Coming Armageddon

March 18, 2013

The bailout of Cyprus has been like nightmare unfolding before the world. The consequences are numbing. The is a crippling overhang of unserviceable debt of $ 21 trillion in the western developed nations. Cyprus's $ 13 billion is chicken feed, a mere 0.062% of the entire debt abyss facing Europe and US.

There is a possibility that about 29% of the financial wealth of the citizens would be taxed one time to square off this gigantic debt in order to avoid hurtling over the fiscal cliff. This would cascade into a whorl of spending contraction which will lead successive rounds of shrinking GDP, which in turn will hike up unemployment to unsustainable levels, leading to widespread civil unrest.

One of the major precipitating factors has been the quantitative easing which US has been doing over past few years. The US has pumped $ 4 trillion into its economy by printing dollars, which effectively has devalued the dollar by 25%. Meanwhile most of the economies which have size able foreign exchange reserves are moving away from dollars to each others currencies and gold.

China has probably increased it's old reserves to about 3000 tons. They plan to hold 2% of their 3.3 trillion dollar forex reserves in gold. In that case they may be targeting to reach about 5000 tons of gold in a few years. They would also like the dollar exchange rate be closer to its intrinsic value. This will a fairer valuation of their mega forex reserves. Plus the price of gold could go up appreciably.

With this an imminent devaluation of the US dollar could be an outcome and with the large trade deficits of US, there will limits to further quantitative easing in order to kick start economic growth which will only intensify the debt crises. Hence both Europe and US will have to bite the bullet and adopt harsher monetary options to tackle the mounting debt overhang.

All this will impact overall global trade as the western  world slashes its imports which will put brakes on the growth momentum of the developing countries. The later in order to overcome this have increased trade in between themselves and are also increasing domestic demand.

The second act of the Greek drama unfolds before us.