Is There A USD Shortage? Will It Sink the Global Economy? Again?

Reader Patricia is wondering about a recent ZeroHedge article, Draghi's Goal: Higher inflation and Negative Yields; ECB’s Asset Purchases to Outstrip Supply 3-1; Is There a Catch?

That interest rates are negative in Germany for every duration from one month through six years (only two basis points from seven) speaks for itself. There is no demand for loans relative to supply of euros from the ECB.

All Draghi has done is shove more risk down the throats of various national central banks. The result is banks in Spain are stuffed with Spanish bonds; Banks in Germany are stuffed with German bonds; Banks in Portugal are stuffed with Portuguese bonds.

The ECB is taking on 20% of this risk of Draghi's 1.1 trillion bond buying spree. Countries have 80% of the risk. Bond traders front-ran the trade. They are all betting on increasingly negative yields. No one wants credit. Why is that?

Reasons for Lack of Lending

1. There is too much debt in the system
2. Creditworthy businesses do not want to expand in a deflationary world
3. Banks rightfully do not want to lend to credit-unworthy customers
4. Banks are still capital impaired in spite of what stress tests say
5. You cannot fix a debt problem with more debt

There are no other possible reasons that would explain the setup we are in. It is not a matter of confidence as Draghi believes.

QE Baton

Given that Bernanke and Yellen somehow managed to pass the QE baton to Japan and the ECB, it is entirely possible the US dollar soars to unimaginable heights. Some might think we are already there.

At some point however, this will reverse. And it may not take much to do it.

Let's step back one more time with a simple question. Why is there an overwhelming belief in dollars?

Three Reason for Belief in Dollars

1. Most believe the Fed will hike
2. The US stock market is rising
3. US interest rates are higher than Europe and Japan

Point number one is quite suspect. Yes, the Fed may very well get in a hike or two (or not). But if the Fed does not hike as much as expected, demand for dollars will likely sink quite rapidly.

Also consider point number two. Not only is the US dollar rising, so are US stocks. This creates a huge demand for dollars and various carry trades.

Right now, US stocks are a one-way and massively one-sided trade.

Point number three is likely to stay that way. But, it is relative moves and directions of moves that matter. In effect, if point number one disappoints, so will point number three.

Same as 2008 or Opposite?

The US dollar index is at roughly the same level as in 1998, also 1988 (not shown). The peak in 1985 was 164.72. The peak in 2001 was 121.21.

Lehman Bankruptcy

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On September 15, 2008, Lehman filed for bankruptcy. The dollar bottom was in April of 2008, at 71.33.

At that time, anti-US$ sentiment was massively in vogue.

The Schiff's of the world were screaming hyperinflation. Today, US hyperinflationists are thoroughly discredited and in hiding.

Today, nearly everyone loves dollars and hates gold. Dollar swaps that were not in place then, are in place now. All things considered, conditions are nearly the opposite of 2008.

Swaps vs. Alphabet Soup

The Fed did not save the world with swaps.

Historian will surely debate Bernanke's policy moves for the next century. Bernanke did initiate a huge number of lending programs (cleverly dubbed "Alphabet Soup" by Bloomberg columnist Caroline Baum).

Those lending programs eventually revived the corporate bond market in 2009. One of the programs was dollar swaps. It's debatable if that was the key program.

If one wants to ignore all Bernanke's mistakes that led to the crisis, and give him credit for "Alphabet Soup", so be it. In fact that will be the nature of the future historical debate, and I doubt history will be so kind.

Expect New Script

The next crisis is highly unlikely to follow the 2008 script, because the 2008 script is what central banks have prepared for.

Bernanke, followed by Yellen, then the Bank of Japan and then the ECB have all carried competitive QE madness so far that a currency crisis is now baked in the cake. No one see its because it will not be "obvious" until long after it happens, just as with the dot-com bust and the housing bubble.

Central banks always strive to prevent the last crisis. In doing so, they plant the seeds for the next crisis. Unwarranted and counterproductive global QE is highly likely the seed for the next crisis.

Written By: Mike (Mish) Shedlock