Who Are They Kidding?

There are many inside and outside the US who have been looking forward to an important and healthy debate about America’s future for a long time. Sadly, they all know that this is NOT going to happen in a contest between Barack Obama and Mitt Romney for the presidency. So does the US establishment and both the major political parties.  - Bill Buckler, The Privateer

I've been arguing for quite some time that the real reason we will see more QE, despite the rhetoric coming from the Fed, for the simple reason that it is the only way for the Treasury to keep funding its rabid debt issuance at the current low rates.  As has been widely documented, in 2011 the Fed bought 60% of all new Treasury issuance.  As noted by zerohedge, yesterday and today the Fed directly monetized this week's 10-yr and 30-yr Treasury auctions by purchasing an amount equal to 20% of the 10-yr paper sold and 15.4% of the today's 30-yr auctions:  10-yr POMO; 30-yr POMO. 

Just to clarify, the POMO operation by the Fed is a "reverse" auction, in which the Fed solicits Treasury bond offerings from the Wall Street banks.  This is paper that comes from each bank's inventory (balance sheet) and purchased by the Fed.  So yesterday, for instance, the Treasury auctioned $22.4 billion of 10-yr paper, of which the Wall Street banks purchased 7.8 billion.  The Fed POMO operation represented 59% of the bonds purchased at the auction by the dealers.  As you see, de facto, the Fed thus financed 20% of auction and gave the primary dealers the bidding power, at the margin, to drive the yield down.  Notably, yesterday's 10-yr auction rate represented a record low rate.  This would not have occurred without the Fed's invisible hand in the background.  Similarly, with today's long bond auction, the primary dealers bought $5.6 billion of the issue, with the Fed POMO purchase representing 36% of the total purchased by Wall Street.  LINK

So, who are they kidding?  What I'm waiting for is for someone to explain to me why the dollar took a decent hit yesterday, despite the run-up in the Treasury bond market.  If this was new foreign money seeking the dollar as "a flight to safety," the common myth that has gone "viral" in the financial media, the dollar should have rallied substantially.  Why?  Because when a foreign investor buys Treasuries, they first have to sell their native currency and buy dollars, then buy Treasuries.  The net effect of that trade would be to push the dollar higher because of an increased demand for dollars.  But the dollar tanked yesterday and continues lower today.  I would suggest that this is because big foreign pools of money, like the Chinese and Japanese, are continuing to diversify away from the dollar - choosing NOT to seek the dollar as a flight to safety.  And if the Fed were not directly monetizing the Treasury auctions, we would see Treasury yields spiking a lot higher in order to entice real, "organic," buying.

Need more evidence?  Take a look at this article in which the former head of Hong Kong's Central Bank says:  "Hong Kong should review its US dollar peg and consider linking its currency to the renminbi, according to Joseph Yam."  LINK