Saturday, April 23, 2011

Alex Merk: U.S. Is 'Headed for a Fiscal Train-Wreck'

The invaluable Chris Martenson interviewed Axel Merk last week and was kind enough to post the transcript. The latter is president of Merk Investments, which operates a handful of mutual funds specializing in currency arbitrage.

Merk's statements -- while not altogether surprising -- should send shivers down the spine of any American concerned with this country's future.

...One of the things [Bernanke] has said is that one of the great mistakes during the great depression was to tighten too early, and as a result we deepened then the great depression or had the second leg downward and so he does not want to do that and he wants to err on the side of inflation...

...Right now, I have been arguing that the Fed can get away with murder. And what I mean by that is that because this money does not really stick anywhere. All this money printing – yes, it shows up in the excess reserves in the banking system but not all of it causes significant inflation. We see it in food and in energy but it takes a while for it to trickle through...

...we have Bernanke who has explicitly stated last August in his Jackson Hole speech, he wants to have inflation move higher, and then he was upset that the market did not endorse him and he started QE2. He wants inflation expectations to move higher. He needs to have the price level more higher so that people are bailed out from their mortgages who are underwater. And in the early 80’s when Volker said he was going to contain inflation, people did not take him seriously and it took a while. Well now, Bernanke says he wants high inflation; it is the same thing happening all over. The market did not take him seriously and by all means we will get higher inflation and at some point the markets will realize Bernanke was dead serious.

...of course we have seen inflation in food and energy go up... In the rest of the world where we have exported our policies, we gets riots, revolutions and other things happening because the citizens are more disgruntled and you can oppress your people but if you do not feed them, they will start a revolution. the short term we see Japan has for example: a very high budget deficit, a huge amount of debt, those numbers are not very relevant in the short term. But what matters a great deal is the sustainability of the deficit, and in the US the math simply does not work. And if anybody who looks at those numbers knows we are heading towards a fiscal train wreck. Now politicians know that as well - some of them still think that you can tax the rich and be able to somehow solve these problems. It simply does not work with the math. And so what we have to do is we have to tackle entitlements. We have to tell people that they have to work longer and by the way when social security was first introduced, it was set at above the average life expectancy age, we have to have people have skin in the game in healthcare, Medicare, Medicaid... far as the dollar is concerned, it is that sustainability of the deficit that people are concerned about and we still have time, but the time is going to run out within a few years.

...think about what would happen if we were to raise rates to 4-5% and indeed countries like Portugal, they scream for help from the European union because their cost of borrowing was going to something like 5% and it has gone beyond that since. But still 5% is not that high, at the same time if you look at the municipal bond market in the US, some people are saying well, the interest service payment for the municipalities is not all that high. Well yes, because they are paying only 1-2% on the interest. Let that go up, let the Fed tighten and suddenly let that debt servicing double for those municipalities and then we are going to have very serious problems.

...But one of the challenges of having low interest rates for an extended period is that you encourage everybody to take debt, and not just consumers but also government and municipalities. So what happens is we have a far greater interest rate sensitivity and that means we are far less shock-resistant be that on the consumer side if you lose a job or be that on, just on the government side. And all the budget projects by the way, by the CBO are based on the current interest rate environment and it is just unrealistic to think that that is going to continue forever...

...[in the U.S.] if we are going to get interest rates to 4% or 5%, that would push us right back into a very severe recession, probably depression.

To try the quick executive summary: the unprecedented deficit spending of the Obama administration has put U.S. policy-makers in a box. They can't lower interest rates any further. If they raise rates, they will likely set off a global depression.

Put simply: there's a reason my Dad always told me 'there ain't no such thing as a free lunch.' Unchecked deficit spending is like a ticking time bomb. And the American people -- not the powerful policy-makers -- will be the victims.

Hat tip: Tyler Durden.

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