Here Comes the Global Rebalancing; What Happens to USD/XXX If XXX Goes to Zero?

All the U.S. dollar haters have a good reason to think the U.S. dollar is a bad bet in the long-term. Currencies move in long-term cycles though, and the dollar devaluation cycle ended in 2008. An up cycle of 5-10 years is underway and given that the dollar has yet to meaningfully appreciate, the rally may yet get started. Calls for hyperinflation are correct if they did not specify the currency, because hyperinflation is coming, but not to the U.S. dollar in the near future. Instead, other countries will hyper-inflate and as they towards zero, the U.S. dollar will experience a rally that could be the largest ever in history.

ZeroHedge points us to two stock charts in Name These Two Markets. It shows the Merval and the Nikkei, the Argentinian and Japanese stock markets going vertical as their currencies head lower. Here's a look at the two currencies:

This isn't yet hyperinflation, but this is what hyperinflation looks like at the beginning. Furthermore, Argentina is already in hyperinflation: Global Dollar Demand Keeps Inflation Tame At Least In U.S.
Inflation is just getting started in Argentina. The rate is officially about 10%. Unofficially, it’s about 30%. Officially, you can trade a dollar for 5.4 pesos. Unofficially, you’d be a fool to do so. The black market rate is eight pesos to the dollar — and more.
Looking at the chart above, it implies a more than 50% drop in the exchange rate for the peso. Technically one can quibble about where the line is drawn on hyperinflation, but Argentina is getting to the point where the debate ends. I go with the shorthand of 50% annual inflation, which is really close for Argentina because at these levels, 50% is not far from 30%. Past that point, a nation runs the risk that people will flat out abandon the currency, sending inflation into the hundreds or thousands of percents.

Argentina is another study in failed economic policies, but its impact will be limited due to the size of the economy. In contrast, the decline in the yen is critically important because it is an exporting powerhouse. As the yen declines, it will increase its exports at the expense of competitors such as South Korea and Germany, and this will have secondary effects on exporters such as China. The decline in the yen will accelerate the global rebalacing because it will destroy the export economies. If Japan moves towards hyperinflation, exporters such as Germany and South Korea have two choices: let their currencies appreciate and suffer a depression (SK exports account for 60% of GDP) or join in the devaluation. In the case of Germany and China, they may have no choice because of their fragile financial systems. Major deflation will ultimately lead to hyperinflation as the financial system fails and requires massive central bank intervention to save.

The big wildcard is China.

The yuan is moving in the wrong direction. China targets hot money inflows with new forex rules

Indeed, the hot money is showing up as faster money supply growth: China April New Yuan Loans, Money Supply Exceed Estimates. Something will have to give in China.

All the while, the U.S. dollar and U.S. assets will absorb capital seeking a safe haven. It doesn't matter that gold should be a safe haven in this scenario because so many investors have gotten it wrong. The gold bulls nearly all expect U.S. hyperinflation and a major U.S. dollar rally could crush the gold bulls, while the rest of the market is anti-gold and will look to other assets. Therefore, I can foresee a massive decline in gold prices if this scenario plays out. It will be the buy of at least three lifetimes because a U.S. dollar bull will be temporary as the U.S. will eventually succumb to the deflation too, but investors may continue selling gold even when it reaches insanely cheap levels.

Dylan Grice - Japan

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