Interest Rate Tremors May Spell Disaster for the Dollar


from Birch Gold Group:

As the U.S. plunges further into debt beyond a staggering $27 trillionthe dollar’s time is running out. But the problem is much deeper than that.

With inflation on the rise, and long-term bond yields rising in concert with massive debt, some disturbing scenarios could develop that spell trouble for the dollar.

The most disturbing possibility on the horizon could develop in the huge bond market (about $500 trillion in size). According to the January 14 issue of One Last Thing by Three Founders Publishing, if it were to collapse, the result would be catastrophic:


“If Treasuries begin to collapse, forcing yields through the roof, it will result in crashes in stocks, real estate, corporate bonds, and municipal bonds all at the same time.”

So let’s take a closer look at what’s happening, which could bring the possibility of a Treasury market collapse or other troubling financial realities closer to the near-term.

Starting with the U.S. Dollar

The value of the U.S. dollar rose 0.55% on Monday, January 11, and that was enough for Barron’s to trumpet, “The Dollar Is Rising.”

That’s a misleading headline. The dollar’s gain vanished quickly. Furthermore, the dollar’s value has remained fairly steady since 2015. In fact, the dollar has yet to come near its most recent peak in 2002.

Barron’s explained the fall of the dollar from March until the recent uptick:

The dollar has fallen by double-digit percentages since March because economic growth is expected to rebound faster globally than in the U.S. this year, while the Federal Reserve has slashed short-term interest rates to near zero. That has reduced the appeal of dollar-denominated debt, limiting overseas investors’ need to buy greenbacks.

This adds even more pressure to the dollar’s role in the world and increases the risk of losing its status as the global reserve currency. That scenario alone spells trouble for the U.S. economy.

And the market for government-backed bonds also has its own set of problems.

Why Treasuries Could Become More of a Gamble

A paywalled piece at FT describes a shift in investor behavior toward U.S. bonds: “Treasuries are becoming more sensitive to expected changes in fiscal rather than monetary policy.”

The Federal Reserve website helpfully explains the difference between fiscal and monetary policies:

Monetary policy refers to the actions of central banks to achieve macroeconomic policy objectives such as price stability, full employment, and stable economic growth. Fiscal policy refers to the tax and spending policies of the federal government.

In other words, when you buy a piece of government debt, you’re taking on two different kinds of risk:

  1. The risk the government’s central banks might devalue the debt in some way (for example, cranking up the printing presses and driving up inflation). That’s a monetary policy risk.
  2. The risk the government itself might enact laws that harm businesses, or impose tariffs that ruin trade, or mandate lockdowns that cripple the entire economy. That’s a fiscal policy risk.

A massive selloff driven by the promise of more stimulus from the Biden administration “drove the U.S. 10-year yield, which serves as a benchmark for assets around the world, to a 10-month high above 1.17 per cent this week, from 0.91 per cent at the start of 2021.” When Treasury bond yields go up, that’s bad news for everyone who already bought bonds. Suddenly, their old bonds yielding 0.91% interest don’t look very enticing when the shiny new issue yields 1.17%. Why would anyone want the old bonds anymore? Thus, the previous issue lose value on the open market.

This is a real-world example of fiscal policy risk and a cautionary tale about how paper backed by the U.S. government loses value.

According to Richard McGuire, head of rates strategy at Rabobank: “Bond markets are ‘blind to the deterioration with respect to the virus’… Investors only have eyes for a vaccine-led recovery.”

That’s not smart because the coronavirus and decisions by state governors attempting to mitigate the virus are still impacting the economy.

That bond market blindness could be costly, because according to the Fed’s own Beige Book issued on January 13, prices are rising steadily across the nation. Robert Wenzel thinks a big spike in inflation is on the way: “I am forecasting that price inflation will rapidly climb to 3.0% as measured by government price indexes, then 5% and possibly 10%.”

An inflation spike that big can destroy any returns you might hope to get from long-term bonds. Which means that “guaranteed” future rate of return might not stand the test of time and inflation.

How Inflation Eats Up Bond Yields

An article on The Balance describes the real world impact that rising inflation can have on whatever bonds end up yielding:

Consider a shopping cart of food that a person buys at the supermarket. If the items in the cart cost $100 this year, inflation of 3% means that the same group of items cost $103 a year later.

That same person has a short-term bond fund with a yield of 1%. Over the year, the value of a $100 investment rises to $101 before taxes. On paper, the investor made 1%. But in real-world money, they actually lost $2 worth of purchasing power. The “real” return was, therefore, -2%.

The longer the term of the bond, the more the bold-holder stands to lose after inflation. That means even if bond yields rise, inflation can easily devour purchasing power. (This is an example of monetary policy risk.)

So keep in mind that even if the bond market doesn’t collapse in the near term, the actual return you get from the Treasury market could still prove to be worthless.

Meanwhile Gold’s Value Remains After 4,000 Years

Mark Twain famously said, “I am more concerned about the return of my money than the return on my money.”

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