The pre-requisite of a growing economy is debt growth. As influential economist, Paul Krugman points out, the UK's strategy of an austerity program to create an expansionary economy has failed. David Cameron, the UK's Prime Minister, said that if the market saw that the UK was reducing their indebtedness, then the private sector would respond positively. Krugman points out that the post GFC recovery for the UK and Italy is worse than that of the Great Depression. Fortunately, the US did not follow the same austerity measures, maintaining Government spending, and thereby avoiding another economic contraction. Encouraging the maintenance of Government spending is labelled as a Keynesian response that is often derided. But Government spending is somebody else's income, and as the UK has witnessed, reducing Government spending has added to the contractionary forces in their economy.

The economic growth in Australia from the early 1990's to 2007 required total annual debt growth of between 10% to 16%. Currently, private debt annual growth has recovered from a near zero to the current 3.6% rate. The direction looks positive, but our Government is committed to reducing their debt growth to zero over the next two years. So total private and public debt growth is moving sideways at 6% per year. Given the austerity measures in the UK and Europe this is not a bad result. The terms of a Greek debt bailout will necessarily involve a commitment to ongoing austerity in that region, which will probably mean that things in Australia will unlikely improve. And for fans of Steve Keen's "credit impulse" concept (the rate of change of the growth of debt ie the acceleration of debt), the acceleration is negative.

The 3 year Government bond rate is currently 3.19%, which is more than 1% below the official cash rate. These interest rates are not predictive of a growing economy. Expect interest rates to continue to fall, which will be supportive of our debt infused economy, albeit that the banks will not pass on the full cuts.

Michael Cornips



 

I have received some questions on bank funding costs:

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WBC on Tuesday priced a new 3.1 billion Australian dollar (US$3.26 billion) five-year covered bond. The deal, which priced at 165 basis points over swap, comes in slightly below a recent offering from Commonwealth Bank of Australia, which priced an A$3.5 billion deal at 175 basis points over swap. Even so, the wider pricing than had been expected by analysts for both deals highlights a recent blowout in bank funding spreads.

What does it mean they priced a new bond?

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Answer:

A bank wishes to issue a new security, in this case $3.1 Billion 5 year maturity bond. The bonds are registered in a central clearing house, in this case, in Australia, it is called Austraclear. This is like listing a security on the ASX, with the security register being managed by Computershare. Every purchase and sale is registered by Computershare to record the current ownership. Austraclear similarly registers the transfer of ownership. The minimum parcel size might only be $100,000 or $500,000, so not making it ideal for retail investors. (you notice that there are very minimal purely debt instruments listed on the ASX, making it hard for retail investors to have access to trade-able fixed interest investments).

The bank then approach underwriters for the new issue, exactly the same as underwriters trying to place an IPO eg QRN. The underwriters gauge the interest in the market from institutional investors to assess a reasonable price where all the securities can be placed. So pricing an IPO is the same as pricing a share. The fixed interest market talks in terms of "Yield" rather than "Price". So the terminology is that a bank has paid, for example, 5.5% fixed for 5 years, rather than a dollar price".

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What is the swap for and why is the swap important, or more correctly, the rate difference?

Answer:

When you here the term "5 year swap rate" it is just terminology that means a base rate for a 5 year term that banks would lend to each other over the period. The origin of the word "swap" can be seen in the context that a bank has a lot more ability and liquidity to be able to borrow for 3 months. So if it is easy to borrow for 3 months, but you want to lock in a rate for 5 years, the Institutional market developed a "swap" market where a bank swapped their 3 months' borrowing costs with a counterparty for 5 year borrowing costs. No principle changed hands, just interest payments. The bank would pay every 3 months for 5 years variable interest rate payments. The swap would ensure that each interest rate payment is adjusted back to the agreed fixed 5 year rate.

Varying maturity swap rates are published daily. This swap market is a multi-trillion dollar hedging and speculative market.

So when a bank or any corporate wants to borrow for, say, 5 years, they pay the base "swap" rate plus an extra margin. There are over 600 Government, bank and corporate bonds traded in the Australian market. There are bonds from the Federal Government, State Governments, Local banks, overseas banks, and corporates like Telstra, Caterpillar Finance, AXA, Coles-Myer etc. They all trade at varying margins, depending on perceived risks like credit or liquidity risks.

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What's a covered bond, covered by what?

Up until very recently banks only borrowed on an unsecured basis. They always wanted to use client mortgages to further secure the bonds to get lower funding costs. The regulatory body, APRA, refused to give their permission because they said that all the assets of the banks must be available to repay depositors. After plenty of lobbying a solution was arrived at. As everyone knows, the Federal Government has provided a Government guarantee to borrowers up to $250,000 per borrower. That means a small credit union deposit is now as secure as a deposit with one of the big banks. Now that all the banks assets were not needed to cover client liabilities, the banks were free to pledge some of their mortgage assets to "cover" their bond issuance. Hence the term "Covered Bonds".

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If it's covered by bricks & mortar, is this like the dreaded CDO that brought the world to its knees?

No. I believe APRA is probably one of the best and more conservative regulators in the World and they are constantly monitoring banks to ensure pledging of assets is not excessive. And again, the depositors are nearly all guaranteed by the Government. And the Government is one of the the least indebted Governments in the World.

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Does this mean that Westpac and CBA now have $3.1bn and $3.5bn to lend to eager borrowers?

Not really. My believe is that people borrow first, so any credit worthy customer has already been approved. The question could suggest that because of the new borrowings the banks would reduce lending guidelines to lend more, but this is not happening.

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Following on from my previous query about the RBA cash rate (thanks for answering that question so beautifully), since these are only 5-yr bonds, does it mean they have to go through this exercise again 4-5 more times for someone's typical 25-30yr loan?

Strictly speaking you are probably right. Banks would be managing their balance sheets on the basis of a pool of assets and a pool of liabilities. They would be targeting an average maturity of their liabilities (amongst other attributes) and would be continually assessing funding opportunities. Many banks have been caught lending for long terms and borrowing for short terms, but this is imprudent.

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I've been reading on BB news all the talk about treasury stuff, and I guess they keep using all manner of terminology they assume the reader is familiar with. I can't remember the most recent article, but it did talk about Treasuries , and Notes . Are they one and the same?

Securities that have less than a year to maturity and pay interest on maturity would generally be referred to as Government Treasury notes in Australia. In America they would be referred to as "Bills", short for Bills of Exchange.

In America, securities with less than 10 years to maturity and pay a periodical coupon would be referred to as Treasury Notes.

Because of some interchangeability of definitions and what country the article is coming from, it is probably best to ignore words like "notes", "bonds" etc, and look for the maturity they refer to.

Regards

Michael Cornips

 

More and more often everyday conversations move onto how cheap it is to buy online. The internet revolution has brought to the average person a means and an ability to realise that purchasing goods from overseas is simply a click and a shipping agent away from consumer bliss. But, as usual, what is good for the individual is not good for the economy. Businesses have been abandoning local supply chains in favour of low cost countries for decades. But as businesses have trained the consumer to buy overseas products, the internet has reduced the barriers for the individual to circumvent local businesses. The trend is accelerating. Initially, local jobs that make the products were lost and, just as importantly, the myriad of supply chain logistics and complimentary businesses were lost. Now the businesses that do the importing are being threatened as the consumer goes direct.

The pricing differences between what we pay in Australia and what goods cost overseas is compelling. This is best demonstrated by suppliers that have monopoly pricing power and can still charge premium prices, i.e cars. The recommended retail price of a base Porsche Cayenne is $48,200 in the US. The price in Victoria Australia is $105,000, excluding 10% GST and 4% Stamp duty (Source: Porsche Australia). Even with the luxury car tax for values above $57,000, the profit margin is enormous. But you can only buy Porsches from Porsche. The pricing differential is similar other luxury car makers. When consumers can, it is no wonder they try and go direct.

Source: www.porsche.com/usa

I was speaking with an acquaintance who sells nail guns to the building industry for $700 and employs 14 people. The same nail guns can be imported for less than half price, but at this stage not all customers know or care enough to import directly. But the barriers to entry for anybody to arbitrage this price difference away is open to anybody. When I was in India, Royal Enfield motorbikes were selling for around $2,000 there. In Australia the cost is $7,000 plus. It costs Apple $8 to assemble the iPhone in China, but if it were built in the US the cost would be $65. Read article.

The Age newspaper this morning is leading with Toyota slashing 350 jobs from its Altona car plant. It says "Toyota Australia president Max Yasuda said falling international demand for Australian-built Toyotas resulting from the high Australian dollar had triggered the decision. The move sparked fears the job losses could snowball through to the parts supply industry, whose viability, and 40,000 jobs, depends on the number of cars made locally". The losses are despite $100m of assistance from Government. The Herald-Sun newspaper today lists the various jobs that have been lost in Victoria - see here.

China is committed to be the world's factory and India is committed to be the world's back office. Jobs in the financial service sector (that is not client facing) have every possibility of being exported overseas. When I spoke to Citibank yesterday it was to a call centre in Manila.

You cannot blame individuals in trying to save money, I certainly try to do so myself. But the long term implications are clear. Australia needs to define itself for the future and it needs government policies that recognize and tackle the growing crisis.

Michael Cornips

I have just returned from nearly 4 weeks of travelling in India with my family and some friends. We covered quite a bit of the country, travelling as far north as Kashmir, at the base of the Himalayan mountain range, and down through to Delhi, Agra (home of the Taj Mahal), Udaipur, Mumbai and the beach resort town of Goa. Of course it was really a business trip, so I took particular interest from an economic perspective of one of the most populated countries in the World (about 1.2 Billion people).

India has 2.4% of the World's land and 15% of the World's population. 70% of the people live in over half a million villages and the rest in about 200 towns and cities. Over 80% of the population are Hindu, 12% Muslim, Christian and Sikh about 2% each, and 1% represented by each of Buddhists and Jains. Inquiring about what the local wages are, we were told wages start at about $100 to $150 per month. Good Government jobs pay about $300 per month. Newspapers were talking about recent wage negotiations with the Coal industry's Trade Union. The average wage for a coal worker is $AUD 157 per month. This compares to mining jobs in Australia paying $8,500+ per month, and more likely double that given the demand for workers. Indian coal workers are asking their pay to be increased to $300 per month. Our guide in Mumbai told us that there is a shortage of teachers in India, as they are being attracted into the burgeoning call center industry that is paying much higher wages. Note the recent reports in the Australian press regarding a crisis over white collar jobs being lost and the Banks talking about loses of thousands of local jobs to cut costs. The Indian locals proudly say that 'as China is the World's factory, India seeks to be the World's back office'.

I also noted the lack of wage security in the country i.e. no workers' rights. The airline industry in India is hemorrhaging loses as the multitude of discount airlines compete for business. Airline workers complain of not being paid at all since last November. One airline unilaterally reduced the wages of trainee pilots from $2,260 per month to $943 per month to cut costs.

India's growth characteristics seem similar to that of China's. There once was hope of normal economic growth of upwards of 10%, but recent figures reflect that this number has slipped below 7% and industrial production numbers released in December showed a decline of 5% from the prior period. India has followed the example of any well trained IMF economist and has been lifting interest rates to scare away the inflation bogey. With official interest rates at 9% and their export market challenged by austerity measures, it is puzzling that India is surprised that their economy has contracted. Personally, I believe that lifting interest rates should be to reduce excess demand. India's rising food prices does not make it self evident that inflation due to increased demand is occurring, rather there may be structural factors in poor food supply chains. No matter how much you raise interest rates, people will not buy less food, heat their house less or educate their children less.

India does not particularly have an open economy like Australia's. Reports in are in today's paper that China is buying up Australian land. A foreigner in India cannot own property outright in the country. The ruling coalition agreed to allow foreign supermarkets into India, but the proverbial hit the fan forcing the decision to be reversed within two weeks. You see the occasional KFC or McDonalds in the big cities, but there aren't many. At Christmas, for the first time, India allowed foreign investors the ability to own shares listed on the Sensex directly, rather than through managed trusts. Unfortunately the process to establish the facility is quite convoluted and will probably put off the average investor.

The newspapers in India report constantly on the graft and corruption in the Indian political system. You would think that voters would be concerned about the corruption, but as newspaper editorials point out, although there is some outrage, the fragmented political process of minor parties prefers to leverage the status quo, as it is the only way to get things done in their local areas. Don't fight 'em... join 'em. Being incarcerated for political corruption does not stop you from running for election from jail, nor does it stop the major parties from endorsing candidates that have been previously been charged and convicted of corruption.

As the chances of reform are slight, the country is caught in the headlights of a contracting World economy that is putting pressure on their current account deficit. Funding that deficit with international capital is causing massive pressure on the exchange rate. Three years ago one Australian dollar bought 32 rupees. Today the rupee has fallen to 53 rupees to the dollar, having touched a low of 55 at Christmas.

The Indian economy is one of momentum. In 20 years it probably will be the biggest economy in the World given the better demographic profile of their population compared to China. Even though the economy is currently facing challenges, the long term prospects makes you optimistic about the investment potential.

At the local worker level, I also came away more optimistic than I expected. As most of the population is what you would consider poor, you cannot help but notice the good nature, enterprise and friendliness of the average person you meet. The economy may be contracting, but you do not notice it in the local towns you move through. When there is a contracting economy the crops do not stop growing. The majority of enterprise is selling food and clothing, the basic needs of life. The use of refrigeration is not widespread, so everything local is fresh. There is no debt or mortgages, so rising interest rates only affect the aspirational middle class and wealthy, as a percentage of the population that is not many. Living conditions can be described as the most basic at times, but you couldn't describe them as unhappy.

India exposed to me a world without the debt disease and the economic cycles debt seems to produce.

Michael Cornips

Federal Government taxation figures were released for data up to 31st October 2011. The annualised budget deficit is about $41 billion, and heading down. Interestingly taxation receipts in the major categories of Individual tax, Company tax and Superannuation paints a more positive picture than what is otherwise a more sombre market. You may not believe that higher taxes are a positive, however if individual taxes are on the rise it is not because there is an increase in the tax rate, but that more wages are being paid that in turn attract higher taxes.

Individual taxes are growing at an annual rate of 10.9%, up from a growth rate of 4% at the start of the year (see chart below).

Company taxes are growing at 8.7% per annum, reversing a negative trend over the course of this year (see chart below).

Superannuation taxes are growing strongly at 44% per annum, albeit off a low base (see chart below).

The increase in taxes appear to be the sign of a healthy economy. This is in stark contrast to the extremely negative sentiment that retail stocks are suffering, including the continuing malaise in Europe. In a debt inflicted economy like ours it is good to note that Australia's interest rates are on the way down. As we speak, I can see that the 3 year Government bond rate is 2.99%. With a cash rate of 4.25% it would suggest there is a long way for the cash rates to move down. The 10 year bond rate is currently 3.7%. You would need to go back to the 1950's to see rates like that. In 2008/09, as interest rates headed down, the increased cash flow went straight into borrowers' pockets. Combine that with healthy wage growth, indicated by increased taxes, and this suggests that people are slowly repairing their personal balance sheets.

If you took away the large negative of a dysfunctional Eurozone you could find real reasons to be more optimistic about consumer sentiment.

Michael Cornips

 

Here is a question from a reader:

Why is the RBA rate is "so important when the banks keep claiming that the majority of their funding is from overseas? This is the main excuse for the differences between the RBA changes and the bank's changes.

1. Why don't the banks rely on the RBA as their principal funding source?


2. The RBA can't actually run out of money, so why the need to get funding from overseas, which presumably is subject to currency fluctuations?

The job of the banks is one of transformation: transform maturity of debt, provide liquidity and transform counter party risk.

Banks commit to lending to clients over a 30 year period. This is obviously a long term maturity. The Reserve Bank generally will only lend over very short periods of time - 1 day to a few months. Similarly, a bank could borrow from a large superannuation fund for a month or a fixed term deposit, but it certainly could not match the term of maturity they lend to borrowers. There is obviously a maturity risk here. For example, the bank's average lending maturity may be 20 years, but their deposits may only have an average maturity of 3 years. Banks must manage the maturity risk between a Superfund depositor and a home borrower. When they got into trouble in the GFC, and less so now, banks found it hard to rollover their funding and had to go to the Reserve Bank. By borrowing short term from the Reserve bank, the banks shortened their average debt maturity, which is seen as risky.

A home borrower would find it impractical to borrow from a retired investor for a shorter term for obvious reasons of counterparty risk, the borrower may not be able to repay on maturity or if the investor changed their mind.

So the banks' main job is to find investors who want to lend for longer periods of time compared to only the ultra-short time periods the RBA is prepared to lend.

Borrowing Overseas - The RBA reports on figures of how much Australian banks borrow from overseas. That figure is split between funds that are borrowed in Australian dollars and funds that are borrowed in a foreign currency. Borrowing from an overseas company based in Australian dollars is exactly the same as borrowing from a domestic entity. Overseas companies that lend in Australian dollars may be less prepared to lend for longer maturities when their view on Australia becomes less optimistic, so by its nature is "hotter" money.

An Australian bank may be able to find it a lot easier to find "maturity liquidity" by borrowing in a foreign currency. So for example, ANZ could borrow 5 year US dollars. But they do not want the currency exposure. So as a separate transaction the bank does a currency swap. A currency swap, in this case, is selling the US dollars you borrowed today in exchange for Australian dollars and in the future buying the US dollars back and selling A$.

So now the bank has 3 very different risks. Lend to a home borrower for 30 years (interest monthly), borrow US dollars for 5 years (interest 6 monthly), and a currency swap. The currency swap liquidity may only come from speculators, so when the GFC hit and more recently, the currency swap lines dried up. This is why the US Federal Reserve offered unlimited liquidity swap lines, see here, here and here. When this 3rd leg of liquidity dries up everybody must term to Uncle Sam. When the GFC hit everybody thought the US currency would tank, but it did the opposite. Thats because European/Offshore investors had to rollover their currency swap lines because they already had the crappy assets (Mortgages) they couldn't sell, creating massive demand for US dollars.

So back to the 3 very different risks - the asset failed (mortgages), the currency swap lines dried up, and the banks still had their borrowings (hello short term lender of only resort Reserve bank borrowings).

So everything funnels through the short term RBA window to investors seeking longer tern investment preferences. Banks need to entice investors to longer maturities based on price and demand. Given that bank deposits are Government Guaranteed (up to $250k) there should be no counterparty risks.

 

Michael Cornips

 

Listed ASX MINIs are issued on the S&P500, Dow Jones, Nasdaq, Nikkei, Hang Seng and on the Australian 200 index. The MINI does not quote against the value of the index today, but against a futures contract, settling (currently) in December 2011.

If you are holding a MINI against a December futures contract, the contract needs to be rolled over when the December contract expires. The process is simple and seamless and does not affect the price of your MINI.

The issuer rolls from the front month (December 2011) to back month (March 2012) futures contract approximately 2-3 days prior to futures expiry:

The collapse of MF Global has highlighted the world of shadow banking with articles being written by Reuters, Zerohedge and Business Insider.

From Reuters: "How was MF Global able to 'lose' $1.2 billion of its clients' money and acquire a sovereign debt position of $6.3 billion - a position more than five times the firm's book value, or net worth? The answer it seems lies in its exploitation of a loophole between UK and US brokerage rules on the use of clients' funds known as 're-hypothecation'."

If a borrower pledges security to a lender, if you read the fine print of your contract with MF Global, then the lender has absolute authority without reference back to the borrower to re-use those securities to borrow on its own account. Like a daisy chain, the new lender in turn can re-use those same securities in an infinity squared fractional shadow banking system.

"Re-hypothecation occurs when a bank or broker re-uses collateral posted by clients, such as hedge funds, to back the broker's own trades and borrowings. The practice of re-hypothecation runs into the trillions of dollars and is perfectly legal. It is justified by brokers on the basis that it is a capital efficient way of financing their operations much to the chagrin of hedge funds." (Reuters)

The Canadian Government bans re-hypothecation, with MF Global customers getting their money back within 10 days. In the US, the rules allow the lender to utilize only 140% of the amount borrowed by the customer, which may be much less than the value of the security lodged. In the UK there is no limit and therefore is a free for all. The lax UK regulations encouraged US and European banks to establish their operations in London, circumventing stricter regulations in other jurisdictions. Reuters cites the IMF as saying that prior to 2007, banks had received $4 Trillion in funding from re-hypothecation backed by only $1 Trillion in securities. This is what Lehman Brothers had done, and when the spin cycle of money stopped the company collapsed, leaving investors wondering why their assets simply disappeared.

In Australia, Opes Prime passed legal title of borrowers' security to Opes Prime lenders. When Opes Prime collapsed clients realised that they had no claim on assets they previously owned, with the sale of the securities covering other liabilities of Opes Prime.

Reuters: "Engaging in hyper-hypothecation have been Goldman Sachs ($28.17 billion re-hypothecated in 2011), Canadian Imperial Bank of Commerce (re-pledged $72 billion in client assets), Royal Bank of Canada (re-pledged $53.8 billion of $126.7 billion available for re-pledging), Oppenheimer Holdings ($15.3 million), Credit Suisse (CHF 332 billion), Knight Capital Group ($1.17 billion),Interactive Brokers ($14.5 billion), Wells Fargo ($19.6 billion), JP Morgan($546.2 billion) and Morgan Stanley ($410 billion)."

This daisy chain of lending amongst the world's lending financial institutions creates an enormous amount of counter-party risk; if one institution should fail (Lehman, AIG, MF Global) then the only acceptable counter-party risk will be the Central Banks, as each bank avoids exposure to each other.

Australia would do well to regulate firms operating in this area.

Michael Cornips

The Federal and State Governments have increased their debt issues by $73.5 Billion over the last year (source: RBA). This is a $263 Billion increase since July 2007 for an outstanding total of $394 Billion. Federal debt being issued has slowed down, but not fast enough to return to zero by 2012/13. Hence the mid year budget that intends to ensure there is a surplus by spending cuts and savings of $5B. Add the States in though, the debt increase is currently on an uptrend. Modern Governments are paranoid about increasing debt, so as the Federal Government is overtly removing income from the private sector, rest assured the State Government will start cutting their budgets as well. Decreasing stamp duty from real estate transactions is also adding to revenue concerns for state governments. So with $73.5 Billion current Government spending providing income to the non-government sector each year, this income must be removed as Government budgets contract. Governments are very sensitive to rating agencies, so will add to the urgency.



 

With Government policy slowing down the economy, the RBA will have room to lower interest rates. The 3 year Government bond rate is 3.1%. That means the market believes that the average RBA cash rate over 3 years will be 3.1%. This is quite bullish on interest rates. For the average to hold true, and with the current rate being 4.5%, cash rates are predicted to go below 3%. Like anything, if you disagree with this view you could buy 1 year securities and short the 3 years bond futures. Governments need to withdraw income from the economy, but lower interest rates will certainly replace some of this income. Lower interest rates will adversely affect the savers in our economy, placing stress on secure retirement incomes.

Below is a indication of the reluctance of the private sector willingness to increase borrowings. Credit card balance growth is approaching the lows of the 1991/92 and 2007/08 recessions. Given the worldwide commitment to austerity (cut government spending/cut private sector income) there is unlikely to be a private sector debt growth recovery.



Michael Cornips

This morning the 10 year bond rates broke through the low set in January 2009, touching 3.91%. Predicting the upcoming inflationary surge due to global money printing has been a consistent widow maker for traders over the past few years. Even the best have been caught out, betting against falling rates, including PIMCO, the $1 trillion dollar fund manager. Read here.

Modern Monetary Theory (MMT) has consistently reminded us that borrowing by Government, who issue their own currency, actually puts downward pressure on interest rates. Counter intuitive maybe, but that is actually how it works. The Government spends a $1 million dollars in social security benefits, overdrawing their RBA account. People spend the money or save it in a bank account, but by the end of the day that $1m dollars is a surplus deposit in someone's bank account. That someone could be Woolworths, Harvey Norman, a child care centre, but it must be surplus cash somewhere. The bank or banks in surplus must lend it to someone that night, and the only borrower is the Government who has the mirror borrowing. What happens when there is surplus cash in the system? Rates must go down. The RBA cash rates have nothing to do with money supply. A financial asset always has a corresponding financial liability by definition, the system is always in balance. RBA cash rates are just a self imposed straight jacket that are deemed necessary to achieve mandated policy aims. How many breathless media articles have you read telling you the opposite, that printing money must be inflationary?

The Credit default swaps tell us that to insure Australian Government debt costs 0.88% per annum. That bet is saying that Australia will forget how to print money. The only risk may be the intransigence of a political party not wanting to borrow anymore, as nearly happened in the US recently.

Over the past few decades developing countries have been exporting to Europe and the US, exchanging their goods for foreign currency. When you are an exporter with US dollars you will likely try and sell the US dollars and buy your local currency. Countries like China prefer not to have a strengthening currency, so the Government sells the local currency and buys the US dollars to suppress their exchange rate. Locally the developing country has a booming economy and the Government is printing money. see Developing Nations fight Inflation. It may be an idea to also read one of the many articles about Chinese inflation. There will come a point when developing countries will allow the currencies to reset to a higher level. If China stopped buying US dollars, the Renminbi (RMB - the official currency of China) will appreciate and the US dollar will fall. The US (and Europe and Australia) will have much higher import prices and inflation will result. The danger to the world economy will be this inflexion point - where the US and other countries moves from a monetary easing bias to a tightening bias. This is the real inflation trade and the one to prepare for.