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Is the Dollar Heading Up Or Down?
Arguments for a Long-Term Devaluation of the Dollar
Unless you've been living in a cave, you know that the dollar is losing its status as world reserve currency.
Many governments and international organizations are feverishly working to get away from the dollar into another reserve currency, or basket of reserve currencies.
Indeed, today's rumor is that the Middle Eastern oil producers, plus China, Japan and France have all agreed to start trading oil using a basket of currencies - instead of the dollar - starting in 9 years.
Many
investors plan on staying in the dollar as long as China is buying U.S.
treasuries. No one wants to get out early, but no one wants to be left
holding worthless monopoly money if and when China pulls the plug.
Many
people - including me - try to read the tea leaves by monitoring the
volumes of T-bonds, T-bills and T-notes China is buying. For example,
see this and this.
But that is a tough game to master, partly because China's economic
leaders aren't dumb enough to telegraph their punch too early..
And remember, China isn't the only player. For example, Abu Dhabi, Saudi Arabia, Kuwait and Qatar together hold an estimated $2.1 trillion in dollar reserves by themselves. If those 4 countries dumped the dollar, so would the rest of the world.
The private sector has already been moving away from the dollar. As the Globe and Mail noted in early 2008, :
A UBS Investment Research report says that while it
would be wrong to write off the U.S. dollar as the global reserve
currency, its roughly 90-year iron grip on that position is loosening.
“The use of the U.S. dollar as an international reserve currency is in
decline,” said UBS economist Paul Donovan.
“The market share of
the dollar in international transactions is likely to decline over the
coming months and years, but only persistent policy error – or
considerable fiscal strain – is likely to cause the dollar to lose
reserve currency status entirely.”
The UBS report maintains that
the gradual slide of the U.S. dollar is being driven not by the world’s
central banks, but by the private sector, as individual companies
increasingly abandon the greenback as their international currency of
choice.
“The private sector’s use of reserves is more important
than official, central bank reserves – anything up to 20 times the
significance, depending on interpretation,” Mr. Donovan said. “There is
evidence that the move away from the dollar as a private-sector reserve
currency has been accelerating since 2000.”
Because
there is a premium to the value of whatever currency is the world's
reserve currency, the value of the dollar will decline in the years
ahead.
In addition, Bernanke and the boys are running the
printing presses 24/7, the banks have been given trillions to gamble
with, the U.S. is running massive deficits with a massive debt
overhang, the Fed is buying U.S. treasuries and the boys are engaging
in various forms of quantitative easing, and the government is doing
just about everything in the text book to lead to dollar devaluation.
Finally, investors
are buying dollars at zero percent interest and - in a carry trade -
using the dollars to invest abroad. This also devalues the dollar.
Arguments for a Short-Term Dollar Rally
So we should all be long other currencies (or gold) and short the dollar, right?
Maybe. But let's look at the other side of the argument.
First, there are strong arguments
for deflation for the short, and perhaps medium or even long-term. In
deflation, every dollar buys more goods, and so the value of the dollar
may rise in the short to medium-term.
Second, Marc Faber thinks
the U.S. dollar is no longer overvalued at present levels, and that
there might be a snapback rally for the dollar resulting from oversold
levels.
Third, the inverse relationship between the dollar and stocks is well documented. And many commentators see a stock market decline ahead.
For example Roubini thinks stocks are overbought and will decline.Moreover, most Elliot Waver timers - such as Prechter, McHugh, Daneric and Mish
- think we're probably in for a huge "wave c down" stock market crash
in the near future. Indeed, quite a few e-wave theorists are convinced
that we're about to experience the end of a "grand supercycle", which means that stock values will crater.
Finally,
very few predicted that the dollar would rally last year. But it did.
And not only because people considered dollars or U.S. treasuries a
safe haven. But also because of the huge margin calls, need to
liquidate assets fast, and the urgent necessity of raising dollars to
settle dollar-denominated contracts. In other words, another severe
financial crisiscould lead to another short-term dollar rally.
Bottom Line
The bottom line is that the dollar
will get creamed in the long-run, but will probably rally whenever the
next major stock market crash or next severe leg of the financial
crisis occurs.
Whether you think that will happen quickly or sometime in the future is your call.
Note: There are obviously many other factors affecting the dollar as well. For example, if
other countries cut their interest rates to zero and print as much
money as the U.S., then the dollar will look a little better in the
currency beauty show. If other countries raise interest rates and soak
up excesses in the monetary supply, then the dollar will get somewhat
uglier. The British pound sterling is hideous, and may be even worse
than the dollar.
A default by another major economy may also make the U.S. look better.
The currencies of commodity-centric countries such as Brazil and Australia tend to rise when commodity prices rise, and fall when commodity prices decline.
There are other important factors as well.
I am not an investment advisor and this should not be taken as investment advice.
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USD monthly chart is still giving bullish warnings.
www.zerohedge.com/forum/market-outlook-0
Help me out here. The problem has nothing to do with the currency used to trade items, and everything to do with the fact that many countries happen to have enormous dollar balances. I assume that they will use these dollars for good investments, such as US stocks, real estate, or other assets that can be purchased through dollars. So no big deal.
In fact, most countries realize that if the dollar drops more in value, no more Hitachi excavators sold here, lots of John Deere excavators sold over there. I think almost everyone would swap paying more for a Volvo in return for a job.
As the dollar plunges, our export business is given an enormous boost. We pay more for imported goods, OK, but that builds more production in the USA. USA college tuition expenses shrink, US tourism improves, US equipment gets market share overseas. If having a low valued currency is so terrible, why did China do it for 20 years and make so much money?
If people use a basket of currencies to make prices, the basket will always have a value in dollars. Once dollars have dropped in value, to a reasonable level, who cares which measure is used to set price? The dollar will always be the best measure of price for the largest economy in the world.
Our best friend is the EU, and the difficulty the EU has in keeping everyone in line, so sensible management of money policy is easier in the US than Europe.
Combine this with the soon explosion of non-petroleum energy sources, good for US, and the world wide food and water crisis, also good for us, and the future of the dollar looks OK.
What am I missing?
Great thinkers here all with different views.
I realized this week, beginning with GS's "buy WF" call, that the equities market is not perfectly rational and is not some kind of collective unconscious computer calculating and predicting accurate values. It is a madhouse, and thus unpredictable, at least based on fundamentals such as prospects for increasd earnings. Thus the value of technical analysis, which I think is more or less asks whether or not the patterns that occasionally emerge in chaos are real or simply random events that just appear ordered. The trend is your friend until it is not means . . . what?
The whole discussion is laughable. China put out $1 trillion in bank lending with no underwriting and no defined idea of what it was going to be used for except to blow bubbles and then talks about the dollar? Their system impounds dollars. Anyone believe the typical Chinese earning about $2 an hour is saving all this money is still waiting for the tooth fairy from when they were 7 years old. The Fed, on the other hand purchases already created Fed securities and maybe some mortgages so the banking system can deleverage and the dollar is going to hell? Now, if Obama succeeds in turning the US into an IRS police state, you might have a case. As long as the restrictions on property in China prevail, they will need dollars. If not dollars, Europe can expect to see the same impounding of their money and purchasing of debt with trade income as has been seen so far by the US. It was excess US private credit that created modern China and if the US would figure out that its economy isn't benefitting from creating more imports through consumer credit, the who problem would work itself out. I can buy all currencies imploding. If the US is forced to defend the dollar, turn out the light on the Asian miracle.
I find those discussions full with contradiction. I asume most of the posters do believe that the fed is printing,and yet they mention things like the need to finance the debt as a case for having a strong dollar. If you believe the fed is printing money,then that simply means that there is no need for foreigners to buy tbs. The 2 trillion could be financed by the higher saving rates(even mm could be funneled into treasuries through banks). And some would be bought by forigners,and the rest would be printed. The beauty of printing as Mugabee discovered(and many other countries)is that you actually don't need nobody.So for all the (low stocks and higher gold and dollar),and I am one of them,I say I realy tend to believe Jim Rogers over Prechter(nothing wrong with prochter' logic,but he has got BB as an impediment.)
UUP weekly chart, take it for what it is...
http://www.freestockcharts.com?emailChartID=049a69cd-b650-474a-9b1c-1af9...
Update:
David Bloom, currency chief at HSBC, provides a contrarian view to how the dollar will perform in the next crash:
I like the overview review........not to mention all of neurons floating around at ZH.
Seems to me that everyone in the US that is a regular working stiff wants all the dollars they can get their hands on. I dont see that changing anytime soon.
Yes, the dollar is being poorly managed by our political leaders.
But BY DEFINITION the world's "reserve currency" belongs to the country with the most powerful military and greatest political stability.
There is no question that the United States still holds both those cards and will continue to for quite a while longer.
that's what the last roman emperor thought as well!!!
Pilatus,
I nominate your comment for "said the most with the least amount of words" award.
The hardest trade of all is the disconnect. Weak dollar/Strong gold = strong stocks. That has been the trend. It is well supported by the carry trade issue. So it is 'logical'. No it isn't. It is not logical at all. It just is.
Fighting the tape is a dumb move. It is very hard to call when correlations get uncorrelated.
It seems you are arguing that the dollar has to go higher because stocks have to go lower. That is logical. So it is probably what will happen.
But there is another possibility. We could break this correlation. Weak $/strong gold = weak stocks.
There is a point in this where the weak dollar is going to cause problems. Keep in mind that we have to borrow new money $2t in the next 12 months. The weak dollar makes that very hard. To achieve that we need capital coming to us, not away from, us .
Where might the tipping point be where the correlation breaks? A wild guess: gold=1,200, Euro = 1.5, Yen = 85.
We certainly seem to be going in those directions. Seat belts on.
Good spot to get long.
these arguments are so common they are almost concensus , which is why the dollar isn't going up
the crash aint coming for a while...too many shorts still and too many FUCKING MORONS still buying th emarket
WHO ARE YOU !!!????!!!!???!?!?!?!?!?!
Where do you reckon the US military figures into all this? Half the Federal budget went to the Pentagon for several decades to maintain bases in nearly every country for a reason...
Isn't everyone looking at the idea that if the US equity markets do tank (and come back to reality with regards the parlous state of the US economy), leading to a sharp USD appreciation, this will be the perfect situation for the mother of all short positions?
you say that now, but when the SPY is crashing below 500 you may feel differently
Well. I for one can't figure out the reserve currency implications totally. I mean many people keep bringing up examples of how it seems work on the periphial side of the play. All the articles about it help. Just because people aren't talking about it doesn't mean they aren't processing it.
I guess once oil and gold are yanked out from under the dollar we'll get to see the reserve currency status behave more like the periphery currency does. Which means if we don't export things and collect other currencies then we have no way to defend our own currency. Which means roullette ponzi scheme style bond/treasury action results in real curency crisis one people figure it out.
As it stands now if the market get's tanked the dollar shoots up and every other currency tumbles down which causes the equity markets to tumble everywhere else. I guess we'll know the disconnect and the trading are happening in other currencies when prices start getting printed differently on different markets and when UK crashes we crash, and when we crash the UK crashes, but nobody else crashes, they just correct a bit.
The dollar denominated derivatives market is the problem. We'll have to see a few more dear sir: please to go fuck yourself, letters from china and russia over those before we know it's decoupled.
My personal belief is that we'll chuck all on banks. Go to cash based society with corporations crumbling all around us to be replaced with smaller more locally oriented community owned power companies, cable companies, etc etc. We would save tons of energy just by chucking these stupid ass 10 state power companies with tiny fucking wires running everywhere and power factors so screwed up you might as well run DC electricity. Local biodeisel shops for trucking. etc etc.
The dollar hasn't devalued it's just with the advent of computer storage of money it has allowed m2 and m3 to grow way past what m0 can service and with all this "cashless" cash libor and other systems have allowed the banks to take dozens of insolvent instituations bundle them together into codependant morasses of various cripples where bank one opens the jars for the arthritic bank 2 and bank 3 keeps bank 4 from running into walls casue it's half blind, etc. They check kite back and forth with each other allowing this stupid 40 to 1 leverage but it means that if one falls the other weaknesses are quickly exposed and it all falls. Just like with the comex market. If you didn't have one bank covering gold shorts for another bank you'd get a massive default situation going. But it begs you to wonder what sort of sick favor payment method is in use for all this cooperation.
Is this article too general and obvious for ZH readers to be useful, or did you learn something new/useful?
Brief Q&A:
Exactly why will the dollar get creamed in the long
run?
The USA is the world's largest economy by a factor of
three to China and still the largest military power.
Where is all this inflation everyone is talking about?
Derivative debts are collapsing faster than the Fed can
create new dollars, consumers can save and boost the money multiplier.
How does buying or borrowing dollars for a carry trade
drive them lower?
Both increase demand for dollars.
How much is the Dollar used for trade versus the Euro?
Two to one.
Who has the world's largest gold reserves?
Eurozone and USA...
JubileeProsperity.com
I think what you leave out is that the dollar is priced relative to other currencies and most other currencies don't look so good either. The U.K.'s situation is probably as bad or worse than the U.S. in terms of excessive reliance on the financial sector, overleveraged consumers, unhealthy banks, enormous deficits, etc. Japan is a basket case with government debt at roughly 200% of GDP and aging demographics. The EU has banking problems, poor demographics, high social welfare costs and lackluster growth prospects. Germany, the economic engine of the EU, is export driven. Ireland and Spain are basket cases.
Figuring out the value of the dollar relative to other currencies is beyond my capabilities.
Bravo!
"Investors are buying dollars at zero percent interest and - in a carry trade - using the dollars to invest abroad."
Not exactly, they borrow dollars using real assets as collateral and then spend this borrowed money in Australia where they get 5% for the risk.
But who says Australia can afford to pay 5% more than
America can afford to risk having everyone rushing to cover their bets if it goes south? What if we stiff them and keep the assets? Whose to say it's not the Sears Tower and the like? What do they do when we stiff them? Go to war? Who, Japan? Brazil? Arabs? It's unfair but its laughable. It's unlikely, but it is the bottom line, it's what creates trust and dependency.
It's a very complicated and a very dangerous trade that should never be viewed as a one way street where one is all good and everything else is bad.
I feel bad for Australia. They are the ones who are going to get hurt by this. You could already get 5% for your money in Mexico before today and there's a good reason why no one wants that bet; especially now that you can get the same rate in Australia. No doubt Australia is a better bet to be able to pay you your money back with interest than Mexico is.
Green is right, it's all relative.
The US is the sun and just because it shoots off some solar flares, don't think that Jupiter (BRIC) is going to become the center of the universe anytime soon as a result.
We import 40% of our oil, but we provide 60%!
We import bananas, but we export so many more commodities and show no sign of running out. We give it away like no other country to Africa and the Bloc. Even our gold and silver mines just keep cranking out ever more for less.
Many countries have nothing, take Japan. Many more have some, but nobody has it all, except America.
We import toys and toothpaste, but we provide the
expertise, the tools, the capital and the raw materials.
If any other country could ever come close to matching or exceeding the US in raw capital they would have done it long ago, and there's are very good reasons why they cannot, have not and will not until it is clear that the resources are diminishing, not that we have temporarily printed too much money.
Unfortunately our society is convinced that you can get white collar pay checks for blue collar jobs and that you can get $1 million bonus in spite of your company being insolvent. Meanwhile, the government wants to provide for every type of social welfare and wage wars. Productivy has given way to waste, ineffeciency, and more government planning. We have people ready and willing to work and create value, but there's no jobs available. Crediting USA with doing things better than others is like extolling Toyota Prius' gas mileage, while attaching it to a trailer filled with bricks; the results might be 'better than expected' ie, the car is moving, but unless you get rid of the baggage, you ain't gettin' very far, and you gonna inefficiently waste a sh*tload of resources not getting very far.
It was good
Always appreciate your work George. Can't thank you enough for sharing your insights.
"Is this article too general and obvious for ZH readers to be useful, or did you learn something new/useful?"
respectfully, for an experienced cat your article added little value. most experienced traders (investors) know the issues.
for new zh's or new traders (investors) it would be a good primer.
nevertheless, i will read every zh article during the trading day looking for a nugget of insight.
hopefully you won't take the response as criticism. writing for a mass audience is difficult.
keep up the good work.
agree with lieutenant.
there are many, many people that do not understand the issues behind the dollar and its value so I would encourage this type of article and more.
I think the post is valuable and I'm thankful that you took the time and effort to share.