November 9, 2011
from Inflation Website



Italy's 10 year bond yields rose above 7% on Wednesday (November 9, 2011) and economists from around the world are now proclaiming that these interest rates are unsustainable with Italy's national debt now 120% of its GDP.


NIA (National Inflation Association) believes the ECB is currently working on their largest bailout in history where they will commit to purchasing over 1 trillion of Italian bonds and bonds of other Eurozone countries that are at risk of becoming insolvent.


Despite the signals currently being given by the ECB, they will not allow Italy to fail because it will cause a Great Depression throughout the European Union, which will lead to the destruction of the Eurozone.

Economists today fail to realize that 10 year bond yields of 7% are normal for not just Italy, but the rest of the Eurozone and the United States.


If it wasn't for the ECB holding their benchmark interest rate at artificially low levels for over a decade, Italy and other Eurozone countries wouldn't have the high levels of debt they do today and they would be able to withstand yields of 7% or higher. The ECB is entirely at fault for the European Debt Crisis and they are about to follow in the footsteps of the Federal Reserve by abandoning their objective of maintaining price stability and keeping inflation low.

German 10 year bond yields declined again today to 1.72% and the spread between Germany and Italy is at a new record of 553 basis points.


Germany is benefiting from safe haven buying from investors selling Italian bonds and buying German bonds, but investors will soon realize that German bonds are no better than Italian bonds and the world will dump all Euro denominated bonds.

Bond investors currently expect very little inflation in the Eurozone, as seen by Germany's low bond yields. The sole reason for the large spread between German and Italian bonds is Italy's greater risk of default. However, a default by Italy would lead to the failure of Germany's largest banks. Germany knows this but they don't want to raise inflation expectations by making the world think that the ECB will be monetizing Italy's debt.


Therefore, Germany is now telling Italy to request aid from the European Financial Stability Facility (EFSF) if needed. Unfortunately, the EFSF doesn't have the financial resources to rescue a country the size of Italy.


Last week, the EFSF had to cancel a 3 billion auction of 10 year bonds due to a lack of investor interest. On Monday, the EFSF finally had the bond sale, but was met with subdued interest that barely covered the 3 billion in bonds being offered. So far the EFSF has only raised a total of 13 billion through bond sales, but has received 440 billion in guarantees from Eurozone countries.


If Italy becomes a recipient of EFSF funding, the EFSF will lose one of their largest contributors.

The EFSF is looking to leverage up its 440 billion in funding to over 1 trillion. The European Debt Crisis was caused by too much leverage and debt. It is complete insanity to believe that the EFSF is going to solve the debt crisis when it too is getting deeply into debt and planning to use huge leverage to increase their funds available for bailouts.

There was recently a report that a proposal was made at the G20 summit last week in Cannes for Germany and other leading countries in the Eurozone to pool together their foreign currency reserves including their gold reserves to back the EFSF, which would allow it to easily leverage up their funds and raise more money through bond sales.


As soon as this report surfaced, Germany immediately announced to the world that they will not be using their gold reserves to boost the EFSF and that their gold reserves are "untouchable".

Germany's unwillingness to use their gold reserves clearly shows that gold is the real safe haven where individuals should store their savings if they want to keep their purchasing power.


Investors buying German 10 year bonds with a yield of only 1.72% should ask themselves why Germany is willing to fund the EFSF with Euros but not their gold. Maybe investors will come to their senses and change their mind about buying any Euro denominated bonds.

For the past decade there has been a bond bubble in both Europe and the U.S. where we have seen bond yields at artificially low levels for an unprecedented amount of time. This has caused modern economists to believe that low bond yields are the new normal.


When central banks interfere in the free market by manipulating interest rates to artificially low levels, it creates asset bubbles that eventually burst. When asset bubbles burst, the free market takes over and attempts to correct the damage by raising interest rates to extremely high levels, which encourages consumers to reduce their consumption and increase their savings.

NIA believes that over the next five years, 10 year bond yields will reach double digit territory throughout the Eurozone and the U.S. The free market wants countries like Greece and Italy to default on their debts and restructure them, which is why their bond yields are rising so high. Although Greece and Italy have the highest debt levels in the Eurozone as a percentage of GDP, the whole entire Eurozone borrowed too much and has too much debt.


Germany and France both know that the failure of Italy will spread to them when German and French banks with Italian debt begin to fail.


The EFSF will soon be exposed as a failure itself when it is unable to attract the funding necessary to rescue Eurozone countries in need of bailouts. Unless the ECB decides to bailout Eurozone countries through the EFSF by buying their bonds, the ECB will be forced to directly monetize debts across the entire Eurozone.

Even though the destruction of the Eurozone seems imminent, NIA believes it will take time to play out. Most likely, in about two or three months from now the media will begin focusing its attention on the U.S. crisis. When the spotlight is off Italy, their bond yields will temporarily dip back down, but U.S. bond yields will skyrocket.


The U.S. national debt is very close to breaking 100% of GDP, which will likely be a catalyst for investors to begin dumping their U.S. dollar denominated assets. The U.S. has unfunded liabilities many times the size of Italy's unfunded liabilities. Including unfunded liabilities, while Italy's total debts are approximately 300% of their GDP, the U.S. has total debts equaling about 600% of its GDP.

Austerity cuts are becoming very common in the Eurozone and although citizens still protest them, it has become politically acceptable for politicians in Italy and other Eurozone countries to support them.


Italy's cash budget deficit as a percentage of GDP is currently only 3.9% and their national debt has been barely growing. The U.S. cash budget deficit as a percentage of GDP is currently 8.7%, more than double Italy, and the U.S. national debt has been growing at a record rate. Americans are used to stimulus over austerity. Members of Congress are too afraid to make necessary spending cuts.


The U.S. has a budget deficit from entitlement programs and interest payments on the debt alone. The supercommittee created by Congress to recommend $1.5 trillion in deficit reductions by November 23rd, so far hasn't agreed to make reductions to any entitlement programs.


The Democrats and Republicans have so far only reached consensus on changing the way the government calculates inflation for Social Security cost of living adjustment (COLA) increases. They want to calculate inflation by using a new chain weighted CPI, which will understate inflation even more than the current CPI they use.

Based on how the current CPI has been miscalculating inflation for decades, Social Security recipients today should be receiving approximately triple their current payments.


All Americans should be outraged that the government is planning to once again reduce the deficit through deception, when they should be eliminating wasteful government agencies like,

  • the Department of Energy

  • the Department of Education

  • the Department of Homeland Security,

...while bringing our troops home from the middle east and immediately cutting overseas military spending in half so that we have the resources to better protect ourselves at home.

The extremely high levels of debt in both Europe and the U.S. need to be liquidated as soon as possible. If Italy can't sustain itself with 7% interest rates, which is only average on a historical basis, think about how large the crisis will be in the U.S. when interest rates here reach 15% as price inflation spirals out of control. Less than three months ago Italy's interest rates were below 5%.


Fundamentally, Italy's economy is the same as it was three months ago, but perceptions in the marketplace change quickly. Today, U.S. treasuries are still perceived to be a safe haven, but this will change 180 degrees in no time.

Just like how the U.S. government understates inflation when calculating COLA adjustments, they also understate inflation when calculating GDP growth. The U.S. recently reported 3Q GDP growth of 1.62% on a year-over-year basis, which used a price deflator of only 2.52%. If they used the real rate of price inflation, they would have reported negative GDP growth.


The Federal Reserve (FED) just lowered forecasts for U.S. GDP growth in 2012 to between 2.5% and 2.9%, down from a forecast in June of between 3.3% and 3.7%.


In order to ensure that we even meet the FED's new projections, the FED will soon be launching QE3. NIA predicts that the FED will use fears of contagion from the European Debt Crisis as their excuse for launching QE3 in the near-future.


Combined with massive inflation from Europe as the ECB monetizes debt to save banks with exposure to Italian bonds, gold will soon skyrocket to new all time highs with silver likely beginning to once again outperform gold.