U.S. Dollar Bullish Worlds Reserve Currency Dynamics
Currencies / US Dollar Nov 17, 2008 - 01:48 PM
Jack Crooks writes: It's times like these when I'm really glad that I haven't devoted myself to trading in the stock and commodities market. Sure there's money to be made, even on the downside.
However, the dynamics of the currency market are far more appealing to me … especially at a time like now when good companies and bad companies are tossed into the same rinse cycle and hung out to dry by fiscal and monetary policy decision-makers.
So if you ask me, the currency market is far more clean-cut.
But even trading an asset class that, to me, is more exciting, profitable, and at the moment, more fundamentally straightforward … still requires shuffling through the major data and headlines to make hay of it all.
For example, as this week came to a close, traders sought to dissect Treasury Secretary Hank Paulson's comments on Wednesday and determine the significance of the upcoming G-20 meeting that began this weekend.
Paulson Changes Course …
Paulson has revised his approach with TARP. Rather than allocating the second half of the $700 billion bailout to buy more troubled assets, he's directing it to the consumer sector in hopes of alleviating the high cost and inaccessibility to credit.
On Thursday, I received an e-mail regarding Paulson's decision. The author started with a series of the Treasury Secretary's quotes:
- April 20 2007 — “I don't see (subprime mortgage market troubles) imposing a serious problem. I think it's going to be largely contained.”
- March 16, 2008 — “I have great, great confidence in our capital markets and in our financial institutions. Our financial institutions, banks and investment banks, are strong. Our capital markets are resilient. They're efficient. They're flexible.”
- May 16, 2008 — “Looking forward, I expect that financial markets will be driven less by the recent turmoil and more by broader economic conditions and, specifically, by the recovery of the housing sector.”
- November 12, 2008 — “This market has for all practical purposes ground to a halt. Today, the illiquidity in this sector is raising the cost and reducing the availability of car loans, student loans and credit cards. This is creating a heavy burden on the American people and reducing the number of jobs in our economy.”
The author's point was two-fold:
- To bring to the forefront just how clueless he believes Mr. Paulson and the government officials are,
- And to make it clear that U.S. leaders cannot do the right thing at the right time.
I'll agree with the second point. Politics has become more important than acting appropriately.
But I'm not so sure about the first point that government officials are clueless.
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| What scared Hank into changing his mind? |
I would argue, instead, that Paulson's plan was obviously to avoid creating premature panic within the market. In the background, however, there were certainly myriad discussions among officials on how to stem economic deterioration — whether the extent of the resulting financial mayhem was underestimated or not.
Nevertheless, the cheerleading and strategy shift hasn't changed much yet.
Stocks are still in their funk after the S&P 500 hit a new intra-day low on Thursday … before some curiously strong buying arose late in the day. And the U.S. dollar, conversely, touched a new intra-day high before falling back.
But many exhausted and unsatisfied investors are leaning on this weekend for some direction. To that I say …
The G-20 Meeting Will Be More of the Same — Lots of Talk About Credit Markets, With One New Twist
It's easy to see why the current market environment is motivating everyone to get a clearer grasp of the big picture.
Portfolios have collapsed … lending has locked-up … global growth is slipping.
Not to mention how buzz words, sound bites and back-handed solutions are coming from every direction. Government efforts around the world to secure the financial system have thus far proven futile.
And it's scaring the hell out of people.
So why not seek a better understanding of what will come from the ad hoc G-20 meeting being held this weekend? After all, a lot of important people will be there.
But really, it's bound to be mostly an empty gesture; another one of those unsuccessful confidence builders.
The G-20 meeting will rehash the same stuff they've talked about for months —how to stabilize the credit market. Only now there is another danger-factor added to the equation … the sharp fall in growth in the emerging markets as liquidity and demand are evaporating.
With that in mind, I would expect much of the discussion to be about how the G-20 can help stabilize some emerging countries that may be on the verge of default.
Default in the emerging world spells CONTAGION! That word is the last thing the central banks want to deal with. As I told you in my November 1, Money and Markets column , the European banking system has huge exposure here …
Emerging markets are feeling the pain of a global slump.
What the G-20 WON'T Be Doing …
I get all kinds of e-mails from readers looking for my perspective on certain issues. Often they include an article or financial piece and ask for my comments.
Most of the time the material is relevant.
And when it's not, that usually means it's conspiracy stuff … stuff predicting the imminent destruction of the U.S. dollar … announcing the immediate need to purchase gold, gold, and more gold … the impending launch of a new “currency-to-replace-all-currencies”.
Here's what I say about that stuff …
The world operates on a U.S. dollar system. And because of the complexity of the global financial system, a gold standard isn't a panacea; it is not the substitute for fiat currencies.
While I absolutely admit gold is worthy of appreciation during certain cycles, I feel that it is not the end-all solution to investors' diminishing wealth.
Over the longer-term, it's proven that global capital flow is wealth's major driver. Gold's price revolves around the U.S. dollar. And its safe-haven status is merely an interim side-note.
My evidence is this:
Look at the chart above. The inverse correlation between gold and the U.S. dollar in the last 30 years is obvious. When the U.S. dollar goes down, gold goes up. When the dollar rises, gold actually goes down.
I admire the fact that so many people are becoming concerned with the economy, global and domestic. And I admire that they're willing to take necessary steps to protect themselves from financial time bombs — whether currency-related or not.
But keep in mind …
The U.S. Dollar IS the World's Reserve Currency
The global financial system revolves around U.S. dollar-based credit and U.S. capital markets. I do not believe a whole new international financial architecture will be constructed overnight.
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| The U.S. dollar is still the world's currency. |
Could dialogue at this meeting stir things up? Absolutely …
Who knows? The U.S. dollar could fall from World Currency Status or even be totally eliminated in the next 40-50 years. A lot can happen through man's ultra-sophisticated market process in that amount of time.
But I don't think that this weekend's meeting is going to produce anything that structurally alters the future of currencies. And over the last four months, it seems a lot of traders must agree.
They are abandoning the “dollar-is-dead” theme for very valid reasons; many of which I have laid out here for you plenty of times before.
My two final points:
- The global macro backdrop is U.S. dollar bullish. And it doesn't look like it will change, no matter what takes place during the G-20 meeting … even if a U.S. dollar correction results.
- The U.S. government gets immense benefits, politically and financially, because it has the world reserve currency and countries must hold it. And they are not about to throw that status away for an idea that another system can do any better.
Best wishes,
Jack
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