Posted on 08/19/2008 2:36:35 AM PDT by ovrtaxt
The Strong Dollar Illusion |
Economists who now see American troubles spreading around the world are predicting that foreign central banks will ignore the gathering inflation threat and follow the Fed down the rate cutting path. Similarly, they argue that since the downturn began here, the U.S. recovery will likely be underway while the rest of world is still decelerating. These assumptions have prompted a rally in the dollar, a sell-off in gold, commodities and foreign stocks, and have cast doubts on the ability of foreign economies to "decouple" from the United States. Investors should not take the bait.
America does indeed pose a global threat, but not for the reasons these economists suppose. Foreign economies are suffering not because Americans have slowed their voracious spending, but because they are defaulting on hundreds of billions of dollars of existing loans underwritten by lenders around the world.
The conventional wisdom is that foreign economies depend on Americans to buy their exports. This is false. The global expansion of the past decade has created new demand everywhere, and people and businesses in all corners of the world are spending. However, in America, spending has largely been achieved through a massive vendor financing scheme. Foreign supplied credit has allowed Americans to continue buying, even while American income and savings have dropped. As this credit goes bad, the losses are landing on the bottom lines of foreign financial firms. In other words, the global pain is not resulting from American contraction but from having financed our preceding expansion. This is a critical distinction few have been able to make, and it is vital to appreciating the decoupling that has already occurred beneath the surface.
The current losses that banks in Europe and Asia are now suffering are real, but future losses can be avoided by suspending future lending to Americans. Shutting off this credit will of course torpedo the dollar, but that is precisely what must occur. By allowing the dollar to drop to its natural, unsupported level, not only will the American caboose be decoupled from the global gravy train, but the rest of the cars will move along the tracks much faster. Absent the U.S., there will still be plenty of consumers to buy what is produced, and plenty of investment opportunities for those with savings. Rather than dragging the global economy down, such a development would actually un-tether it.
On the other hand, left to its own devices, the American economy will implode. There will be fewer products for American consumers to buy and very little savings for anyone to borrow.
Some foolishly believe that many of the world's problems result from dollar weakness, and that pushing the dollar back up would be good for all. For example, since the weak dollar is contributing to the rise in oil prices, a stronger dollar should help bring prices down. However, if foreign governments weaken their own currencies to push the dollar up, they will simply succeed in bringing oil prices down for Americans. Oil prices will go up for their own citizens. This can't be an attractive bargain for any European or Asian political leader.
The weak dollar is merely a manifestation of substantial structural problems underlying the American economy. Unfortunately for us, the solution to those problems, as well as the global economic imbalances, can only be found in a weaker dollar. Efforts to artificially prop the dollar up will only exacerbate those imbalances, and make its ultimate fall that much more severe.
ping!
I guess it's a glass half full or half empty problem. One thing I have been noticing lately is a sense that foreigners and banks seem to be blaming the US more for their economic woes than in the past. What I find funny is that many have just made bad investments and now want to beat up someone else for their poor judgment.
I can’t wrap my head around this, there is no comparable historical case that comes to mind. Well, the hyperinflation during the Articles of Confederacy come to mind but today it’s on a global scale, as well as the collapse of the Roman Empire’s currency value as the coinage was diluted with worthless metals.
This might be a good time to invest in the manufacturers of currency manufacturing equipment.
On one hand you ahve apoint, on the other hand, the dollar has been the worldwide reserve currency for decades.
I suspect that what Schiff is hinting at here, is the possible attempt to restructure the worldwide banking system decoupled from the dollar.
If you’re interested in real money as opposed to government created money...
The trouble with all emerging economies is that their rapid growth were done during the period of huge loose credit awash in the world. I don't think they consolidated their gains yet, and are quite vulnerable to sudden collapse of loose credit.
Besides, there will be more than economic hardship going on. Geopolitical and social shockwave it triggers could be more serious than economic hardship itself.
he is a genius who isn’t understanding the run up in the dollar.
Commodities were in a huge bubble caused only very, very partily because of a weak dollar. But where does he point out that the commodity DEFLATION which is occurring is inversely related virtually exactly to the recovery of the dollar. And as long as oil continues to tumble back down to pre-9/11 levels. And that makes it less likely that the Fed will be raising rates.
And raising rates is exactly where Peter Schiff plans on things going since he is heavily into bonds which need higher rates. Too bad he is going to have to continue to wait for the back end of his payoff. He already made money essentially shorting financials.
Schiff has predicted that the US economy will melt down to Depression era levels. When that happens, I’ll call him a genius. Until then, he is just another guy who says ‘what goes up must come down’.
That pretty much describes my personal 'emerging economy'. Trying desperately to flush all debt out of my life and consolidate all my holdings into free and clear ownership. It's not easy.
World could be in a flux for some time even if dollar loses its dominant position. Dollar regime could be one of a few or several rival regimes.
As much as Schiff hates to admit it, real estate always comes back. It came back in the Panic of 1819 after about four years; in the Panic of 1893 after five; in the Panic of 1857 after one; in the Panic of 1873 after two (given that there was a worldwide deflation at the time); and so on. Will home prices go back to 10% a year increases? Of course not. But will MOST real estate go back to its pre-1990s valuations, adjusted? Absolutely.
The fact is, when you owe a bank $100, you have a debt. When you owe a bank $1 million, the bank has a problem. This is the same with China and our overseas creditors. The ONLY way they get anything is to make sure we stay healthy, because their puny economies---the U.S. GROWS every YEAR the equivalent of India!!---depend entirely on us, and we don't depend on their inexpensive toys, low-cost computers, or lawn chairs.
But it's interesting to see Schiff try to explain the collapse in commodities. Folks, it's all tied to ENERGY, as we saw in the 1990s. When we start drilling, 90% of this stuff vanishes.
Impossible. The US is what, like 40% of the world’s GDP?
We go from either a fiat currency to a commodity.
And if we go to a commodity, there is one and only one that the world will universally recognize.
Gold, but not the shiny kind.
Black gold.
Absolutely true---but also true in reverse. No one---and I mean, NO ONE, predicted the collapse of the USSR and the simultaneous effect of computers hitting the market and the impact of cheap oil in the 1990s. Not one economist.
Imagine the worldwide effect of discovering, say, three times the known oil reserves. Or, say, of a second, MORE democratic revolution in Russia, or a democratic revolution in China, or stability in Nigeria. Any one of these could phenomenally shift the faith in economies, and regardless of what the goldbugs say, it's aways about faith.
I say he’s a genius because of the accuracy of what he’s stated so far. He bases his opinions on sound Austrian monetary and free market principles. Any strategy which hinges on Keynesian ideas is bound to eventually fail.
That’s primarily why I hold a high opinion of Schiff. As for rates, I think the Fed can hold them where they are for quite a while, while other banks (especially the ECB) are forced to raise theirs.
In the end though, it’s all fiat money. Eventually it must correct.
Agreed. Land is a commodity like gold or oil, and commodities are never worth zero.
Folks, it's all tied to ENERGY, as we saw in the 1990s. When we start drilling, 90% of this stuff vanishes.
Agreed, I think it will 'fix' a lot of the issues going on right now. The question we have to ask though, is whether the market manipulators (ultimately central bankers and government control freaks) want the worldwide economy fixed. Is it in their best interest, or do they want to nationalize certain industries first? Fannie and Freddie come to mind.
That's usually a problem with geniuses, they don't always make one comfortable...
Here's one genius (Brian Wesbury) I always like to read whether he makes me comfortable or not, because of his excellent research :
Inflation Is a Clear and Present Danger , from WSJ Opinion.
From your link:
“One of the reasons that monetary policy is so loose today is that our economy is addicted once again to easy money and low interest rates. We hear over and over that the Fed cannot tighten because the housing market and the economy are vulnerable. This was the same argument made in the pre-Volcker 1970s, when the U.S. bounced from one economic crisis to the next.
But a look back at the past 40 years clearly shows that the economy was much healthier in the 1980s and ‘90s, when real interest rates were high, rather than low as they were in the 1960s and ‘70s.
The Fed’s “dual mandate” — to keep the economy strong and prices stable — serves to support this mistake. In contrast, the European Central Bank has a single mandate: price stability. No wonder the dollar has been so weak relative to the euro. Imagine two football teams. One with a single mandate: win. The other with a dual mandate: win and keep your uniforms clean. It’s clear that the one with the single mandate will have more success in achieving its goals over time.
It is this combination of denial of actual inflation, bad economic models and the political expediency of keeping interest rates low that makes a repeat of past policy mistakes likely. In the end, inflation can be controlled — the Volcker-Reagan strategy of tight monetary policy and tax cuts still holds the key — but only if policy makers find the courage.”
Introducing politics into monetary policy is always bad for the economy. It introduces unnatural unpredictability into the system. But the fact that our entire monetary system is a political creation of government is an indication that the foundation of all this is flawed in the first place.
I think people are making this too complicated. It’s a lot simpler. The government is running near half trillion dollar deficits, which the fed is funding with new money, rather than with borrowing. It’s the closest thing to a free lunch for congressthings. More money, chasing the same or fewer goods, and voila, inflation.
If you think it’s bad now, wait until they have to redeem all those federal bonds in the social security trust fund.
However, he thinks that the USD will fall to an insignificant level against the Euro. I doubt it. Europe has its own economic problems, some of them (such as the issue of unfunded entitlements) much more severe than those of the US.
This said, I do enjoy Schiff’s commentary.
Return to Austrian (Free) Economics will need to happen just not neccessarily without major meltdowns in the Global fabric. The combined curse of Social Democracies and Central Banks has given us non-representation by increasingly corrupt Public Servants.
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