Currency Manipulation: World's largest Pot calls world's largest Kettle "black" as Fed races to devalue dollar faster than China devalues yuan

China has been a popular conversation topic in Washington lately, and an even more popular conversation in the chambers of the House and Senate. Last week, the House passed a bill authorizing tariffs against China in retaliation for China's continued "devaluation" of the yuan. Ironically, Congress also applauded the Federal Reserve's latest sure-to-lead-to-certain-doom plan to do what only the Federal Reserve does best: to accelerate the fantastic devaluation of the US dollar.

Talk about the pot calling the kettle "black."

The Senate has yet to debate the bill, and of course, the Congress has no control over the Federal Reserve, so Mr Bernanke will turn up the press without the input of Congress (which is lovin' it anyway). Neither the House nor the Senate are attempting to do anything whatsoever about China's two master accomplices, the individuals enabling China to accomplish its goal of "yuan devaluation." You know these people, Congress loves them and the president appointed them: they are Ben Bernanke at the Federal Reserve and his FRBNY buddy Timothy Geithner at Treasury.

If Congress genuinely wanted to stop yuan devaluation, it would stop dollar devaluation. The yuan is pegged to the dollar: 100% of the devaluation evident in the yuan is equally occurring in the dollar. Instead, Congress just calls China a currency manipulator without even bothering to lookin the mirror. The United States is the world's largest currency manipulator, and has been since the incipience of Bretton Woods. Yet the story for the past year has been how horrible it is that China (which is evil, but for different reasons) is for intentionally "devaluing" the yuan and thus effectively creating a 20/20 import-export manipulation through which US exports are effectively 20% more expensive to Chinese consumers while Chinese exports are 20% cheaper to US consumers. The poor little United States just cannot do anything about it except blame China, because it is certainly not Mr Bernanke's fault--and former FRBNY president Timothy Geithner, who happens to be fluent in Mandarin, as one could have ever possibly foreseen China doing such a thing, and just because the US is devaluing its currency doesn't mean that China can, too!

Yeah, right. What few in Congress, no one at the Federal Reserve or Treasury, and certainly not the president, are admitting is that the only way China has been able to accomplish yuan devaluation is through its choice to peg the yuan to the US dollar in summer of 2008. This means that 100% of the "devaluation" that has hit the yuan has also hit to the dollar. Are these politicians and "policy makers" complaining about the fact that USDX has lost 36% since 2002?! Do they care that they have contributed to the reducing by over one third the purchasing power of every American through their compliance and embrace of a decade of ridiculously loose monetary policy, insanely low interest rates, and a 36% devaluation of the dollar?! Of course not. Now stop complaining about the deteriorating dollar and the evil Federal Reserve, and be a patriotic American and blame China.

The yuan "devalution" of the past two years is not due to some magical powers that China has: it is due to the magical unicorn fairy dust powers of the Federal Reserve to print up money ex nihilo and carte blanche. Yuan devaluation is due to dollar devaluation, and dollar devaluation is the only possible impact that can occur to currency controlled by a Federal Reserve who has no problem with printing up over $2 Trillion in dollars and who just announced plans to print more, and a Treasury that has no problem auctioning off record amounts of debt every week despite having no increase in revenue to cover interest payments, and two Congresses with their two presidents who have no qualms about either outright authorizing or gleefully endorsing $24.7 Trillion in bailout guarantees in less than 2 years. What currency can survive being shot fifteen times, stabbed fifty-three times, rolled down a hill, run over by a Pete 379, and lit on fire?! According to Mr Bernanke and Congress, the almighty dollar can!

Well it can't, and this is evident manifestly by the fact that the US dollar is worth 4 cents against its original pre-Fed value. But forget about 1913, as we have even more dramatic evidence from just this last decade. See for yourself below. This chart shows USDX from 1985 to 2009 (source):

The steep decline at the left from 1985 to 1987 is the intentional result of the Plaza Accord, an announced conspiracy by the Treasury Department, Federal Reserve, and German and Japanese finance ministers to devalue USD against the yen and the deutchemark. As you can see, it was "success": the Plaza Accord resulting in a resulted in a 52% devaluation of the US dollar in two years, a crash that was only stopped by another international currency manipulation conspiracy, the Lourve Accord. The right-most peak of about 120 occurred in 2002. In the eight years since, USDX has dropped 36%, to a level which is near the lowest part of this chart (all time low from March 2008, which is the lowest dip on the chart, is 71.18. USDX today sits at 77).

So, once again, if anyone knows anything about currency manipulation, it is the United States government and Federal Reserve. If a nation wants to devalue a currency, all they have to do is peg to the dollar. The yuan situation is about to get worse, too, because the chronically irresponsible Fed has announced that a $2 Trillion balance sheet (a balance sheet that includes monetization) is just not enough. Apparently, we know need super Ben to jump on his unicorn, ride it to his helicopter, talc up his hands, and start QE2.

Oh yeah, this is going very well: two years after TARP and the height of the credit crisis, and the Federal Reserve still thinks there are "liquidity" issues. There is again renewed talk of a "second Plaza Accord" to steal yet more spending power from Americans. This appears to some to be the beginning of the first currency wars of the new century. And how do we prevent a currency war? We call in the creation of the world's largest currency manipulator, the IMF, to "stop" it, of course. As Peter Schiff explains in this video, currency wars are won by the nation which is "successful" in devaluing the currency of its own citizens the most, and stealing as much spending power as possible, or, in his words:

"You know, most wars, the object is to kill the enemy. Well, in the currency war, the object is to kill your know troops. Because in a currency war, its a nation's own citizens that suffer, because they're the ones that are being made poorer. Well, of course, you know, unfortunately, America is going to win the the currency war, so our citizens have the most to lose. Because we are going to be the greatest casualities in the currency war--its going to be American retirees, people living on fixed income,because, unfortunately, that's how you win the currency war: whichever country succeeds in making its citizens the poorest is the winner."

We do not want a currency war. As mentioned above, USD has already been shot fifteen times, stabbed fifty-three times, rolled down a hill, run over by a Pete 379, and lit on fire. We don't exactly need to USD to slit its own throat.

Watch commodities, and this vastly expanding foreclosure fraud crisis, along with the massive intervention of various nations in FOREX, because it is almost beginning to look like summer 2008 again.

SSA promises Bankster Report $10,066 a month!

Fantastic news arrived today as Keri, the operator of the Bankster Report, learned that she has been promised a whopping $10,066 per month from the Social Security Administration upon retirement.

"I'm rich!" friends reported Keri as stating, followed quickly by, "Not! I see right through your bankster pranks, you scoundrels! This is just yet more evidence against your master fraud derivative--your fiat money US dollar and its utter worthlessness! I'll stop you if it's the last thing I do!" Witnesses state she then sprung to her feet, grabbed her INFOWARS cap, and bolted off in the opposite direction.

Keri was last seen dashing across a nearby street to retrieve her laptop and start an immediate report, while muttering to herself something about the Bank for International Settlements and how "freakin' pissed" Andrew Jackson would be if he knew he was on a Federal Reserve note. People with knowledge of the matter indicate that she "refuses to believe that the SSA will even be in existence past 2025," and generally rejects any likelihood of the US dollar maintaining value over time. Keri did not respond to repeated requests for comment and phone calls were not returned by time of print.

The above story is only half-joke--and half true. As constant evidence of the inflationary cruelty of fiat money, I can report that I indeed have been promised an amazing $10,066 per month by the Social Security Administration when I retire at age 70. If you're curious about your own benefits, you can calculate them here through the SSA Benefits Calculator.

Try if for yourself--and if you're over 40, try if for your kids (starting age 21). You'll notice that after you input your information (birthday, annual earnings, month/year of retirement) that the calculator has one final option before submitting. This option is to select either "Today's Dollars" or "Future (inflated) dollars." Please note, those are exactly the SSA's terms--including the "inflated" part--not the Bankster Reports' terms, though I couldn't have said it better myself. According to my "future (inflated) dollars" benefits, I will be receiving $10,066 per month when I retire, from the SSA.


My comment when I retire would be: what SSA?

In today's terms, $10,066 is a very, very nice single monthly income, and is an income that is not hard on which to to live in even the more expensive parts of the Republic. But let's consider what value the SSA itself attributes to that $10,066 in "today's dollars." Here it is--and it is striking:

$10,066 when I retire at 70 = spending power of $2,365 today.

Chew on that for a minute.


Here are some other hypotheticals run through the calculator for different ages and different current incomes, all based on a retirement age of 70:


Today's 23-year old earning $30,000: $1,539 or $8,227 inflated.
Today's 25-year old earning $30,000: $1,539 or $7,619 inflated.
Today's 27-year old earning $40,000: $1,869 or $8,573 inflated.
Today's 30-year old earning $40,000: $1.869 or $7,639 inflated.
Today's 35-year old earning $40,000: $1,869 or $6,301 inflated.
Today's 35-year old earning $50,000: $2,200 or $7,418 inflated.
Today's 40-year old earning $40,000: $1,862 or $5,201 inflated.
Today's 40-year old earning $50,000: $2,191 or $6,123 inflated.
Today's 50-year old earning $40,000: $1,867 or $3,597 inflated.


It is startling: what this data is telling every American is that we are being constantly subjected to the hidden inflation "tax" that is reducing the value of every penny in our savings, every day of our lives, in a relentlessly cruel attack on the value of the US dollar spearheaded by the banksters at the printing press. It this is to be expected: the destruction of savings and decimation of value are collateral damage to the fiat money system. A 23-year old American can look forward to the future where when he retires, he'll need $8,227/month to equal the living standard of just $1,539/month. If you're 23, think about that for moment. If you're not, think about your kids, and then run your own numbers and realize that you're not much better off, either.


In March, the Congressional Budget Office reported that OUTGO on the SSA program will exceed INCOME this year, and that by year's end, the SSA will be $29 Billion in the red (see "Primary Surplus" line). As the New York Times ("Social Security Payout to Exceed Revenue this Year") subsequently reported, this is an essential threshold that was not expected to be breached until 2016, as submitted by Geithner's Treasury in 2009. Check out this visual representation from the NY Times.


According to the 2009 Treasury report mentioned above--which inaccurately predicts the threshold cross at 2016--the SSA outgo issue can be "fixed." How, you ask? From the report:


"Social Security could be brought into actuarial balance over the next 75 years with changes equivalent to an immediate 16 percent increase in the payroll tax (from a rate of 12.4 percent to 14.4 percent) or an immediate reduction in benefits of 13 percent or some combination of the two.


And, oh no, I'm sure that a 16% increase in payroll tax--which is born by both employees and workers, or entirely by the self-employed--would certainly not affect GDP growth, right? Wrong: the US is already suffering from an anemic GDP growth that would only be bled more with tax increases. The Treasury does not present any actuarial analysis of what the suggested fix of an increased tax burden would do the the economy. Nor does it explain how the 13% reduction of benefits would be compensated for by those on the other side of the SSA challenge--the recipients. It is clear that benefits must be cut, and I personally have zero confidence in the SSA even being in existence when I retire and thus view my contributions as a "Thank You" to our older Americans. It is clear to me that I am fully cut-out. As the report states:


"Ensuring that the system remains solvent on a sustainable basis beyond the next 75 years would require larger changes because increasing longevity will result in people receiving benefits for ever longer periods of retirement."


What might these "larger changes" be, and is it even possible to imagine that they would work? Bruce Bartlett, former Treasury Department economist and the author of Impostor: How George W. Bush Bankrupted America and Betrayed the Reagan Legacy, offered a detailed analysis in Forbes Magazine, which included the following death-nail:


"To summarize, we see that taxpayers are on the hook for Social Security and Medicare by these amounts: Social Security, 1.3% of GDP; Medicare part A, 2.8% of GDP; Medicare part B, 2.8% of GDP; and Medicare part D, 1.2% of GDP. This adds up to 8.1% of GDP. Thus federal income taxes for every taxpayer would have to rise by roughly 81% to pay all of the benefits promised by these programs under current law over and above the payroll tax."


Alert! He just said: "federal income taxes for every taxpayer woul dhave ot rise by roughly 81% to pay for all the benefits promise by the programs under current law over and above the payroll tax." Additionally, Bartlett points out that, according to the Treasury report, when combined, Social Security and Medicare liabilities equal at least $106.4 Trillion--an inconcievable number that is over twice the total amount of all private wealth in the entire nation. The number is worth viewing properly, with all the gasping zeros, and here it is:


$106,400,000,000,000.


You might be thinking of Greece. . . on crack? But while Greece is facing a smaller version of a similar situation, there are many differences between the US and Greece, and one especially important desparity. This difference is, that as a member of the euro zone, Greece gave up its monetary sovereignty when it adopted the euro a decade ago, thus its bank cannot inflate itself out of the problem. The US, on the other hand, has the ever-ready-to-lend-money-made-up-out-of-thin-air Federal Reserve, and the Fed not only has a printing press, it has a theory:


"In brief, the reason is that people know that inflation erodes the real value of the government's debt and, therefore, that it is in the interest of the government to create some inflation. Hence they will believe the government's promise not to "take back" in future taxes the money distributed by means of the tax cut."


Those are the words of then-Federal Reserve governor, current Federal Reserve Chairman Ben Bernanke, from his very famous "helicopter drop" speech in 2002. You see, with fiat money, inflation is not always the answer. Inflation is the only answer.


Given this, perhaps my "check" is not going to be $10,066/month afterall when I retire--maybe it will be $101,066 a month! And I really shouldn't be so concerned--maybe Mr Bernanke is right. I can handle an 81% income tax on top of my current 15%. That will leave me a whole 4% for myself. Now that I think of it, perhaps it won't be so bad: given my savings now, and my $101,066 SSA check when I retire, maybe I'll be able to afford that tasty Purina brand cat food!

Hooray!

Record Yield Curve: 230% above-average spread makes Mr. Bernanke 2009 "Person of the Year!"

It seems the lost souls over at Time Magazine (who, of course, named the CCX's Dr. Richard Sandor "Hero of the Planet" in 2002) have now again added to their menagerie of confused choices for the latest "Person of the Year:" the honors for 2009 go to Chairman of the Federal Reserve Board in Washington, Mr. Ben Bernanke.

The Bankster Report has not analyzed what Time's parameters are for selecting these various annual "Persons," but one thing we can declare is that for the banks, Ben Bernanke might be the "Person" of their lifetimes! A dream come true! Today, as Mr Bernanke's mug is staring through the gloss on Time's cover, the banks ought to be hoisting the Chairman up on their shoulders, and marching around in celebration of their luck to have such a wonderful advocate. Mr. Bernanke & Company over at the Fed are making banks a lot of money, and they're making it very easy.

Nevermind the $700 Billion in TARP infusions from Treasury; forget about the $307 Billion in outstanding corporate bank/non-bank bonds that the FDIC is guaranteeing through the Temporary Liquidity Guarantee Program; exclude the Fed's purchase of $1.01 Trillion in agency/GSE paper from the banks and sovereigns; and just ignore the $1 Trillion Troubled Asset Relief Program--no, for this report, the Person of the Year, Mr. Bernanke's latest accomplishment is the Fed-induced yield curve spectacular!

The yield curve is the difference between interest rates on short-term debt and the long-term debt, and it is how banks make money off loans. They simply borrow short, and lend long. For banks in the US, this is usually done through US Treasuries, as part of the of fiat bankster masterplan. The banks can borrow short-term from the Fed (at the current near-zero Fed funds rate), take the "money" as an advance, and use it to buy short-term interest-bearing Treasuries, which have a higher yield than the "cost" of the Fed-"borrowed" money in the first place, and then with the borrowed/created money, simply use the short-term, low-cost (free!) money to front long-term, higher-interest yielding loans (like mortgages, etc). That's how to make a nice banker's profit. Or, of course, a banks can use a simple fixed-income strategy and simply borrow money to buy short-term paper, and then use the short-term paper's yield to purchase/finance loans to themselves for the long-term (10-year, 30-year) Treasury paper with the nice 3.5-4.5% yield, which they buy today and "pay themselves back" for in 10 to 30 years. Beautiful. A revolving fiat door of money creation.

And this money creation is a dream come true right now, because it is cheaper than ever. The practically free money which banks can borrow from the Fed right now at 0% cost needs only to yield them 0.1% for them to make a profit, and yet with the record yield curve, they are making much, much more than a measly 0.1%. In fact, in March 2009, the yield curve between the 2-year and 10-year note (the 2-10 spread) snuck over 275 basis points (bps, 100 bps is 1%), which broke the previous record by one bps. Its at 273 bps today--today, which is day-two of the Federal Open Market Committee meeting. At 2:15pm today, we will get the Fed's latest dictatorial decision on what this small group of men at the FOMC who are running the nation's monetary system will do with the low-as-possible interest rate level for the Fed funds rate. Of course, its at 0 to .25% right now, where its been for a year, and most people aren't expecting a change. Which is why Mr. Bernanke is "Person of the Year!"

When the Fed did the unprecedented last year and sunk the Fed funds rate to 0%, it did so to obviously encourage banks to borrow so it could flood the system with "liquidity" and save the world. Additionally with the TARP infusions, the Fed could bankroll the troubled banks by making it nearly impossible for them to lose money: even with the two times last December when the Treasury sold 3-month t-bills at a negative interest rate, banks could still make money off them if they purchased them, because they could hold them on reserve at their District Reserve Bank, and they would earn interest from the Fed. [Of course, that is hypothetical, because that would really only be temporary for a bank in so much trouble that it was buying 3-month bills to place them on reserve with the Fed, because the Fed needs (is supposed to, anyway) collateral for the original borrowing.] But it is an instructive example. All that said, the ideal place to make money for banks is still where it has always been--borrowing short and lending long, and thus the Fed's second strategy in steepening the yield curve steep is a dream come true.

The Fed, and specifically the FOMC, is the major mover of the yield curve. It is the only body that can, with the stroke of a pen, increase or decrease interest rates through its monopoly control over the Fed funds rate. The markets can influence the Fed, obviously, and the Fed vastly influences the markets, but control of the yield curve is really in the hands of the Fed. What we are experiencing right now is a positive, steep yield curve--a record positive, steep yield curve.. A positive curve is considered normal, of course, because that means that shorter-term debt is less risky than longer-term debt, and thus the yield for shorter-term debt is lower. In a stable economy with a solid future, that is the normal trend.

Conversely, a negative (or inverted) yield curve occurs when shorter-term debt is more expensive than longer-term debt, thus yielding a higher return than longer-term debt--and this is obviously not normal. It should not normally be more risky to hold shorter debt than longer debt, and in fact, the inversion usually is not outright do to risk. Instead, it is often due to concerns over liquidity and concerns over a change in profitability, and even more so, concerns over the central bank's moves. In an inverted yield curve, economists (and the Fed) use the 3-month/10-yr spread, because the 3-month is effectively priced at the Fed funds rate (for example, right now its at 0.03%, the Fed funds is at 0-.25% target range). Because of the fact that central banks control interest rates, an inversion can technically happen at any time: if a central bank feels like it, the central bank is the only body in control of the base rate, and it move it up higher than the 10-yr (or anything else!). For example, if the Fed came out at 2:15 today and said they felt like moving the rate to 4%, we would instantly have an inverted yield curve, as the 10-yr is yielding only 3.56%, so the short-term money would be more expensive than the long term debt. There's no way they will actually do that--but they can.

Thus, an inverted yield curve generally results from either a central bank's choice to increase the short-term borrowing rate (the Fed funds) in such a sharp jolt that it moves the yield higher than the long-term debt already issued and on the market, or a choice to decrease (or standstill) the short-term borrowing rate in an unexpected way, because the market may sense that as uncertainty and start itself driving down the long-term price by dumping long-term in favor of short-term. Also, the central bank's choice not to move increase rates signals that rates may have reached a high, a bubble may have peaked, and therefore a recession is coming which is force the central bank to cut rates. There are also other market-driven reasons this inversion can occur, but they are all related to the central bank: the market anticipates the central bank will do something contrary to the trend and therefore attempts to lock in higher rates; market anticipates a rapidly nearing shortage in liquidity or credit and therefore moves from long-term to short-term to increase access to cash; or the market anticipates serious tumult (recession) that prompts a rush to the safety of cash and the more liquid, shorter-term debt. Any way, its a bad sign! Since 1969, every inverted yield curve has forecasted a recession by 5 to 18 months (called the "lead time"). The last inverted yield curve we saw in Treasuries was in July 2006--15 months before the December 2007, the month that the National Bureau of Economic Research determined the official start of the current recession. Also worth noting is that the inversion itself occurred one month after the FOMC decided not to raise the Fed funds rate which it had been steadily pumping up since 2003. The market noted the same trend that the Fed did--something was coming, and the Fed was going to start cutting rates to prevent it, and further the bubble with cheaper money. This table demonstrates the peak of the Fed funds rate. From 2003 through June 2006, the FOMC increased the Fed funds rate from 1% to 5.25%. Since July 2006, when the yield curve inverted, the Fed has sunk the rate from 5.25% to 0%.

From this current zero-level, it is impossible to see an inverted yield curve, because rates can only go up. Therefore, what we are seeing today with Mr-Person-of-the-Year-Bernanke's Fed is the polar opposite--a record steep positive curve. As I mentioned above, the 2-10 spread is at 273 bps today. The 3-month/10-yr is at 353 bps. But even more impressive, however, is what is happening right now with the yield difference between the 2-year and 30-year Treasuries. The 2-30 spread was at 373 bps less than a week ago, which is a nearly 30 year record. I just checked it today, and its at 368 bps as I write this. Anyone can check the spreads on 2's, 10's, and 30's on this Bloomberg Government Bonds page. To determine the yield spread, simply subtract the short-term yield from the long-term. [For example, when I checked it today (December 16 2009) the 30-year was at 4.51% (or 451 bps), and the 2-yr was at .83% (83 bps), thus 451 - 83 = 368 bps spread].

You might be thinking: 30-year record--that would put it back to Volker days, right? Right! Besides the one in 2006, there was another major inverted yield curve in April 1980, when the 3-month T-bill actually was actually yielding 240 bps more than the 10-yr note! Major volatility in interest rates controlled by the Fed was the cause of this. It was an incredible year: in December 1979, the Fed funds rate was at 13.78%. Three months later, by March 1980, the rate was 17.19%. And by December 1980, the rate was 18.9%. However, between March and December, the rate dipped to barely over 9% in July. As a result, the Fed single-handedly produced a yield curve, which likewise signaled to the market that a recession was near, and further put the pressure on bonds, and everything else. Its demonstrates the FOMC's iron grip on yields, and their prerogative to whipsaw when they feel like it. Or, as Mr. Bernanke is now doing, to lay it on thick.

Mr. Bernanke has created the opposite of the Fed-induced inversion today, because he has made the Fed-induced record steep yield curve! In fact, there's a 230% above-average return for banks on long term loans, as measured by the yield spread, which the banks are enjoying right now*. Of course, the Fed's argument is that without such a huge and unprecedented profit margin, the whole system would come crashing down because the banks would fail! They are half right--the banks would fail. But this system is already in shambles. This is clear: even as the banks are making record profits off spread lending with very limited risk exposure (or none at all if they are earning interest on reserves at the Reserve Banks), they are still fearing for their existence, and they are doing so for at least three reasons. Firstly, banks simply don't know how many of the new loans, and especially the older loans, one their balance sheets will fail. Even a record yield curve, when the spread is funding commercial, consumer, or mortgage loans, is only profitable when the loans are performing. Second, the banks don't know if the Fed will change its currently practically non-existent collateral requirements for all the heavy borrowing they are doing. If the Fed changes its currently liberal collateral terms, banks could find themselves without enough deposits or securities to offer as collateral for the advances, which would force them into the more expensive Fed Discount Window for emergency money. Thirdly, and most critically, the banks know that rates cannot stay at zero forever. If they make too many fixed-rate long-term loans at the current rate, they could find themselves paying more to fund the loans short-term than they are actually making long-term.

Banks, despite this currently easy money, are now actually anticipating a decrease in the real value of the money they make from cheap loans, and the steep yield curve which would normally be indicating profitability and confidence is being tempered by a realistic acknowledgement that the short-term Treasuries--at their record low yield supported by the near-zero Fed funds rate--must, must, must go up, its just a matter of when. There's the problem. The banks don't know what that 2-yr note will cost them in two-years, they just know it will be more. So in response, they are building in inflation. And we know this because they are saying it with their purchases and their actual statements.

As for their statement through purchases, short-term paper is looking ever more appealing. The Treasury is not having any problem selling the short-term debt (3-month, 6-month, 12-month, and 2-year). Its the longer-term 10-year and especially the 30-year that isn't so red-hot right now. In fact, yesterday's (Decemeber 15, 2009) auction was characterized by some "sluggish bidding" which pushed the 10-year note on the secondary market to 3.6%, the highest level since August. Interestingly, just last week, and in anticipation of the auctions, the 10-year moved up slightly, sending the yield down a tad from 3.48% to 3.43%. Conversely, by the time of the actual auctions, buyers had a change of heart--perhaps because by this week, they'd seen better estimates on the latest inflation numbers, the Consumer Price Index (CPI), and seen the actual numbers on the Producer Price Index (PPI). Yesterday's auction came after the release of the PPI numbers--which were much higher than economists' estimates and which indicated an inflation blip: producer prices soared by over 1.8% in November alone. Long-term Treasuries already offering only record low-yields look even less attractive after a number like that.

Today, the Consumer Price Index numbers were released. Last weeks' estimates on what to expect were hoovering around December 16 CPI numbers indicate a 0.4% rise in prices in November, 1.8% adjusted over the year. The Bloomberg economists' survey was expecting 0.1%. Both numbers are unexpectedly high.

Looking at November's PPI and CPI, anyone with realistic inflation expectations knows that a measly 4.51% on a 30-yr bond when a single month increase in consumer prices of 0.4% and producer prices of 1.8% is not going to help you one little bit. In order for interest (pun intended) to return to the long-term side, the yields will have to move up. Either the market will do this, or the Fed, or both. Meanwhile, as the interest in long-term debt dries up, the price will necessarily do down, and the yield curve could widen even more. Banks are holding short-term and cash. Why would any investor--unless it was a bank with access to the cheap Fed money-- be buying up long-term Treasuries at this near-zero Fed funds rate, when he knows that he will necessarily be hit when the Fed eventually increases rates? Why would he lock himself into the record low yielding return of the current long-term Treasuries, instead of waiting for the rates to increase and them buying the higher yield? And likewise, why would the banks, who do have access to the cheap money, use it to purchase long-term debt and thus contribute to a decrease in the yield spread buy increasing the price (decreasing the yield) of the long-term Treasury?

It is a standoff of sorts. The bond vigilantes cannot access cheap borrowed money from the Fed funds, and so they are not making a record spread--they are getting killed! While the banks this year have been profiting with a 2.75% average spread yield on their borrowed-money Treasuries, the people who actually held the Treasuries have been hit by over negative 2% . Investors are not stupid--the are going to shy away from the long-term debt until it starts rewarding them for holding it. And the banks are not stupid either--they are not going to contribute to a decrease in the yield spread that is making them money. The demand for long-term Treasuries is softening, which, of course, means that the Treasury is having to sell them at slightly higher yields to the reluctant purchases, which is, of course, further increasing the difference in yield between the short-term and long-term, thus steepening the curve. Simple, right?

Right. By November 30, the gap in the 2-year/10-year Treasuries was at 265 bps. So how does that stack up the normal 2/10 spread? Amazingly, it is DOUBLE the 20-year average of 115! Its actually well over double--its some 230% over the 20-year average! Indeed, if I was a banker, Mr. Bernanke would be my "Person of the Year!"

But maybe only for this year, as that inflation monster looms. When banks start anticipating inflation--which are themselves experts on the topic through their happy contribution with fractional reserve lending and leverage--and when banks start getting perhaps a little scared about it, you know we're in trouble. From the November 30 Reuters article:

"This would normally be viewed in a positive light as a "steep" yield curve -- higher yields on longer maturity Treasuries than their shorter-dated issues -- usually signals market expectations of steady economic growth and an environment where banks can lend profitably. Under the current near-zero rate regime, however, this unusually steep yield curve undercuts those expectations. It instead reflects anxiety over the timing of a Fed rate increase and an uneasiness that it will keep rates too low for too long and cause a resurgence in inflation.

Concerns of rising interest rates have persisted despite the Fed's pledge it will keep borrowing costs at record lows for an "extended period" until a recovery is sustainable.

These nagging worries have fueled demand for Treasury bills even though they are yielding close to nothing, while bidding for longer-dated Treasuries has been uneven at auctions.

"There are longer-term concerns about fiscal and monetary inflation," said Jim DeMasi, chief fixed-income strategist with Stifel Nicolaus & Co. in Baltimore."

Yeah, you think?

Better snatch up whatever you can with that free money before it runs out, and hold on, banks. The latest report (November 30) by Bloomberg on the subject determined that US banks increased their purchasing of US Treasuries with Fed-borrowed money by 26%. US banks, according to the latest December 2009 Federal Reserve Report (pg 27, or pdf pg 34) hold $165 Billion in new Treasuries. The same page also indicates that the same banks dumped about $380 Billion in agency/GSE paper, much of which was sold to the Federal Reserve (and this agency/GSE paper outrage is another report entirely, which will be forthcoming). But now you can be happy that the banks are raking in 230% above average returns on loans, all thanks to the Federal Reserve Chairman and "Person of the Year," Mr. Ben Bernanke.