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Dumping Dollars

Posted Wednesday, January 19, 2011, at 8:30 AM

A couple of months ago, there was a bit of a scandal in the commodity markets. It came to light that dealers were selling more silver contracts than silver that they had to sell. Normally, this would not be discovered as most speculators typically trade their contracts for cash rather than take physical delivery. However, recently there was such a large demand for physical delivery that it caused the contract sellers to default. This forced them to pay huge premiums to settle claims.

In 2010, China bought 210 tons of Gold on the international market with U.S. dollars. This would be approximately 8.4 billion dollars worth at 2010 average prices. This doesn't include any gold purchased covertly. As it turns out, the reason the silver traders were caught cheating the market was China.

The U.S. Federal Reserve openly proclaims that it's policy of "quantitative easing" is to reduce the value of the dollar against other currencies in the hope that cheaper dollars will make U.S. exports more attractive and stimulate economic growth. However, quantitative easing is causing countries holding large dollar reserves, or in compliance with the Breton Woods Treaty, holds the dollar to back the value of their domestic currency, to take it in the shorts with huge financial losses. If you have seen or read reports about international markets upset with us, this is why.

The largest holder of U.S. dollars is China. Devaluing the dollar hurts them more than anyone else. So, if you are China, how do you get rid of your dollars without driving the value down even further? How do you turn those dollars into some other thing of value without driving that price skyward?

Here is how China has been doing it.

HSBC is one of the 20 or so banks that are primary market makers in U.S. bonds, stocks, and commodities markets. HSBC stands for The Hong Kong Shanghai Banking Corporation and is owned by the government of the People's Republic of China. The PRC government also does a lot of business with J. P. Morgan, another of the 20 or so primary market making banks.

Investment markets generally allow speculators to purchase contracts speculating that the investment will go up (a "call" or "going long"). They also allow investors to speculate that the investment will go down in value (a "put" or "going short"). What would happen if China had HSBC go short on 1000 tons of silver while at the same time having J. P. Morgan go long on 1000 tons of silver? So long as the puts and calls are for the same number of tons, it wouldn't move the price. (Both banks are known to have huge short and long positions respectively in the silver market.)

Purchasing 1000 tons of silver at one time on the open market would change the supply and demand equation and drive prices up. Since during the term of the contract the price will have moved either up or down, by using matching puts and calls, if you wait until maturity of the contracts, you will have the right to take delivery of 1000 tons of silver at the contract price. This would camouflage the demand and not noticeably move the price in the market. China then ships 960 million dollars to the U.S. (at $30.00 per ounce) and ships 1000 tons of silver to China. Had the silver brokers not been corrupt and sold more contracts than silver they had to sell, it probably would never have been noticed.

Why should I care? How does this affect me? After all, China did nothing evil, wrong, or illegal.

The reason for concern is called inflation.

Inflation is defined as an increased number of dollars chasing the same quantity of goods. In 2008, there were 829 billion dollars in circulation here in the U.S. Dollars sitting in Chinese, Saudi, and other foreign vaults as a result of trade deficits decrease the number of dollars in U.S. circulation and increase the number of goods to buy reducing inflation. When those dollars come back home, it increases the money supply while at the same time the goods leaving our shores decreases the number goods those dollars can chase. That is the definition of inflation.

In the past two years, as part of its policy of quantitative easing, the Fed has printed approximately two trillion new dollars. This obviously increases the money supply. Now China is shipping dollars back to us and taking our gold and silver. If China is doing it, how many other countries are doing the same thing? (Russia and India have also been importing huge quantities of gold and silver.)

Moreover, there is noting to keep this from happening with other commodities (like oil, copper, platinum, etc.), the stock market, or currency exchange markets. If it turns out that China and other nations are dumping the dollar, the clouds hanging on the economic horizon just might be a hurricane.

Showing comments in chronological order
[Show most recent comments first]

Really it is a wonderful blog post.


Dollars to Pounds

-- Posted by ryangonzales1234 on Wed, Apr 20, 2011, at 5:27 AM

Really I am very presure for this types of blog.


Dollars to Pounds

-- Posted by ryangonzales1234 on Wed, Apr 20, 2011, at 5:32 AM

The central financial institution of China declared over the weekend that its biggest banks must hold more cash in reserve, the fourth time in 2011 the reserve ratio has been increased. China, which has gotten the world accustomed to paying little for its goods, would send shock waves globally with a severe spike in domestic production costs. China's global impact has also drawn the attention of presidential wanna-be Donald Trump, who has drawn scorn from economists with a plan to impose a 25 percent tariff on Chinese imports. The proof is here: China struggles to curb inflation that threatens global growth

-- Posted by TroyG on Thu, Apr 21, 2011, at 5:06 AM

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