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Today's Market WrapUp by Mike Hartman 02.28.2003 Mon Tue Wed Thu Fri |
Economic Confusion
This week brought a mixed bag of economic reports that seems to have produced more confusion and uncertainty as we approach the war in the Middle East. On a positive note, the U.S. economy grew at a 1.4% annual rate last quarter, which was double the rate of increase that was forecast a month ago. Similar good news came with the announcement that U.S. durable goods orders rebounded more than expected in January, with increases in orders for business equipment, automobiles, and defense items. Let’s hope the increase is more than “seasonally adjusted” numbers and defense spending in preparation for the war. While these were positive reports for the overall economy, they are overshadowed by war concerns and clearly muted with a slowing of new home sales and increasing unemployment.
New home sales in the U.S. fell in January by the most in nine years, reflecting a record decrease in the Midwest and declines across the South and in the West. Single-family home sales dropped to their lowest level in a year and down over 15% from the levels seen in December. This is the biggest decline in home sales since January 1994. Softening demand is the precursor to lower prices. The Feds will need to keep interest rates at their current artificially low levels to keep any strength in housing. The softening in demand for new homes is most probably a reflection of the weak employment numbers.
The number of U.S. workers filing new claims for unemployment benefits unexpectedly rose to the highest level so far this year as more companies fired employees amid slow economic growth. Fleming Company, the largest grocery distributor in the U.S. reported this week that they will cut 1,800 jobs and also reported that the SEC will be conducting formal investigations on the company’s accounting practices. Weak employment numbers and geopolitical concerns took their toll in a big way this week on overall consumer confidence. The Conference Board’s consumer confidence index plunged to a nine-year low of 64 from 78.8 in January. Except for the drop after the attacks of 9-11, February’s decline in confidence was the largest since April of 1980. We are now having to go back a decade to find similar numbers in housing, two decades for consumer confidence, four decades to find similar interest rates, and almost exactly nine decades (when the Federal Reserve was created) to understand why all of this is happening. This should be proof enough that we are living in a period of time that will be a major turning point in global history. Exciting times…a wild ride it is!
Money has continued to pour into U.S. Treasury instruments forcing yields down to 4.7% on the 30-year bond and 3.7% on the ten-year note. I’m not sure that too many investors really want to own treasuries since the real return is NEGATIVE. At this juncture, I believe investors are not so much concerned with their return ON investment as they are with return OF investment. The overbought treasury market will provide most of the fuel for the relief war rally that everyone seems to be waiting for. We shall see if the market interventions will be enough to keep equity prices above the October lows before they can launch the war rally.
Stocks This Week
With money moving to the safety of Treasuries, stocks ended slightly down for the week. The DJIA closed at 7891, a loss of 1.6%, the Nasdaq dropped 0.9% to 1337 and the S&P 500 fell seven points to close at 841. Earnings are down, but of greater concern for stocks is the fact that companies are reporting lower top line growth in sales. Shares of Gap, Inc., the largest U.S. clothing retailer, fell as much as 11% today after reporting slower than expected sales for February. Hewlett-Packard sales missed estimates and Home Depot had their first quarterly sales decline since the company was founded back in 1978. If companies can’t make a top line they will need to lay-off more workers if they have any hope of making a bottom line profit. Labor is the first variable expense that gets cut.
Rigged Markets or Managed Markets?
Call it what you want, but to think that our officials are not intervening in the markets would be naïve. This is wartime folks. All is fair in love and war? You better believe it! Our leaders have no intention of losing, either with bombs or in the financial markets. It’s a long story, but you can research how the cold war with Russia was brought to an end during the Reagan Administration. With the help of Margaret Thatcher and the Pope, Reagan brought the Russians to their financial knees by crushing the price of oil and gold which were two of the primary sources of income for the Russians. Financial market intervention is in fact what ended the cold war.
Here is a quote from the website of the N.Y. Federal Reserve that I stole from Lemetropole Café: “The Exchange Stabilization Fund (ESF) of the United States Treasury was created and originally financed by the Gold Reserve Act of 1934 to contribute to exchange rate stability and counter disorderly conditions in the foreign exchange market. (NOTE: There are many “disorderly conditions” in the currency markets right now!) The act authorized the Secretary of the Treasury, to deal in gold, foreign exchange, securities, and instruments of credit, under the exclusive control of the Secretary of the Treasury subject to the approval of the President.” I used this quote to simply show that “managed markets” are a given. It happens. It’s real. Just think of that in the context of free and open markets. Which is it?
Global Currency Wars are Brewing
As it stands, the USA has a tremendous amount of power in the global financial markets and the rest of the world isn’t terribly happy about it. I believe this war is more than oil interests and stomping out terrorism. Behind the scenes there is a huge battle brewing with global currencies. Here’s the twenty dollar question. Are the U.S. dollars (US Treasury debts) held by foreigners considered “foreign exchange reserves” or are they simply debts of the USA that need to get repaid some day? If they get repaid, I can promise you that they will be paid in dollars that aren’t worth as much. As I write, the dollar is being devalued globally (call that inflation) in order to reduce the current account deficit of the USA. A lower dollar will also serve to re-inflate the system thereby avoiding a deflationary collapse.
While the US needs to devalue the dollar, Japan is now saying, “Not at our expense.” According to Bloomberg News, “The yen had its biggest decline against the euro since January after Japan sold its currency several times this month in a bid to stem a rally that threatens to crimp the country’s exports. Some traders and investors said they expect the sales to continue, with the yen up 11% against the dollar over the past 12 months.” Japan has another problem in that China has taken much of their manufacturing business in recent years. China’s currency is pegged to the US dollar, which means that as long as the dollar weakens, the renminbi (basic unit is the yuan) will weaken along with the dollar which kills Japan’s competitiveness for manufacturing and exports.
Rather than reinvent the wheel, this line of thinking flows right into the entire news article that was published on the Dow Jones News Wire on Wednesday this week.
WASHINGTON (Dow Jones)--Asserting that the U.S. dollar hasn't fallen far enough to ensure the long-term stability of the economy, a prominent group of economists urged the Bush administration Wednesday to take steps to ensure the decline continues.
The economists, led by C. Fred Bergsten of the Institute for International Economics, said the U.S. government should end its long-standing rhetorical support for a "strong dollar." The government should also diminish its traditional preoccupation with the Japanese yen and the European common currency and pay more attention to the currency policies of rising trade giants such as China, they said.
"The U.S. administration should abandon all traces of its prior 'strong dollar' rhetoric," the institute said in a summary of a book it published Tuesday on the dollar's role in the world economy. "In addition, Japan and China and perhaps a few other countries should cease excessive currency interventions, which have retarded the needed correction of the dollar."
On a trade-weighted basis, the dollar has declined about 10% on average against other currencies over the last year. But it needs to decline at least an additional 10% to keep the U.S. current account deficit from reaching dangerous levels, the economists said in the book, "Dollar Overvaluation and the World Economy." That deficit now stands at 5% of the gross domestic product and could rise to 7% in the next few years unless the dollar's decline persists, they said.
"The optimal course would be to have the next year look like last year" with respect to the dollar's declining value, Bergsten said Wednesday. Because U.S. economic growth is weak and inflation is tame, a further depreciation would bring long-term benefits without causing short-term problems, he said.
The U.S. isn't likely to get much relief from Japan and Europe, whose economies are now weak and are limited in their capacity to absorb currency appreciations, the economists said. But currency appreciations in Canada, China and other Asian countries could help extend the dollar's decline. Those countries play an increasingly large role in U.S. trade.
"It would be inappropriate to look to currencies that make up just 30% of the trade-weighted exchange rate of the dollar to provide the counterpart appreciation needed to improve the U.S. current account," Jim O'Neill, an economist with Goldman Sachs & Co., wrote in one chapter of the book. "Movement of the dollar against a broader group - certainly one that involved the currencies of Canada, China, Korea, and possibly Mexico in addition to those of the euro zone (and only modestly Japan) - might seem more viable."
-By Joseph Rebello, Dow Jones Newswires; 202-862-9279
Joseph.Rebello@dowjones.com
From this article I gleaned the insight that this is no simple problem to solve since there are so many dollars out there in the world. All of the other nations are jockeying for position and ready to play some real hard ball if it becomes necessary. One of the speculations that I have been hearing has to do with a US attack on Iraq without United Nations support. The speculation is that if the US attacks without global approval, then it would give the Middle Eastern countries along with Russia the incentive to conduct all purchases for crude oil in euros rather than in US dollars. With a change of that magnitude, the demand for dollars would contract dramatically which would result in a MUCH weaker dollar. Under a scenario like that, I could easily see gasoline at $5.00 per gallon. In order to buy oil from the Middle East we would have to buy euros which could then be used to buy the oil. As it stands today all nations must buy dollars before they can buy their oil. The stakes in the game of global fiat currencies just got cranked-up a notch!
I strongly believe that there is much more going on behind the scenes than we are aware of—much more. The global tensions are more than the war worries. It will be interesting to see how the dollar reacts in foreign exchange trading once the war starts, and even more importantly, where the dollar goes when the war is over. By the way, all the developments in the gold arena are more a result of the above arguments, rather than the common spin of war concerns. I believe gold is poised for a large gain when the dollar falls after the initial war in Iraq is fought. Time will tell how it all plays out.
Copyright © 2003 Mike Hartman
February 28, 2003
MHartman@puplava.com
Chart courtesy of www.stockcharts.com
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