Friday, October 02, 2009

Time For Another Durty, Durty Dollar Update

"It may be our currency but it's your problem" -- former Treasury Secretary John Connally

I had to giggle at that remark when I first read it. Politicians are such a timelessly predictable lot.

There is once again substantial bearishness towards the dollar. And once again I will be one of a few people on earth to reiterate our constructive position on the dollar. We were a dollar bull in anticipation of this crisis when the entire world was seemingly bearish and remain as such. I am not a bull from a perspective that the dollar is going to charge to new highs. Or from a perspective of gambling with the dollar. But from a relative price stability perspective.

In the last few years when the entire world was squawking about the dollar collapsing, we dug in our heels and said that they were indeed wrong. Not because of some contrarian perspective for contrarian's sake but because fundamental factors supported such a position. And, then when this crisis started, many bears ratcheted up their rhetoric about a dollar collapse. Lo and behold the dollar shot upward with vigor much to the consternation of many very famous talking heads. Talking heads who are becoming more infamous than famous. There were many rationalizations of why the dollar shot higher including one-time dynamics such as eurodollar stresses but there were no mainstream remarks which captured reality. There are many realities impacting the dollar both shorter term and longer term some we have discussed on here and some we have only implied. But we'll expand upon all major reasons over time. That includes many dynamics that have yet to reveal themselves.

We've said before that the dollar is likely putting in a long term low in the general vicinity of current prices yet it would not be impossible for the dollar to make a marginal new low. And we see on a chart of the dollar versus gold, we are nearing a retest of the prior low over a period of close to two years. That type of pricing action is typical of long term lows.

It's important to remember something no one ever talks about when they talk the dollar down. And I do mean no one. That's because very few people truly appreciate the world as it exists today. Almost anyone with a reason to remark on the dollar is either too consumed by the financial bubble in which we live or they use bias and emotion to determine their perspectives rather than dynamics which really move any market. But, if you understand the fundamentals behind our incessant rants that globalization is dead, you might start to understand some implications for the future of the dollar. Both intrinsic and esoteric implications.

Before this crisis started, we also highlighted that American banks were using our savings to speculate against the dollar. And that the currency market is the most speculative of all financial markets. And that the world's reserve currency often puts enormous strain on the dollar.

So when people see the dollar weakening as it has since the 2000 stock market collapse and as it is again doing over the last six months, many rhetoriticians have squawked endlessly that the dollar is dropping because of American government profligacy. That is nothing of the sort. Were this the case, there are many other major currencies around the world that would have collapsed long ago. Profligacy does not originate in America. Nor did it originate just a handful of years ago. This is a very ill-reasoned analysis. The dollar was dropping prior to the financial collapse because of globalization dynamics straining a currency demanded across the globe for trade, investment and massive speculation. In fact, I would say speculation on a scale never before seen. Ever. I'm not talking about just the dollar. I'm talking in the history of any currency. Ever.

When governments restored order to financial markets earlier this year with massive liquidity injections and no financial reform, what they did was effectively restart the Frankenstein that is global finance. Temporarily might I add. Mostly European and Wall Street firms are back to their same games that created this crisis employing the same underlying failed economic ideology. It is massive speculating against the dollar. It is a new dynamic driven by low interest rates and quantitative easing which encourages financial firms to borrowing dollars for speculation in financial markets. It is an attempt to restart the world's credit markets and globalization. And it is the Fed attempting to quantitatively ease the burdens of this crisis. ie, The Fed wants to weaken the dollar. These are all issues we have discussed before. In other words, the dollar is not moving based on sustainable fundamentals. It is being driven by speculation and the financial Frankenstein we now see before us. But, as we wrote before this crisis arose, speculators and the Federal Reserve will fail in their quest and fundamentals will ultimately drive the dollar. And that likely means all of the recent rhetoric regarding the dollar is again headed for collapse is part of the same remarks professed by the same infamous characters who were calling for a collapse for the past three years. As global stimulus recedes, again we will see fundamentals take hold of the dollar and shove it higher, causing crisis to those who speculate in the currency markets and financial markets. That is, major financial institutions.

So, you really need to think about the topic of the dollar on a level beyond the generally worthless rhetoric. The dollar is moving in perfect correlation to financial markets. In other words, just as financial markets are being driven by Frankenstein, currency markets play a major role in perpetuating this fraud. Financial firms and countries borrow more and more dollars to speculate in financial markets and global economies thus putting temporary and unsustainable downward pressure on the dollar. And just as the financial fraud will ultimately fail, so will the fraud in the currency markets. Fundamentals are substantially too powerful for speculators to crack the buck in any meaningful way. And that means any speculation using the buck will eventually be unwound just as we witnessed in the great financial market unwinding in 2008. An unwinding we uniquely said would happen a year in advance of its passing. Many are calling for a dollar rally because of sentiment. Short term moves may be mildly impacted by sentiment but frankly as I wrote some time ago, I could care less what traders think about the dollar. Sentiment is worthless in the long run. Fundamentals will always trump traders, sentiment, fraud and rhetoric.

Financial firms and many famous financial bloggers are prophesizing well too lazy arguments in comparing low interest rates of the 1930s and the decades-long low interest rates in Japan. The U.S. is in neither position. As we wrote years ago, Japan's deflation was portending eventual deflation in the U.S. The U.S. was the world's provider of capital in the 1930s. That allowed rates to stay low for decades on end. In today's world, the U.S. is the world's consumer of capital. Remember, we have written for years that when this crisis hits, eventually U.S. interest rates will most certainly rise. Not because of inflation but because of risk. Because globalization is dead and the world will be unable to continue buying large sums of American debt coupled with the United States government's financial profligacy. China is doing a fine job of destroying its own currency as I type this. The yuan peg is almost surely going to collapse under the weight of their problems. So, even if globalization were to continue in some muted form, the intrinsic loss of value in the yuan will translate into a substantially eroded ability for China to accumulate dollars. But, then we have already covered this topic.

Anyone espousing comparatives of today to Japan or the Great Depression don't have an even basic understanding of economics. And there are many famous financial bloggers and most economists out there espousing just such a comparison. In fact, many who are now worshiped for their prescience actually espouse economic policies which unknowingly created this crisis in the first place. You'll see me talk more of this in the future.

The most ridiculous argument of all is that the dollar will lose its reserve status. To what? The yuan? The ruble? The Euro? Special Drawing Rights from the International Monetary Fund? Is that a joke? Do you want to hold a currency from a communist country? An economic zone whose finances are in greater shambles than the U.S.? The world's finances are in shambles whether anyone yet realizes that is irrelevant. As far as SDRs, U.S. policy encourages the use of SDRs as it furthers their goal of dollar and military hegemony.

My position on the dollar is one based on global economic fundamentals. It is not to provide opinion on what the future medium of global exchange will be. I have no idea if there will be a new medium of exchange in global trade at some point. But we wrote years ago that it was just about time for some new dynamic to develop as it pertains to a global trade medium so some change would not be surprising. Yet if that happens and the dollar at some point is no longer the world's reserve currency, it will only hasten the collapse of globalization and the resurgent rise of American economic dominance. But then we wrote this very point as well. As an American, I would obviously be quite supportive of a new trade medium in lieu of the dollar. That doesn't mean a world currency or a world bank. The world can easily trade using the disparate currencies around the globe. Political hacks around the world don't understand what they wish for when they talk of a new trade medium in lieu of the dollar. For they are foolishly wishing their own demise. The world continues to develop as we have discussed. We simply continue to watch and wait.

There are countless mainstream prognosticators talking about how the world has changed and how the U.S. will be a smaller component of global GDP in the future. One of the most prominent espousing this position is Mohamed El-Erian - someone who made his name by embracing Frankenstein finance. Someone I would identify as clearly oooovvveeerrrraaaattteeeeddddd yet perceived as brilliant by the financial community. Marc Faber and many others also espouse this position as he remarked in the video post of a few days ago. I completely disagree. We have written extensively for years of a likely economic collapse in emerging markets. In fact, I believe it is highly plausible in coming decades that U.S. GDP comparative to world GDP could rise to levels not seen in half a century. What might that mean for the dollar? Hmmmm.

In closing, if you want to really fret about a major currency above and beyond our documented concerns re the yuan, the ruble and other emerging markets, ie a traditionally democracy's currency, I would be worried about the British pound. I believe it's quite plausible the pound could crack substantially and even see a possible collapse before this crisis passes. We've mentioned our concern for the pound quite a few times on here. We'll actually go from remark to some of the rationale for this concern in another post by the end of the year. But I find it ironic that a major British bank recently issued concerns about the dollar. What's that old hypocrisy proverb about the log in your own eye and the speck in your brother's? It is Britain's own profligacy British banks should be worried about. The pound could very well be in the early stages of serious crisis.

As is the case with all of our macro perspectives, our position regarding the dollar remains exactly the same.

In one of the next few posts we'll look at the dollar again as it pertains to Frankenstein finance.

Enjoy the ride. The party is still in full force.
posted by TimingLogic at 5:32 AM