account Deficit will continue to rise even if the trade deficit falls.

  14. baychev

    you are spot on, but indeed deleveraging will last through january anf february maybe as hedgies hit more redemptions at year end.

    for the people involved in the currecny markets friday’s yen moves seem excebrated by horrible liquidity: the yen was gapping like it was rolling down the grand canyon.

    on my thomson/reuters news feed there was an article towards the end of the day from bank traders that volumes that would be sucked in 5-10pips were pushing the rate by a whole yen. and canadian currency brokers were complaining on newswires for a whole week of terrible liquidity so do not read too much into those moves, the unwinding is not that spectacular yet although the currency movements are.

    i would not be surprised if china starts selling all its usd cash stock just to diversify.
    but we have another currency already on the market: treasuries. hardly exchangable for cash, yet in abundant supply :)
    a multi currency/multi polar system seems the way to go. if the world should learn anything from this crisis is that one country via its currency should not create systemic risk for global trade and growth.

  15. wintermute

    I fully agree that the sharp rise in the US dollar is mostly technical. The unwinding of the carry trade and deleveraging of US dollar denominated assets. While this looks temporarily like a vindication of US macro-economic status viz-a-vis Europe, Asia and Emerging markets – it is a situation as unsustainable as the original credit bubble now deflating.

    The reason is that the US cannot afford a strong dollar. Its export economy has long been a poor-cousin of the Financial/Insurance/Real-Estate economy. Huge annual deficits set to grow larger will become unfundable through foreign sources – who are finding dollars hard to come by, let alone spare some for US$ investments, Treasuries.

    Average US wages will need to halve to re-ignite the US export economy if the dollar remains strong. This will crush house prices further and all the other secondary consumer debt (HELOC, auto loans, credit cards) – depressing the economy further.

    As far as currencies are concerned – this is a race to the bottom.

  16. Anonymous

    This is the main course.

    Everything so far has just been the entrees.

    When exchange controls start being introduced world wide (as they inevitably will) and currency unions start to break up then we will be in a new world.

    The globalist dream killed by greed.

  17. patrick neid

    For some the collapse in crude oil, housing, commodities and related markets has come as a bit of a surprise. To folks who “track” bubbles it was never if but when. There’s a certitude that certain rates of change to the upside or downside will result in a collapse. In fact the old rule of thumb is the market will come down in 1/3 the time it took to go up. The key ingredients in a bubble are a believable fundamental story that reinforces itself over time, confirmed by price, and a universal consensus or acceptability of the ongoing situation–a resignation, if you would, to this new reality. Crude at $200, peak oil etc.

    The reason I point this out is because the two absolute biggest bubbles that has been ongoing for these last eight years have been the Yen carry trade and the decline and ultimate death of the Dollar.


    Both these markets more than match the previous definitions of a bubble. That said the collapse of the Euro and assorted other currencies have a ways to go. One of the benchmarks in bubble analysis is that the market almost always returned to its original starting point. In this case that is 120 on the dollar and less than 100 on the Euro.

    I will leave it to others to dissemble the fundamentals of individual countries balance sheets but I will say this as regards the macro pic–when you put it all on that balance sheet the US is by far the most stable of the bunch, especially in difficult times.

  18. baychev

    patric neid,
    why do you think there is more value in the USD than the EUR?
    fundamentals point to the opposite:
    – GDP growth relative to budget deficits is unfavorable;
    – credit growth in USA has been 2x the rate in the EU over the past 5 years and almost at par before;
    – the real economy composition is again unfavorable: most of the US real economy is military, the rest money flipping services;
    – outside funding for the US to balance its economy will be close to impossible;

    fiat money after all is meant to rob people and maintain feudalism in a more concealed fashion. why do you think this will change? do you predict another communist revolution? the outcome of the previous is still ringing in the heads of people.

  19. bg

    It is a suckers play for China to move to Euro’s now. China may have assets, but they also have significant liabilities (poverty, environmental) to fund. They cannot and will not speculate with their SWF. Just catch the bitterness of their leadership over modest losses to date.

    The EU has been the predictable next casualty in the tragedy for a while, and Yves has simply added a lot of color as to why.

    I have periodically responded to Yves ‘bye-bye dollar’ with ‘compared to what?’ responses.

    (In fairness her reply was that bye-bye dollar was a longer timeframe than the rumblings of the crisis. I wonder if she still feels that way.)

  20. Charles Butler

    Anon 6:00,

    E-P specifically states that’Spanish banks alone have lent $316bn to Latin America’. That would be better stated as, ‘Banks partially or wholly owned by Spansh institutions, many of which are in Latin America, have 316 bn of loan exposure to LA’. The statements are not identical, this despite .

    The fact that Evans-Pritchard did not make reference as to how they are exposed is evidence in itself of sloppy analysis, as you have been so kind to point out. You are the one making assumptions concerning the writer here.

    Since you felt it necessary to include that last sentence…

    It looks, on your part, like a classic case of deeming adequate any evidence that confirms a previously arrived at conclusion. Were it not the case, E-P wouldn’t need your substantial fleshing out of what you, rightly or wrongly, assume to be his argument.

    Can we pass on this nonsense from now on?

  21. Richard Kline

    So bena gyerek, I commented in reply to your remarks in the prior thread, but as you say it seems appropriate to port this discussion here. To wit:

    >>That is a very shrewd point on the technical issues in the present rise in the dollar. I don't particularly do currencies, so I appreciate the insight. I've been sure that 'flight to quality' is a tertiary issue, while margin calls and other unwinds are a primary issue, but technical points, especially the impossibility of shorting in a turbulent environment, fill in what had seemed a missing part of the puzzle.

    I broadly agree with all your observations here, but there are further considerations. The present push on currencies, to the extent to which any situation this radical and fluid can be 'mocked up,' seems to be as you say a move to a currency basket. Consider the old currency schema in Europe of the 80s. The real problem with that is that multi-polar arrangements are just not stable. It's a long argument as to why, but I don't see them as being successful, nor do historical examples on this, whether economic or political, support multi-polarity over well. Part of that is simply the simplicity of a primary currency: It's value is easier to track over time, and fewer hedges need to be laid in to keep ones own position within a range. Multi-polarity requies _constant_ intervention by multiple parties to hold their targets; such attempts are expensive, wearisome, and create their own secondary ripples. Etc., etc., but eventually a Favored Coin is found.

    —But this needn't necessarily be a _sovereign_ currency. One solution attempted with modest success in pre-modern Europe was the currency of account, an artificial conversion rating based on the price of a range of holdings. In some respects, this is what the posited 'Asian euro' looked like it might be. Something like this will _not_ be Plan A attempted by an international currency reweighting; it will probably not be Plan B. But after struggles with a short-term multi-polar approach are experienced, I wonder whether it will be the eventual Plan C tried. Sovereign currencies are typically exploited for issuer advantages, which in turn make imbalances. How the globe would manage a currency of account is harder to say. If we don't get this, it will be the euro once oversight on the euro is tightened up. And I'm with S above, currency valuations and currency regimes tend to change all at once _within a background with long term directionality_. Re: the dollar, we know how this is going to end.<<

    So Baychev, I'm with you on all those macro issues of EU vs. US, and many others as well. Most of the sentiment I see here (and elsewhere) on why Bucky will stay king are "Compared to what?" exactly as another commenter stated above. That really, really misses the point of how currencies change their status and currency regiemes make major shifts. These aren't _planned_ changes, and the winner of new reserve status has often been surprised and rather aghast at having bigness thrust upon them. Look at the _logistics_ in the real economic background. For instance, the idea that China 'needs to keep its reserves onshore to pay for poverty, environment, etc.' is nonsense. Like they are doing that now with the cash, right? Like they need that cast to do domestic stimulus, right (absolutely not, the reverse is true)? Saying that the dollar will stay the peg just because is looking in the rearview mirror. Many, many countries want the dollar OUT as the peg; we see that _actively_ now in the Beijing Conference, but look around.

    Re: Evans-Pritchard, lawdy, I find it hard to unravel the man's thread. Here, as he repeatedly does, his prose seems to transmute putative (I stress that word) exposures into probable losses. To be sure, banks with big exposures to emerging markets are going to take stiff losses in a global downturn, but banks with big exposures _period_ are going to take big losses. The immediate problem is dollar liquidity, and to a lesser extent euro liquidity, in emerging markets. With huge currency swings, they are seeing appalling quotes, and rollovers are entering unimaginable ratios. —These are liquidity induced phenomena, and that is exactl why we have conferences on the hurry up about a restabilization of currency alignments. At least some governments are trying to get out in front.

    I think China is far too cautious tactically to buy battered currencies wholesale. In this environment, that is highly sane. However, it would make a deal of sense and firm up a bunch of friends for China to offer dollar funded _swap lines_ to critical partners 'as anodyne to emergency conditions,' such as Korea, Brazil, and Argentina; Russia is a more difficult case. Just the availability of such backing might take pressure off the currency in such areas if the amounts are serious. I don't see China buying the Swiss or Austrian currency on the open market though; that is foreign to how they operate, to me, and China works to bolster friends not strangers. All this is new and strange for China's financial authorities, and I don't doubt that they are worried about being hung out to dry if the the EU and the US suddenly cut a separate deal; that has to be born in mind. China wisely doesn't act unilateraly.

  22. Richard Kline

    Oh and as Baychev noted in another thread, most of China’s holdings are in Treasuries and Agencies, not in cash. So the volume in which China can interven in the currency markets is far more limited than their overall asset base, which asset base as another commenter [sorry, lost track of who] mentioned is so large as to be in itself illiquid. Still, China has the oomph to take on a few cases such as Korea and Brazil. The Chinese made a nickel bet to that effect, in effect, in the Latin American inter-bank area last week as Yves pointed up a few posts back; this shows how they are leaning. China is very cautious, but very, very current on all these issues.

  23. Bendal

    To the vast majority of US citizens, this financial disaster is theoretical. They haven’t seen it hit home or nearby in large examples yet. They still have a job, their home, and they can afford to make purchases (although things are getting more expensive). Unless you’re about to cash in your 401K plan, watching it lose money is just depressing, so they don’t.

    Our local news, however, is reporting on businesses closing, layoffs, delays in public spending programs, etc, and they don’t make the connections between these local events and the bigger ones taking place.

    I think most people are just crossing their fingers and hoping the Bad News doesn’t come to call at THEIR home.

  24. RK

    Until the last week or so, the flavor of the week topic
    has been the unknown risks of the credit default swap
    market, with a notional value of $55 trillion, down
    from $62 trillion at mid year. But we learned a long time ago that, in the universe of the swaps market, the
    vast majority of contracts (about 90 %) were not CDS, but interest rate and CURRENCY swaps. These were
    hedges on, and bets on fluctuations between sovereign nations relative interest rates and currency
    values. The notional value is about $500 trillion. So,
    my question to you all is, if CDS was a big problem, and the size of this market is 10x larger, and if
    huge currency swings are currently in progress,
    are failures in this swaps arena a bigger danger than CDS?

  25. DD

    The Euro/Dollar exchange rate is as close to a random number generator as you’ll find. People who make predictions of Euro/Dollar movements are deluding themselves. You can’t do it, so please…stop.

    The Euro/Dollar has defied the conventional wisdom for years now.

    Could the Euro appreciate as China diversifies out of dollars? Sure it could. But then, the lack of liquidity currently inherent in the currency markets wouldn’t allow for much of a diversification.

    Of course, there’s always the “surest path to a stronger Euro is from a weaker Euro”. [And vice-versa]

    The only problem with this is “strong” and “weak” are too relative to be of much use.

    If you want to know where the Euro/Dollar will be a year from now (or 12 hours from now), you’d be better off just flipping a coin. At least this way, you’ll avoid the trappings of over-confidence.

    Reading some of these posts reminds me of the contradictions you get when you put too much stock in little homespun wisdom:

    “Outta sight, outta mind”.
    “Absence makes the heart grow fonder”.

    For every definitive stance on the direction of this currency pair (among others), comes an opposing response that’s just as “valid”…which, of course, renders both completely invalid.

  26. Stevie b.

    “so if i were china, i would use the current technical dollar rally as an excellent opportunity to sell some of my dollars (but by no means all of them), to buy euros, sterling, swiss francs, and indeed any other currency that is currently stupidly undervalued,”

    Just like mortgages, fiat currencies are a race to the bottom. There may be temporary advantage in one vs. another, but it’s all like biting your nails with your gloves on. If you’re going to diversify, do it right and buy gold and devise a new system based on it that’ll restore some confidence for now until we find a long-term better way of doing things.

    I’ve followed this blog avidly for months and it’s as if mentioning gold is somehow beneath the dignity of contributors. In the global situation we’re in, I don’t understand why.

  27. patrick neid


    There are dozens of benchmarks that go into secular currency analysis and individual nation balance sheets.

    I am not going to attempt point/counterpoint as regards the European Union and by proxy the Euro.

    Two things are worth mentioning, one, my bubble analysis, aside from comments here that some remarks are bullish on the Dollar. The fact remains the overwhelming view is bearish on the Dollar and has been six or more years with the fringe expecting the complete collapse.

    Secondly, when viewing Europe as a whole they are at best a disparate group of Socialistic cultures with no real relationship to each other, ranging from near third world to first world and more importantly they have a demographic time bomb of an aging population with its attendant unfunded pension and health care costs. Making matters worse still is a legal and illegal immigration problem from predominately Islamic countries. A separate migrant community that has no intentions of assimilating with each host country.

    For myself however these are fundamental details that in the end I ignore. As with my prior discussions on several sites with “peak oilers” I trust the charts. The Euro was a bubble. The only question was how high before the splat. It is returning from whence it came if my analysis is right–under 100. At that point, if you then want to say that the Dollar will roll over and play dead, that is a different discussion.

  28. baychev

    patrick neid,
    i totally agree that the demographic problem of Europe is going to cause significant scalebacks of social benefits which to me seem quite exccessive at present.
    it might sound sort of conspiracy theory but i maintain the position that the EU is expanding eastwards to suck up the youth and guarantee the pensions of the ageing population in the west. the committments to the east are much smaller and can be met at the same time without a problem.

    there is clear disdain towards muslims and it is clearly displayed by french and german politicians. but that is how europe has always been and people around dont like change.

    but back to my point: it is much easier to cut spending on social programs in a society with net savers of around 12% of gross income, than to abolish social programs in a society with huge indebtness. americans already work much more than europeans but their money seems to go only to fund pointless wars.

    and when we get to the real economy, you have another big imbalance: the EU produces goods or said otherwise creates capital that can be employed in non militant ways. on the other side, the US real economy has always been military oriented since WWII.

    it is really delusional to believe that any military can force its will on the rest of the world given the blatant failures of the present ‘bushman’ administration.

    and look at the Bali environmental conference: the whole world sent the ‘bushmen’ a clear message: we are committed to making this world a better place, regardless if you want to partake or not. i think this Nov 15 the ‘bushmen’ will hear the same message regarding the present financial crisis.

  29. baychev

    when i worked for a US bank, there we had overnight interest rate sensitivity limits. that means that a bank can take only as much a hit as its risk tolerance was. for example $100k hit on a 1bps change in the ECB rate, $80k in yen, $5k in ZAR, etc. those are well hedged/set off and do not pose big sytemic risk becuase always you can do multi party set off if your counterparty goes belly up.

  30. RK

    Forgive my ignorance on this topic, but it strikes me
    that, just as the volume of CDS did NOT correlate to
    the total outstanding volume of corporate debt (contracts entered into by non debt holders) the same
    could be said of the currency and interest rate swaps
    market. (more “hedging” than needed to protect against real world exposures) As I wrote 9 months ago
    here, when you take out insurance on your mortgaged
    house, it is both understandable and required. When you discover 50 of your neighbors have insurance policies on YOUR house, you have to wonder.

  31. Independent Accountant

    I haven’t speculated on what today’s Credit Anstalt will be for decades. Why? There ain’t gonna be none. All world currencies will fail. Welcome to the worldwide hyperinflation.

    Bena Gyrek:
    I’m with you. If the Chinese are smart, they will buy mining and oil producing companies and GOLD. What do they need Euros for? Euros are just more pieces of paper.

  32. Anonymous

    My vote for the NEW WORLD CURRENCY

    Each NWC unit will be backed by the following

    1. 1000 British thermal units
    2. 2000 calories of FEC (food energy content)
    3. 1 unit of the LAVORO (a one hour unit of work by
    a human with an IQ of 100)

  33. baychev

    a few economists at the mises institute push the idea that banks should be allowed to issue their own money and compete inbetween. thus they have vested interest to ensure the soundness of the money they circulate. this is very good in theory as long as we do not get to the current situation where money issuance is centralized. centralization creates immediately moral hazard and agent/principal risks.
    and if we go a step furhter and have a universal currency for the whole world, then everyone can be manipulated for much longer time.
    fiat currency systems fail when they have lose their backing. this always happens due to unsustainable fiscal and/or monetary policies. to expect that the whole world will be fiscally responsible is just utopia. for that reason, we do not have to shy devaluation and readjustments from time to time, it is simply normal to happen when stupid people occupy the power ranks for too long and the masses ignore the damage being inflicted on them.

  34. Matt Dubuque

    Nice analysis Yves. You spent a lot of quality time on it and it shows.

    The crisis in the emerging economies and the various links those economies have with banks in the global North are multifold. This is what I have been deeply immersed in lately and accounts for my recent statement that the problems with the “sovereigns” (and all that this word entails) had caused me to be extraordinarily bearish late last week.

    At the end of your piece, you propose a couple of scenarios that could occur in mitigation of the devastating scenarios you set forth in fine detail.

    I address each in turn.

    1. The idea that the recent Asia/Europe meeting in Shanghai could have a substantially stabilizing effect until November 15 is, unfortunately in my view, unlikely.

    My view on this is that it is much more likely that we see substantially MORE turmoil until then as the emerging markets’ currencies and bourses undergo further brutal price discovery and risk repricing. Just one quick data point in support of this view is that prime banking has SUBSTANTIALLY tightened up on hedge fund exposure in emerging markets within the last 10 days and these increased margin calls are causing hedge funds to dump highly illiquid securities related to these markets because their highly liquid products have previously been sold.

    In other words, we are currently undergoing a FIRE SALE in emerging market derivatives that I see little chance of abating over the next few weeks.

    Secondly, I hope you are correct about China coming to the rescue, to paraphrase your description.

    But that seems unlikely as well. Possible, but not likely soon. Here are a couple of reasons why. (There are others.)

    1. JC Flowers has already suffered some very large losses. The Chinese are very much chastened by these horrific losses that resulted from what seemed like good decisions at the time and are reluctant to throw money down a rathole of emerging markets without some sort of call on assets in those nations.

    In other words, the Chinese have drawn back to some extent from relying heavily on Western advisors who assured them that previous investments of JC Flowers were “very low risk”.

    Also, they view much of what is occurring as a necessary decline in the fortunes of the West due to moral failures such as a celebration of greed, etc. This is their view.

    And, given that, the deflation virus has begun to enter the Chinese economy and they want to focus a substantial amount of attention on rebuilding their OWN infrastructure with projects like building tens of thousands of hospitals to better serve their rural poor.

    Additionally, the Chinese simply despise the arrogance, incompetence and denial of President Bush. If Sarkozy can bring him around to reality, they are willing to be constructive. But they know that Tony Blair failed to talk any sense into Bush and they are concerned that Sarkozy might fail as well.

    History has placed a very large burden on the shoulders of Sarkozy. And Dick Cheney will fight him every step of the way. Note Bush’s combative response (where he declared his continued fealty to the tenets of free market worship of the invisible hand) after the excellent progress made in Shanghai.

    Several other data points support my idea that significant remediation along the lines that you suggest is going to be quite difficult and indeed unlikely over the near term.

    Matt Dubuque

  35. whatcould

    Yves, sidenote RE: argentina — not sure if they should be mentioned in the same

    Their particular slide in the argentine markets the last couple weeks (not their currency, the peso itself has been reasonably stable) has more to do with the threat of finally re-nationalizing the partially privatized socially security program (AFJP). Locally that’s where they lay the blame, anyway, not external contagion, price of soy, etc. They’re clearly not ‘spiral[ing] toward another default’, as you assert.

    I’m not sure confidence ever “recovered” enough for them to be as exposed to external credit enough, so that nervousness over emerging markets would have much effect on them locally.

  36. doc holiday

    This is all about yield curve manipulation and curve mechanics, because yield curves are visual representations of the future value of money — and guess what, the yield curves all say were about to go into an era of explosive growth — so, does anyone think the curves are shaped right? I keep playing with ideas on ZIRP and GDP depreciation but all I come up with is Zimbabwe-style bullshit!

  37. Anonymous

    “I wouldn’t be quite so cheery. If memory serves me correctly, the peak to trough fall in GDP in Indonesia in the Asian crisis was 18%. Plus they had widespread rioting with significant fatalities and a regime change. “

    What’s going to be the first country to suffer a coup?

  38. bena gyerek

    gold is a “fiat currency” just like any other. like all money, it is a confidence trick – its only intrinsic value is in the fact that it is widely accepted as having such. like all currencies, gold has its own central bank who guarantees her scarcity value – namely mother nature. but one big difference between gold and other currencies is that gold does not pay interest. gold can be part of a portfolio, but only one part.

    re predicting eurodollar: normally i would generally agree with the random walk school of thought on exchange rates, i.e. that all known information is priced in and one guess on future value is as good as another (although the distribution of possible outcomes can sometimes be very skewed – i.e. probable small appreciation vs improbable catastrophic depreciation). but the current circumstances are different precisely because market information is not being priced in, because markets are totally dislocated by the credit / liquidity crunch. a weakening of the dollar in the next few months is entirely predictable, but very few investors are in a position to exploit that fact (and also remain solvent while the dollar continues temporarily to appreciate under the weight of all that deleveraging). china is unusual in that she can exploit this opportunity, and has every incentive to do so (i.e. portfolio diversification AND geopolitics).

  39. Anonymous


    Please, please… warn everybody that we are in grave danger.

    All these multi trillion dollars bail out money is now being used for currency speculation!

    Previously during Bear Stern, the money was used for commodity speculation for quick profit. That causes price to spike and crashing global economy.

    The result of slowing economy of course was killing the already desperate/over leveraged US banks.

    But now, because they are pumping crazy amount of dollar, the only place banks can use these money is currency speculation!

    And the hedge funds are helping, because they can make loads of money crashing already weak small countries. (observe the attack on Russia, Argentina, Korea, Indonesia) All of their currency are being attacked.


    This is how the next crisis phase will unfold. Currency speculation using the free cash given by the Fed.

    Ultimately because few traders wants to make small money, a lot of country currency will collapse. (Thus creating truly global depression.)


    They have to cancel CDO/SIV/swaps. They simply have to tear up the contracts. Because the size of those speculation is bigger than the world economy can handle.

    The global currency crisis will unfold in the next 5 months.

  40. wintermute

    baychev – excellent point. Banks used to issue their own currency and it was a good system – better than the government issue notes we have today!
    Often the banks had to back up their note issue by having gold reserves equal to their notes outstanding, and were redeemable into gold. A few echoes of this system (HSBC and StanChart in HK survive).
    Sure there were failures, in fact many failures, but this was more a problem of lack of proper regulation and oversight. (sounds familiar). Certainly you would think regulation would be a lot easier in the 21st century than the 19th because of infinitely better communications.
    For centuries governments were fixated on controlling coinage – and controlling banknote issue came later. Considering the debasing of currency value in the past 100 years – I don’t think we are much more advanced in terms of sensible currency issue – in all this time.

  41. Anonymous

    Oh yes, the numbers involved in European bank foreign lending are scary indeed. The scariest thing is the way international bank lending overall has ballooned. The latest BIS quarterly report gives the number: from 21 trillion dollars in December 2005 to 36 trillion dollars in March 2008! And yes, the lion’s share is European. Here’s the BIS report:
    http://www.bis.org/publ/qtrpdf/r_qa0809.pdf and you should look especially at Tables 6A and 9B.

    Charles is right, however, that Evans-P. has skimmed the data. The 4,7 trillion dollars in bank foreign lending to developing countries does indeed include local lending in local currency in the developing country concerned (mostly supported also by a local deposit base). When this is taken out (Table 6A of the BIS data) the total is 2,75 trillion dollars, i.e. a little more than half of what Evans-P. says. But we expect this from Evans P. Unfortunately the BIS data does not separate out the figure without local lending into country of origin.

    By the way, the Stephen Jen piece that Evans-P. refers to is at http://www.morganstanley.com/views/gef/archive/2008/20081020-Mon.html. It’s not about the “emerging market crash”, it’s just about the dangers of the Eastern Europe situation, also using the BIS data.

    It has to be said that here in Germany, this picture is way off the radar screen so far. The BIS numbers have been reported in single articles in the financial press, no commentary, and nothing at all in the broader press. How much do Merkel and Steinbrück know? Can’t tell, maybe they’re scared to death and don’t want to say. But they haven’t got that rabbit in the headlights look about them, so I suspect they don’t know.

    Yves, I wouldn’t be too sanguine about anything big and important coming out of the Asia/Europe meeting – I saw the plenary session on German TV – Merkel was nodding off to sleep, and the other Europeans didn’t look much more on the ball.

  42. Stevie b.


    “…one big difference between gold and other currencies is that gold does not pay interest. gold can be part of a portfolio, but only one part.”

    Fair enough and thanks for this response. It could perhaps be said that even if just another fiat currency, gold doesn’t need to pay interest because gold has one thing that paper money does not have – faith in it as a store of value relative to paper, paper that is comparatively undisciplined relative to gold.

    I am not a gold bug and I’m not saying we should go “back” to some sort of a gold standard, but there must be a better, more disciplined way than just paper in the future, and meanwhile we need some sort of a stop-gap to get us from here to there. “I promise to pay the bearer” exactly the now worthless piece of paper in his/her hand is no longer the way forward. This system is broken, full-stop.

  43. JO

    Even though Switzerland has about 50 % exposure to these emerging markets as the article states above, it seems likely the CHF will do well on relative terms during this turmoil. The large Swiss banks are in big trouble, but the CHF is a carry trade currency and partially backed by gold from what i understand. Anyone have a different view on the CHF?

  44. OldAsiaHand

    Everybody please note that China Daily reported this weekend that the Chinese Goverment will sink $300 billion into – railroads.

    Within the next 2 years, some 8000 miles of new track will be laid. (Imagine, the 8 mile Train To The Plane in New York took 5 years to build and was planned for ages.)

    The newspaper quotes Zheng Xinli, a senior government policy advisor, who said. “In 1997, we dealt with the Asian financial crisis by stimulating domestic economic growth by investing in the construction of highways. This time the money will go on improving the rail network.”

    $300 billion on one project is serious money. There will be more projects.

  45. Anonymous

    Yves Smith said…

    I wouldn’t be quite so cheery. If memory serves me correctly, the peak to trough fall in GDP in Indonesia in the Asian crisis was 18%. Plus they had widespread rioting with significant fatalities and a regime change.


    what happened politically:

    1. Suharto regime tried to hold on. He implemented IMF demands. This cauese massive price spike (kerosene, rice, sugar, privatization of drinking water) All basic staples. The already weak economy literally crashed overnight.

    2. People start rioting. Within this riot was the beginning of Islamic bombing type in the next 4-5 yrs. (Jakarta stock exchange, Istiqlal, Sulawesi, etc) Basically on top of reformation, the hardline Islamic forces are using the chance to play the game as well. (This part is often not mentioned)

    3. After Suharto Regime fall he appointed his protege, until next election. (Habibie). 1. Indonesia lost control of Timor (territorial integrity, because Australia wants Timor recently discovered oil/gas field. This under the guise of brutal integration. Which btw, was US/UN project from the 70’s) 2. Habibie initiate hard line Islamic politics. Riot against ethnic chinese, Banking run, etc. Total mess. Inter ethnic/religious clash was never so bad in the past 20 yrs. thousands of people die (goes unreported of course)

    4. Then after election 2 presidents enter. Relatively weak and incompetent. But stabilized the situation somewhat.

    5. No doubt the 97 event turns Indonesia away from US oriented regime to more nationalistic with Islamic flavor. (Malaysia model)

    6. after few years. normalise realtionship with China… major inter asia trade and development. Practically cutting off US trade. (Indonesia-US trade fall from number one to barely inside 10.)


    on the economic. It literally a)IMF neo-liberal projects. A lot of asset was forcefully sold. b) government infrastructure project literally stopped for a decade.

    The forceful asset liquidation turned out to be more pernicious in term of long term development than forcing the government to simply stop kerosene/rice subsidy overnight.

    The asset sold most are liquidated and mismanaged. (factories equipments mostly.)

    You would not believe how Indonesian hate the IMF. I don’t think any white people dare land in Indonesia with IMF sticker on his body less he wants that becomes a toe tag.


    positive side:
    1. serious anti corruption effort
    2. serious banking clean up
    3. control of pro regime conglomerate
    4. better control of currency exchange (this still remain to be seen)
    5. Stop buying US made military equipments. (During timor Australia anex, US was conducting military embargo. I think right then US lost Indonesian military.) Now all tanks/ships and fighter jets are russians, Korean or Chinese (with some technological transfer agreement one way or another)
    6. massive geopolitical realignment.


    basically, I don’t think economist realize how much currency crisis change national perception.

    It would be interesting to see how those naive eastern european feel after this upcoming currency shock. They are practically standing alone)

    China would emerge a big player for sure.

  46. Robertm73

    China is still the big kid on the block. The question is does it even have enough firepower to stop what is happen. I think the answer is no.

  47. bena gyerek

    baychev and others, i agree the deleveraging process probably has weeks if not months left to run. that is the main reason no one will bet on dollar depreciation for the time being. “markets can remain irrational longer than you can remain solvent” – jmk.

    patrick neid, those that speculated against the dollar up till last year got their sequencing wrong. they did not foresee that subprime losses would lead to the unravelling of the entire overleveraged global financial system. but that does not mean that their longer-term bet that asian central banks will eventually dump the dollar was wrong. likewise those that had bet that in the next 5-10 years we will run out of easily drillable oil. just a matter of short-term trumping longer-term considerations and speculators wishing to remain solvent.

    matt dubuque, i enjoyed reading your comments as usual. i think the question of how china invests its reserves is separate from what it does to stimulate its domestic economy. the chinese government is already running a fiscal surplus and does not need to draw on its reserves to finance tax cuts for the middle class or building hospitals. the question in my mind is why would china NOT sell usd? why put all its eggs in one basket? why finance an economy that is not going to import chinese manufactures now anyway? why not finance economies like australia and brazil that are crucial to china’s growth, whether export-led or domestic-led? why not stabilise the global fianncial system on which china’s wellbeing depends? imo such a move would be motivated by reasons of strategic self-interest, and is not just a question of taking a punt on an exotic currency or selflessly “rescuing” an emerging market country.

    anon @ 1.11, can you explain how the central bank emergency lending is helping currency speculation? seems to me that if i want to speculate against huf or krw, i would need to borrow in the emerging market currency in order to sell this and buy usd or eur. so the massive coordinated effort by central banks to make usd and eur (not em currency) borrowing available would not help my speculating at all.

    bg, i will happily sell puts all day long to anyone who thinks that euro will fall apart in the current crisis. crisis is exactly the stimulus that the european union needs to pull itself together. whereas before germany and spain had different views on which way ecb should move rates, now everyone agrees. the same will be true when it comes to germany bailing out italian and spanish banks (or their governments).

    rk, people that get dazzled by the sheere size of the unregulated multi-trillion dollar otc derivatives market and fear collapse are barking up the wrong tree. 90%+ of those transactions net each other out. of the remaining 10%, they are cash margined daily, and the residual “gap” counterparty exposure is very closely watched by the major dealers. the counterparty risk issue is a red herring, as demonstrated by the lehman default – the settlement of lehman cds went very smoothly despite some hysterical forecasts. the real issue with otc derivatives is when the underlying market moves heavily in one direction, it forces the counterpart on the wrong side of that move to keep posting massive amounts of cash collateral day after day – i.e. it is another source of forced deleveraging.

    stevie b, gold is a good investment when you expect a high level of inflation, as it is the one “currency” whose limited supply is guaranteed by the chemical composition of our planet. however, the current risk is exactly the opposite – global deflation – so holding paper currency suddenly looks very attractive.

    jo, i believe that the combined balance sheets of ubs and cs are approximately 6.5 x swiss gdp. so if those banks do sustain heavy em losses, i doubt the swiss could finance those losses alone. maybe their friendly neighbours in the eu (which they never deigned to join) might help out? ubs and cs are after all systemically important banks (nobody wants another lehman). but if chf does go, i think it will go very quickly, led i suspect by the flight of its banking system’s many uberwealthy depositors.

  48. eh

    I’ve been as bearish as anyone for a while, but now I find all the armageddon-ish doom and gloom is going too far.

  49. Anonymous

    China certainly has the capital, industrial base, international relationship and military power to be credible player.

    However currently they don't have very sophisticated financial system, nevermind policy making leadership capable of taking over global trade. that will take at least another decade.

    Japan tried in the 90's, but it does not have big enough international cloud to create new financial center. Once Clinton pull the plug on US-Japan trade, they pretty much crashed.

    anecdote news on currency trade speculation.


    Ruble Jumps Most Since 1999 Against Dollar as Swaps Are Curbed

    Oct. 20 (Bloomberg) — The ruble rose against the dollar by the most in more than nine years after the central bank put a limit on some trades that allow speculators to gain from betting on the currency's decline.

    Bank Rossii said late on Oct. 17 it will curb the amount made available to traders in so-called currency swaps, where investors are able to borrow rubles against existing dollar positions without exchanging money. Banks making bets on currency declines will now need to reverse those trades in order to get rubles to pay operational costs, said Mikhail Galkin, head of fixed-income and credit research at MDM Bank in Moscow.

  50. Stevie b.

    Bena – re gold and inflation “the current risk is exactly the opposite – global deflation – so holding paper currency suddenly looks very attractive.”

    Yes, but for how long? The crowd all buy this market or that market up to a level from which there is no escape for the crowd. They cannot all get out at the “right” time. How high is too high? How much is too much? You only know a day too late!

    Yes deflation is the perceived risk for now and really everyone knows it, including the powers-that-be who will not let it happen, whatever the cost! When will paper currency and govt. bonds become unattractive? We really know in our hearts that they already are. Yes they may get a bit stronger, but they’re just another bubble waiting for that fatal pin, then…. poof! And it’s too late.

  51. John

    Jeez… you guys need to get a summarizer on this site. Like an executive summary every 15 posts, something like the Dilbert joke (which I can’t recall completely) but ended with: Oxygen is good.

    So far, the executive summary for this topic looks like (to me):

    Europe is screwed: 65%
    China is screwed: 50%
    China could save the world but probably can’t (for various reasons): 90%
    Japan is screwed 80%
    The US is screwed 50%
    The US actually wins in the end because everybody else is screwed more: 50%

    Any other combinations?

  52. Anonymous

    Last week Evans-Pritchard had an apocalyptic story about Lehman’s cds derivatives. Nothing happened. So now is back at euro bashing.

  53. wintermute

    I keep hearing that gold is dead money as it does not earn interest, as opposed to fiat currencies. But gold can earn money through leasing out – and this is an active market.

  54. Ra

    “China certainly has the capital, industrial base, international relationship and military power to be credible player.
    However currently they don’t have very sophisticated financial system…”


    They have something else. They have a massive trade surplus. That trumps any financial system. The U.S. could have Stephen Hawking designing their financial system but it can’t make up for that factor.

  55. Anonymous

    China would be best served by doing the bailouts of countries which the IMF and world bank which are mafia arms of the US empire are now doing which is stealing their resources and political system in the process. Dumping treasuries and dollar into to strength while the getting is good would serve China well.

  56. Anonymous

    Shows a stunning lack of imagination when folks say that gold can’t earn interest. Prior to the US Civil War, before creation of paper greenbacks, gold was loaned at interest payable in gold. Western farmers of the Grange movement, led by Bryan, demanded a cheap official rate of silver to gold, which contributed to populist demands for increased paper money. US Supreme Court killed gold clause contracts in The Legal Tender Cases.


  57. Anonymous

    The problem is that nobody is willing to lend to the Argentine government. Foreign creditors remember the default, while Argentinians either don’t trust their government or simply don’t have money to lend. So the government has a hard time raising funds to roll over the existing debt. This could lead to a domestic default, ie Argentinians themselves lose what they lent the government (this prospect of course makes them even more reluctant to lend). The plan to nationalize the pension funds is widely seen as a last ditch attempt to raise enough funds to avoid a domestic default. Sadly the politicians don’t dare to be upfront about this, even though nobody benefits from a default, not even pension funds.

  58. Anonymous

    John said…’Any other combinations’?

    98% of us are screwed…Excepting the 2% of pigmen that have stolen billions of dollars, converted them to gold, and deposited the gold in Swiss banks.

  59. patrick neid

    Bena, you stated:

    ” patrick neid, those that speculated against the dollar up till last year got their sequencing wrong. they did not foresee that subprime losses would lead to the unravelling of the entire overleveraged global financial system. but that does not mean that their longer-term bet that asian central banks will eventually dump the dollar was wrong. likewise those that had bet that in the next 5-10 years we will run out of easily drillable oil. just a matter of short-term trumping longer-term considerations and speculators wishing to remain solvent.”

    I appreciate your clairvoyance but I’ll have to stick to the here and now. The dollar short and the Yen carry were bubbles and as a consequence the players are getting hosed. If past is prologue thay will continue to be hosed.

    As to oil, I admit “peak oil” is a very compelling argument. However on closer inspection it fails the test. Oil historians, there are very few, would have told you that peak oil is a recurring theme that surfaces every thirty or so years since the late 1800’s. I yawn whenever I hear the subject. But I do admit sooner or later you will be right–just not now!

  60. Richard Kline

    So bena gyerek, I strongly agree with your remarks at 12:40 and with most of your comment at 4:44.

    The volume of gold in the world is ludicrous as a peg for the global financial economy, and furthermore as completely consensual as the value of anything else. Currency pegs can work as well if there is disciplined and potent regulatory response; there typically isn’t in the long-term, there’s the rub. We will revisit this issue again, I suspect, but gold will remain of trivial importance in global macroeconomics going forward.

    Your perspective on China’s possibility matrix is near to mine. The point where I take a different view is with regard to China-US trade. Barring neanderthal and self-injurious tariffs in the US, there will continue to be very significant trade, just less than the recent bubble years, and on somewhat different financial terms I suspect. In the mid-term, the US economy will remain a massive force in the global economy, just not a determinative one. Any attempts to wrest political plums in the present crisis by China will incur significant strategic costs in the mid-term, and I think the Chinese understand this better than anyone, if not at a fully articulated policy level.

    Regarding the EU and the euro, I entirely agree with your view that this crisis will push integration with regard to both. ‘Close ranks, and get in step.’ This is the obvious policy; this is what the shrewder politicos and big capitalists in Europe have been promoting for decades; this is what we see _now_ week on week. Moreover, this is in keeping with two generations of policy objectives and implementation. What has been holding this up has been the parochial resistance of smaller countries—Denmark, Ireland, England [to be minus Scotland within a generation], and the hold out of Switzerland—who see themselves losing influence in a functioning federation and naturally resent that outcome. —Of course the holdouts are all taking a hiding at present, natch. And this is an instructive demonstration on the value and necessity of sticking and planning together rather than going it alone. We will only get an acceleration of integration in Europe from the crisis.

    In that regard, it is telling to look at the differential opportunity matrices which the financial crisis imposes on the EU and the US. In the EU, the financial crisis is pushing them to to more of that they have been doing and planning for through sixty years; pushing them to to more of the same, better, and faster. Thus, the crisis clarifies and puts a tailwind behind their policy biases. In the US, by contrast, the financial crisis acts completely _athwart_ the policy vectors in place for the last thirty years: neo-imperialist military interventions, massive consumption, savings drouth, contracting industrial base, widening income disparity. Thus, the financial crisis will require the US to implement policies broadly contrary to the vectors we have been pursuing and still pursued by powerful domestic constituencies. Europe runs before the storm to where they were going anyway, whereas the US is on its beam ends and perilously close to rolling keel up.

    This is part of why I see of the EU, China, and the US the latter having the most difficulty recovering from the present crisis. With appropriate policy and institutional responses, we can come back as a major player, though not as the determinative player. But whereas China and the EU can come out of this doing more and better what they have already been pursuing, the US has to completely change its policy program to get an optimal recovery.

    And BTW I agree with you re: the dollar in the near-term; delver is cranking it up, but context says bombs away. No one can time the turnaround, and in typical conditions yes, random staggers, but in the present context we have external skews which make the outcome strongly skewed and obvious.

  61. Anonymous

    What happens if world governments simply force all of the hedge funds to report what they have and what they plan to do and put limits on their redemptions?

    It seems as if the economy has plenty of underlying problems, but the entities driving the chaos are hedge funds. It would make sense to treat them well if we wanted to get more money out of them, but, right now, it looks as if no one is going to invest in most of these hedge funds again in our lifetimes, anyway. Why treat them with kid gloves? Why not either put tight curbs on what they can do or seize control over any that are failing?

    A lot of pension funds have hedge fund investments. Too bad for the pension funds. But is it really better for the pension funds to let a couple of hedge fund failures a day roil the markets for the next 10 years, or would it be better for the pension funds just to shut down the hedge fund system?

    Also: how do we know that the hedge fund people are ordinary investors and speculators and not a bunch of Al Qaeda terrorists sitting around in their underpants eating halal potato chips and crashing the economy on purpose?

    – invisiblehand64114

  62. Walther von Reinbach (spain)

    @anonymous 1:16 PM

    It helps when you read carefully.
    In the post a citation from a different site” You can think of Sweden in the Baltics, Austria in Central Europe, Spain in Latin America”
    They obviously mean the exposure Spain has in Latin America.

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