Monetary Policy Is Working - but for Whom?


By Neil Charnock

Apr 23 2008 11:16AM


This article explains something about the big picture on banking and globalization. The point is to qualify the direction of the global economy without US growth and to look for opportunities that have resulted from the sub prime crisis. In a sense I see many positives in a slowing of growth which was too high anyway. Nerves in investment circles have rightly been on edge and certain asset classes have been hammered – did the fund managers and investors get it right or not?

Let me digress briefly… On the 13th of February I published my last article and here is the important excerpt…

Back in November I published an article on the World Wide Web which warned that we had to have a resource stock correction at that time – this was based on the technicals I observed on the chart of our leading ASX mining index. On the 22nd January 2008 I also released an article that included a statement to the effect that I could not claim or confirm a bottom was in yet - but thought it was close.

I had not changed this view about diversified miners or our precious metals miners and saw a chance of one final slap down at this level in the short term. This has now come to pass but only for some stocks and, while others are making interesting bottom formation patterns. Other larger stocks within this sector have already rebounded sharply. We may see a more gradual drop back down to a higher low now to complete this corrective phase in metal stocks and I would expect this over the next 3-4 months. I am not expecting a broad recovery in smaller gold stocks before the 3rd or 4th quarter of 2008 as I believe gold will consolidate for a brief rest at this price level before following its own trend higher. However there are always special situations and useful fluctuations for traders and longer term investors – as I said these stocks are finding their bottom one by one.

Now to this article – I have not changed my view, personal and business circumstances on the home front have kept me off the air but I am back into publishing mode once again.

Macro economics seems to be misunderstood by many modern text book economists – and they are being handed their wrong assumptions on a plate of humility at present. Confusion reigns supreme as copper, steel and other key indicator commodities hold high price levels that defy so called economic logic. The US is in a deep down turn and crisis and copper is going up which is not in their economic model.

The US is in great pain and is still the largest national economy however growth continues elsewhere in defiance of past rules of thumb. This contradicts the US centric view that when the US economy turns down the global economy is in dire straights. Latin American currencies are also showing strength which is contrary to normal US down turn cycles. Economics 101 text book rules are no longer working for the US centric model.

Take a look at the BHP and RIO charts in Australia – the top two resource stocks. Look up their 5 year charts and you see a powerful uptrend which does not confirm the doom and gloom for the declining resources model at all. All these signals are in disagreement with the global downturn thesis.

Global economic fundamentals are just not fixed in one place and the obvious causes are new economic growth cycles, changing demographics and other macro factors which equate to the need for new flexible algorithms (problem solving economic equations) and a more thorough global (big picture) understanding.

Once the world economy was dominated by Europe and then the USA. Japan gradually became a major driving force after the Second World War. Asia, the Middle East, Russia and Latin America are now driving in the fast lane and are pushing still more resource dominant economies such as Canada, Mexico and Australia along strongly. The once completely dominant USA economy created a US – Centric mentality which has since shifted and the main reason for this is production capacity.

We originally saw this phenomena in modern times with the shift from Europe to the USA + Europe combination, then the Europe + USA + Japan in combination which has been followed by a succession of other additions. The balance keeps shifting as new populations are bought into the modern life style and as their economies shift to production capacity enabling this to occur. We have never seen a cycle as strong as this one – never before have we seen such large populations moving as one mass towards the modern lifestyle. They now demand their own production as life styles change – they are replacing some of the lost demand as larger economies cool.

Investors had better take heed as the changing factors which drive the various sectors within this larger economic game present opportunity or ruin depending on how you play it. As the new world economy evolves you have to be one step ahead of the game as presented by the total of the forces at play at any given time. The Central Banks monetary policy has worked in a sense within this framework – please let me explain.

Without going into too much depth it goes something like this. Long economic cycles are well understood by the bankers and high level policy makers. The current switch to Chinese economic strength was in the planning back in the 50’s. The movement of industry to China and Asia was sanctioned and financed decades ago in order to balance the global finance game once the first world “over ripened” into service economies such as we now see in the USA. Many examples have served as models for the global banking empires to get a grip on the macro moves necessary to keep the modern fiat money game afloat.

The prime factor in all this is that the money game is global and the major banking families are a common denominator across most if not all economies through the banking system and investment. The shifting national power goes to the production economies once they reach critical mass – sufficient to affect the global economy as a whole.

Once the Bretton Woods Agreement was unofficially annulled by Nixon on the 15th of August 1971 we entered a new game however it has been different this time. The greatest fiat (inconvertible money - not backed by gold / silver) game in history began. Whereas these fiat experiments failed quickly in the past this time the duration of the cycle has confounded the hard money crowd. It is now 37 years long and still going even with its major flaws.

In hindsight it is clear the global perspective on growth and trade has enabled this highly flawed model to continue for so long but there is another factor. Scared money in hyperinflationary economies burdened with a fiat system in the past had true backed currencies to flee to. Since 1971 there has been no such currency option. This is key to the longevity of this fiat game and explains why Mexico has been stopped from introducing their Silver Libertad – this total international fiat game would be unsettled if nations started doing this.

To be clear – what I am saying is that the globalized control of the Central Banking system has enabled the US centric fiat game to continue and in a sense it has worked. Look at the outcome on a global perspective. Living standards are rising in once poorer nations such as China albeit at the expense of the middle and lower classes in the richer nations. My other point is that this game has worked so far – globalization is testimony to that and the fact that a new gold standard has, so far, not been necessitated by a hyperinflationary blow off as is the norm in fiat experiments of the past.

Sure chaos enters the picture on a regular basis but I am only talking about the framework of the system – the monetary policy and foreign relations. One of the major keys to exploiting and following the game has been picked up by many of my colleagues within the gold bull camp – monetary creation and inflation. Three factors actually - the supply of capital; for growth and crisis management plus the restriction of monetary policy to “mop up” excess liquidity are key to the banking game. At times chaos reigns and desperate measures force major moves in policy. We are in such a climate at present. Mass capital creation is present and new bubbles will naturally occur and others will deflate and capital must be mopped up after this cycle. But for now we have mass cash creation to avert crisis.

So far the system has held together so it is business as usual in a sense at the top end of the banking system however this game cannot go on forever. Behind the scenes things are shifting into a different mode now – a very different mode.

Let’s take a look at limiting factors to this globalization game. The world is limited in size and populations, resources are finite – we have another limiting factor which is the natural climate systems. The latter is not due just yet however it is looming with changing weather patterns forcing new policy and a direction for man as a whole as we seek to survive. The populations have not all reached one plateau in life style as yet and may never reach this. But this is the driving factor in the current scenario as explained in more depth above. The resources are limited and this is key to my hypothesis – this is the key critical point at present.

House prices are falling and yet inflation in wages and materials has raised the cost to build. Many properties are already falling below the cost of construction here already.

Resources needed to build production capacity in the emerging economies are under supply pressure and therefore price pressure. Inflation also forces the cost of production higher for the miners. Prices cannot fall far in many cases or the higher cost mines will cease production and contract supply which will force the price back up anyhow.

Equities have borne the brunt of investor pessimism along with housing and thanks to margin lending and other leverage we have seen a sell off in gold and resource stocks which presents an awesome investment opportunity for those that can afford to buy and sit (without leverage). There is more pain to be announced in the banking industry however as noted by our Newsletter writer Colin Emery – these shocks are diminishing.

Over the next few months I will be assisting a fund to identify the prime opportunities in our oversold resource sector. I will be writing about the price lows and technicals and the investment climate changes as things turn back in favor of resources miners. I hope to spread the word around about Australia as it is the excellent multi-nationally owned quarry I know best.

Bottom line is that I remain optimistic about infrastructure development in the emerging economies so resource economies will continue to do well. Investors have been forced out of leveraged investments and or made poor investment choices as they expected outdated economic models to come into play. Make no mistake the ASX resource stocks are at base valuations at these levels.

Final comment – whom is the monetary policy working for? Chinese middle classes, millions of Russians, Indians, Middle East wealth, savvy investors, bankers, the one world Government crowd… Now make it work for you.

Good trading / investing.


Neil Charnock

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Colin Emery is currently a Branch Manger and Senior Client Adviser of a Stock Broking Company in Queensland Australia. Prior to his work in Share broking he spent nearly 20 years in Senior Management and Trading positions in Treasuries for major International Banks such as Bank Of America, Banque Indosuez, Barclays Bank, Bank Of Tokyo and Deutsche Bank AG. He spent a number of years as a Senior trader in New York, London, Singapore, Tokyo and Hong Kong with these institutions. He also was Global Head of emerging energy, emission and commodity products for the leading Energy and Commodities brokerage firm of Prebon Yamane Ltd – Prebon Energy for four years before moving to Cairns in 2003 to focus on the Stock market and Private consulting work. The private consulting and advisory work currently undertaken is with companies involved in Resources, Energy and Renewable Energy and Forestry.

Neil Charnock is not a registered investment advisor. He is a private investor who, in addition to his essay publication offerings, has now assembled a highly experienced panel to assist in the presentation of various research information services.  The opinions and statements made in the above publication are the result of extensive research and are believed to be accurate and from reliable sources. The contents are my current opinion only, further more conditions may cause my opinions to change without notice. The insights herein published are made solely for international and educational purposes. The contents in this publication are not to be construed as solicitation or recommendation to be used for formulation of investment decisions in any type of market whatsoever. WARNING share market investment or speculation is a high risk activity. Investors enter such activity at their own risk and must conduct their own due diligence to research and verify all aspects of any investment decision, if necessary seeking competent professional assistance.