A pending Eurozone implosion and How Inflation appears in disguise: The Euro/Peseta price of Spanish Coffee

9/14/2011 Portland, Oregon - Pop in your mints…

What a week it has been, and we are only halfway through it!  Societe Generale, BNP Paribas, and many other European banks are bracing for the impact of a pending Greek default which would likely be followed in short order by an Irish, Spanish, Portuguese, and possibly Italian default as club med prepares to give the collective finger to their German, ECB, and IMF taskmasters.

There were rumors that BNP could not borrow dollars yesterday and today we saw why.  The large French banks, of which BNP at $2 Trillion in assets is the largest, collectively hold assets of $8 Billion, which is four times France’s annual GDP.  This, in theory, makes nationalization of these banks impossible and the meager, strings attached handouts offered by China are of little comfort.

Zerohedge.com posted an excerpt of a report by Jeffries which spelled out a probable endgame scenario in Europe which involves sloppy nationalizations of the financial sector and a repudiation of the Euro by the defaulting countries in order to print the drachmas, pesetas, liras, etc. necessary to make good on the newly nationalized banks’ liabilities.

The PIGS have nothing to lose at this point and it will be EUROUGLY for those who cling to the Euro. 
We are all preparing to learn a great lesson about faith in paper currencies and it looks like for the Europeans, class is in session.

Yesterday, we were attempting to explain the concept of inflation coming in disguise.  We speculated that the disguise would come in the form of a “10:1 reverse split” being declared for the current USD.  In other words, a new US Dollar would be introduced which would be worth 10 old US dollars.  We left off with a question, “What’s the big deal?  Why does this matter?”

At this point, our rational readers are thinking to themselves, ”Big deal, so we get rid of the penny and nickel production cost problem, learn to move the decimal place in our thinking, and happily move along with life, right?”

This, of course, is what most monetary and governmental representatives think as well.  It makes the move almost a no-brainer.

We must beware of the money changers!  They seem innocent, yet are wolves in sheep’s clothing.

Yes, fellow taxpayer, under the reverse split scenario, dollar holders will be robbed.  Quietly, and, if not for the following humble explanation, completely unaware.   It is as Keynes famously said:

“The best way to destroy the capitalist system is to debauch the currency.  By a continuing process of inflation, governments can confiscate, secretly and unobserved, an important part of the wealth of their citizens”

(Editor’s note: today inflation is accepted as “sound” economic policy thanks to meddlers such as Mr. Keynes.)  

How, then, will dollar holders have their wealth confiscated?  A change like this initially robs those who can least afford to be robbed, the poor.  And the thievery is made all the more sinister because the thieves employ unwitting merchants and tax collectors with which to fleece them.

The following is a practical example of how the theft will take place: 

Inflation explained in the new Euro price of Cafe con Leche

One would be hard pressed to find a more suitable and pleasant example if instant price inflation than that of the Spanish cup of coffee, pleasantly sipped at mid-morning with friends and colleagues.

This cup of coffee, a constitutional right of Spaniards for generations, could be enjoyed for a mere 100 pesetas circa 1995, in the era before the peseta was to be pegged and converted into the then conceptual Euro currency.

This 100 peseta price held more or less firm until the Euro coins began to circulate in 2002.  The Euro/Peseta conversion rate had been pegged at 166.386:1 in 1995.  In 2002, the same cup of coffee was now 1 Euro, an overnight 66% increase.

The numbers may not be exact but you get the point.  Currency changes offer a grand opportunity for price adjustments at the lower end.  While on the surface, it appears that a cup of coffee that costs 1 monetary unit compared to one that costs 100 monetary units is an improvement.  In fact, considering that many wages remained stagnant, it represented a considerable deterioration of overall purchasing power.

To this day, many Spaniards think of prices for larger items such as cars and houses in terms of pesetas.  It is one thing to be duped on the value of a cup of coffee, quite another to be duped on the value of a car or house. 

For a time, asset prices there did indeed rise as an indirect result of people fleeing the inflation caused by the change to the Euro.  However, the devil of inflation is in the details.  An overnight 66% increase in a cup of coffee can eat into a laborer’s stagnant wages quickly. 

Once the transitory asset price increases have been burned through at the café, one is left with a nation that is collectively poorer and unable to make economic decisions because of these types of stealth price shifts.

Returning to the probable US Dollar reverse split, we can see that a 10:1 change from old to new dollars would likely result in a cup of coffee going for a nice round quarter (or 25 new cents).  Which sounds like a trip back to the 70’s until you consider that we are talking about $2.50 of the old dollars for a plain cup of coffee which could be had for $1.50 before the switch.

One can rest assured, employers will be mindful to move the decimal point and nothing more on wage calculations.  Voila!  Overnight poverty, all with the stroke of a pen. 

While one may hold out hope that any change in the monetary unit will be price neutral, the Spanish example shows us that lipstick on a pig does not make it any prettier, and coffee at 1 Euro is no tastier than it was at 100 pesetas, just more expensive.

We pray that you will prepare yourself by saving in gold and silver coins, which will retain and perhaps increase their relative value under such a scenario.  Under current conditions (and probably more so after the G-7 begin to their coordinated action) anything that cannot be created by government decree, to paraphrase Michael Pento, will be preferable as a savings vehicle to the US Dollar.

Stay tuned and Trust Jesus.

Stay Fresh!

David Mint

Email: davidminteconomics@gmail.com

P.S.  For more ideas and commentary please check out The Mint at http://www.davidmint.com/

Key Indicators for September 14, 2011

Copper Price per Lb: $3.90
Oil Price per Barrel:  $88.94

Corn Price per Bushel:  $7.24  
10 Yr US Treasury Bond:  2.01%
FED Target Rate:  0.09%  ON AUTOPILOT, THE FED IS DEAD!

Gold Price Per Ounce:  $1,815 PERMANENT UNCERTAINTY

MINT Perceived Target Rate*:  2.00%
Unemployment Rate:  9.1%
Inflation Rate (CPI):  0.5%!!!   UP 0.7% IN ONE MONTH, 8.4% ANNUALLY AT THIS PACE!!!
Dow Jones Industrial Average:  10,992  TO THE MOON!!!

M1 Monetary Base:  $2,181,100,000,000 RED ALERT!!!
M2 Monetary Base:  $9,456,000,000,000 YIKES!!!!!!!

The Disguise, Greece plays roulette with the Eurocrats, How inflation will express itself in USD Prices

9/12/2011 Portland, Oregon - Pop in your mints…

The moment of truth is approaching for Greece.  Today the headlines flashed that the markets were pricing in a 98% chance of the Greeks defaulting on their sovereign debt.  A great lesson is about to be learned.  Is anyone paying attention?

The great lesson is the following:  Reliance on governmental and/or central bank action to stave off a default is not a sound strategy.  You may get lucky once, twice, even three times.  If one is particularly unfortunate, the strategy may even work many times in succession.

Gambling on Government intervention

The government reliance strategy is like idly watching spins a roulette wheel with all your chips on red.  With enough spins, the ball will eventually drop on a black.  Think of it as the governmental version of a black swan.

In the case of Greece, who abandoned its 2,000 year old currency to join the Euro club, there seems to be a lack of political will to ink the rubber stamp which approves the Greek’s next ration of Euros.  The taskmasters of the Eurozone are starting to realize that each time the stamp is inked, the sewage of Greek finances leaks a little further into their well. 

The populace is starting to get sick to their stomach, as are large banks on both sides of the Atlantic.  The French banking giants are queasy because much of the Greek debt is on their books.  In the New World, where about half of Greek debt is insured, the banking giants are getting nauseas.  It is the nausea of a drunk man realizing he will be stuck with the bar tab after his buddies sneak out of the tavern.

Meanwhile, as the politicians and central banks continue to bungle their way through this information, the market has already priced it in.

“Priced in?”  Astute, shocked, and astounded readers are surely thinking, “Then where is the crash in stocks and bonds?” 

Astute readers, of course, are right.  There is a crash occurring right now in stocks and bonds.  However, bond yields are down and the stock market is up because the crash is occurring against the backdrop of rapidly depreciating currencies and as such, the debauched currencies are disguising the crash.

The Disguise

Astute readers now have a collective light bulb in their head illuminating as they clearly see that inflation in consumer prices is set to accelerate in the near future.  Naturally, this obvious inflation would not be tolerable and as such must be masked in order for the general public to peacefully accept it.

For this acceptance to peacefully take place, the inflation must come in disguise.  Here is what is likely to occur once the loosened up monetary policies of the FED, ECB, BoJ, and BoE are in sync (with apologies to the 1990’s boy band):

The Debauched Dollar in disguise

A new dollar will be introduced with a convertibility ratio from old dollars of 10:1.  In other words, each current dollar will be the equivalent of a new dime.

Voila!  No inflation here.  The new and improved dollar now buys more than ever! 

Why choose a 10:1 ratio?  There are two compelling reasons for the US Currency to go through a reverse 10:1 split.  First and foremost, it is simple.  Since a majority of the world’s commerce is conducted in dollars, the disguise must be mathematically simple.  What could be simpler than moving a decimal place?

The second reason is less obvious but perhaps more compelling from the point of view of the monetary authorities.  The disguise would immediately eliminate the need for pennies and nickels and increase the demand for dollar coins.

At this stage in the game, it costs the US Mint more to create pennies and nickels than they are worth.  While we are not certain of the exact numbers as of today, some estimates have the value of the metals needed to create a nickel valued at $0.07 while the metals needed to create a penny are valued at $0.012.  This is before considering the energy and equipment necessary to strike the coins and distribute them.

At current metal prices, which are unlikely to drop in the near future, the US Mint is producing nickels and pennies at a loss.

This embarrassing detail makes the purchase of nickels and pennies a better risk free investment than US Treasury Bonds, the world’s current safe haven of choice.  The metal premium for Platinum, Gold, and Silver coins is widely known.  At some point, nickels and pennies will disappear from circulation and their metal premium will take precedence over their face value. 

Still, one may ask, “What difference does it make?  This 10:1 switch sounds like a great idea.  I’m sick of pennies!”

Oh, if only the switch were price neutral, it would make no difference at all.  How, then, do the stock, bond, and almost every other market continue to rally in the face of questionable macroeconomic fundamentals?

Tune in tomorrow.

 Trust Jesus and Stay Fresh!

David Mint

Email: davidminteconomics@gmail.com

P.S.  For more ideas and commentary please check out The Mint at http://www.davidmint.com/

Key Indicators for September 12, 2011

Copper Price per Lb: $3.97
Oil Price per Barrel:  $88.19

Corn Price per Bushel:  $7.34  
10 Yr US Treasury Bond:  1.93%
FED Target Rate:  0.09%  ON AUTOPILOT, THE FED IS DEAD!

Gold Price Per Ounce:  $1,814 PERMANENT UNCERTAINTY

MINT Perceived Target Rate*:  2.00%
Unemployment Rate:  9.1%
Inflation Rate (CPI):  0.5%!!!   UP 0.7% IN ONE MONTH, 8.4% ANNUALLY AT THIS PACE!!!
Dow Jones Industrial Average:  11,061  TO THE MOON!!!

M1 Monetary Base:  $2,181,100,000,000 RED ALERT!!!
M2 Monetary Base:  $9,456,000,000,000 YIKES!!!!!!!