Dollar Strength: An Illusion 37 comments
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I have felt for some time that dollar strength is a counter-trend that has a sell-by date written all over it. The Federal Reserve is ballooning its balance sheet like nobody's business as it tries to be the global lender of last resort. This is very inflationary. Apparently, the Fed wants to trash the Dollar. And, despite recent events, I believe it will eventually get its wish.
The United States is the world's biggest debtor nation, dependent upon foreign governments to buy treasury and agency debt in order to maintain itself. However, two articles I read Friday have convinced me that this situation is about to change in a nasty way and Asian countries are about to let the dollar go (very big hat tip, Scott).
The first article concerns Taiwan and their apparent desire to stop buying agency debt for fear of throwing good money after bad.
From Barron's:
Taiwan's financial regulators reportedly have ordered that nation's insurance companies to pare their holdings of the debt and mortgage-backed securities of Fannie Mae (FNM), Freddie Mac (FRE) and Ginnie Mae securities, according to a report on the Internet site of Asian Investor magazine.
Such an order would be a stunning rebuke to Washington, coming a little more than a month after the federal government effectively nationalized the mortgage giants. Fannie and Freddie last month were placed into conservatorships with the Treasury standing ready to inject up to $100 billion through purchases of preferred shares in the government sponsored enterprises.
As a result, Fannie and Freddie debt has the "effective guarantee" of the U.S. government, a spokeswoman for the Federal Housing Finance agency, the regulator for the GSEs, said Thursday. (That was a "clarification" of FHFA director James Lockhart's earlier declaration to the Senate Finance Committee that Fannie and Freddie debt had the "explicit" guarantee of the U.S. Treasury, Dow Jones Newswires reports.)
Moreover, Ginnie Mae securities have always been backed with the same full faith and credit guarantee as the U.S. Treasury.
In either case, the Taiwanese action is a blow to the reeling U.S. mortgage market, which has been supported by the Republic of China's purchases of agency securities. According to U.S. Treasury data, Taiwan owned a very substantial $55 billion of U.S. agencies along with $43 billion of Treasuries as of June 30, 2007, the most recent date for which these data are available.
This certainly is bad news for U.S. interest rates, mortgage rates and the U.S. Dollar. However, more worrying s that mainland China seems to be following its Taiwanese brothers in rejecting the U.S.
From Reuters:
The United States has plundered global wealth by exploiting the dollar's dominance, and the world urgently needs other currencies to take its place, a leading Chinese state newspaper said on Friday.
The front-page commentary in the overseas edition of the People's Daily said that Asian and European countries should banish the U.S. dollar from their direct trade relations for a start, relying only on their own currencies.
A meeting between Asian and European leaders, starting on Friday in Beijing, presented the perfect opportunity to begin building a new international financial order, the newspaper said.
The People's Daily is the official newspaper of China's ruling Communist Party. The Chinese-language overseas edition is a small circulation offshoot of the main paper.
Its pronouncements do not necessarily directly voice leadership views. But the commentary, as well as recent comments, amount to a growing chorus of Chinese disdain for Washington's economic policies and global financial dominance in the wake of the credit crisis.
China is the largest holder of U.S. government and agency debt. If they go on strike, the consequences for the U.S. would be catastrophic.
It is hard to believe we are asking this, but events are pointing in an ominous direction: Is the U.S. government even solvent?
Disclosure: none
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This article has 37 comments:
- the fed trashed the dollar by printing dollars and lending to everyone.
- taiwan now decides it does not want GSE financial currencies after the USA has insured its sovereignty for the last 60 years. i personally think it is high time for taiwan to be under chinese control.
- china thinks there should be a new economic order because china has refused to allow its currency to float, racked up a major trade surplus damaging its major trading partner, and thinks that the USA should be held responsible for a crisis that they were a major player in creating,
- europe should go in with china and create a new financial order where china benefits and europe else loses. maybe they can create a new currency called the "cheuro", peg it at ten times the dollar, and flush their economies goodbye.
did i get this right?
So why is the dollar rallying?
One of the posters on Shedlock's site seems to think that the fed and treasury have a circular scheme that can sanitize printing and long bond rates for years. Lots of money creation schemes seem to be circular in nature these days. Any additional thoughts you might have on the long end of Treasuries would be greatly appreciated.
digiweb,
IMO the dollar rally is a classic early indicator of a coming deep downturn / panic. So many of us know about the USD's underlying horrid fundamentals. Right now, everyone else's fiat sucks even worse than ours. In a crisis, everyone runs home to momma, and right now that is the USD / Treasuries that are "guaranteed by the full faith and credit of the biggest army on the planet". I agree with the author that the dollar is being very aggressively destroyed by the Fed. In the meantime, everyone wants to get dollars to pay off dollar-denominated debt, and to hold dollars as a safe haven. Time will tell just how safe it turns out to be.
The U.S. is about 6-9 months along with their crisis..which means everybody else is being driven out of their "denial" phase at a much slower pace in relation.
I remember the fall of '91 when the Bank for International Settlements increased the capital requirement rules for all central banks. The 30 year was at 9 5/8% , and when the banks started to buy treasuries to enhance their balance sheets, rates tumbled, the Japs..who were cross-capitalized in the Nikkei, had to sell stocks and buy treasuries. The rest is history.
The markets may be confused at times but they are the arbitor at the end of the day..despite their lack of pricing power during these times.
The rest of the world is taking their lead from the Fed despite what anyone thinks..right or wrong.
Stay in cash and watch the dollar.
They all thought by now, the "bailout" effects would be Euro-$ almost 1.8-1.9 instead of 1.26
No one , I mean no one imagined the dollar strength. ALl the people who got the FInancial mess right did not get the after effects exactly right.
No one saw the commodities crashing.
BTW currencies are not stand alone in trading , so its always a paired trade and Europe is in a big mess .
I mean come one each of the $ bears saw INFATIOON and said ECB has it right , and I heard on Bloomberg, from Mr. Nouriel Roubini, that the ECB has it wrong with high interst rate , how about that?
So now there is talk of Euro-$ parity, PARITY? wow. Forget the pound .
CHINA? people here are talkling of China? Like you know what they do , is any policy of theirs transparent?
I am really not sure how its gonna turn out but I know that the author here and several others are just speculating.
Everyone predicting HUGE inflation did not see the Massive deflation?
The only explanation seems to be the huge US debt, plase can some economist see beyond that?
With all due respect to the author and other $ bears, please give a very high level timeline, just some thing like next year or two for $ weakness etc.?
How about some targets?
I am not questioning the knowledge of anyone. I am not at all a scholar in this.
But i do knkow they all got it wrong, no one saw this $ stregnth. So why should I believe in the " oh just wait and see" now.
Regards
The problem is what happens then? I do not think I want to know. There will be no stable currency on the planet. What happens internally in the United States?
You are my signal that the dollar will go down in just a few weeks and I should load up on gold and commodities!
1. the dollar is appreciating b/c of the payback of deb denonimated in USD. all other indicators lead us to believe the dollar should be depreciating
2. the ECB finally cut their interest rates devaluing their currency as well which helps the dollar
3 from what i've been hearing if you're a currency investor the yen is what you should be in. take a look at the yen/euro ratios lately
4. the feds printing is no doubt inflationary and it will catch up to us at some point. this will coincide with the oil bull returning by this time next year. just remember it was only july 4th when oil was 147 a barrel; just 3 1/2 months ago...
I agree, there is no incentive for the US govt to keep the currency strong. The only hope for paying off the debt is to inflate it away. Look at our politics. Deficit hawks are considered moonbat extremists, and are not supported by either party. High national debt + no political will + an economy that produces virtually nothing for export = currency devaluation. We can all see it coming. We just don't know what to do about it.
waf76,
I agree, the recent dollar strength was due to the big players selling foreign currency holdings for dollars in order to cover their CDS and mortgage-related losses. At the same time, low rates in Europe and plummeting commodities nailed those currencies. The smart investors are asking what happens within the next 6 months when the foreign currency holdings of debtors are all sold and commodities hit bottom. On the other hand, by that time the end of the Iraq war may reduce expectations of future govt. spending/printing.
Does anyone have an opinion on the Aussie dollar or Brazillian real? I would like to see a debt vs. interest rate comparison of all the biggest currencies with the US.
Prosperity is just around the corner, bro!
Don't be surprised if there is another 911 type of event...soon.
Oil will go up.
Gold (for what its worth) will go up.
Commodities will 'stabilize'.
Market will crash for many stocks, especially foreign ones.
The dollar will tumble (?).
Full market regulation will commence.
Spring 2009.
Disclosure: long UUP.
Of course Taiwan and China are going to sell their U.S. SECURITIES. India, and the Gulf States, too. Everybody's selling everything that isn't tied down or has a right to vote.
They will sell them because they need.........?
That's right: Dollars.
'Cuz there ain't enough.
'Cuz the banks don't make them no more.
'Cuz the banks are broke.
Get it?
Now does anyone have any input on the Australian dollar or the Brazillian real?
The Australian dollar is in extremely serious trouble because of Citic. That is just a really scary situation.
The real? Well, look at the BOVESPA, the fact that Brazil is dependent on oil and soybeans for a lot of its forex cred and it is just not a nice picture.
The BRIC thesis is dead.
Combine a weak economy as it is, with massive corporate tax increases under Obama, and the economics don't look like they will get a whole lot better.
this problem is and was based on POWER and Greed of power
on the political front.. primarily democrats... but Bush bragged for record homeownership so I'll give him kudos in this fiasco as well
Greed on wallstreet... well,
greed is balanced in capitalism with RISK and risk was removed from the equation via government co-signing on billions of bad loans (in the name of political gain)
theoretically in capitalism, when one is too 'greedy' and doesn't account for 'risk' it faces FAILURE...
But given the recent government intervention... apparently failure is not an option.
thusly yielding this quasi-capitalism model???
*without failure, you cannot have success... for without one, you cannot properly define the other
Once wounded all the unethical jackals will rush in to feed while there is still meat on the corpse.
All are Fat--the economy is terminal. What we are now doing is trying to clone it back to life with transfusions to the bones, and the memory of what it was.
Let's hope the whole world sends flowers for a recovery, otherwise, prognosis is "Doubtful". And they don't hold it against us that our Jackals sold them some of the tainted meat.
open to debate, not if.
The dollar is strengthening precisely because the US is tanking/deleveraging. This causes a destruction of currency supply. Less supply gives you a higher price. It is that simple.
The amount of currency being pumped is at least 10x less than the currency being destroyed, so no inflationary pressures will arise.
Best,
Arm
While the will to purchase US govt. debt may have trouble at some point in the capital markets, it is more likely than not that people are willing to bet that the US will do more "right" than "wrong", in line with history.
Strangely, I think this may be at the source of why Obama stands a good chance of winning the presidency. I think its not just that he is a brilliant campaigner and politician, but he has correctly pointed out that the last 8 years of republican administration have been economically irresponsible and that he will change that, although the nature of the change has not been very well defined.
However, the US has historically been pretty good at producing historical leaders in these times of stress. Probably good enough to bank on the US doing it again.
Its difficult to envision how a broken US dollar, with its attendant consequences around the world would benefit any country or government that is concerned with improving the economic well being of its people. Its also pretty hard to envision a series of politicians in the US collectively making this worst case scenario happen. However, when the crap hits the fan, they have reacted pretty well, not perfect, but well.
Bottom line, I agree, there is a lot in place for the USD to exhibit some strong depreciation in the future. But its unlikely that policies to prevent a total USD meltdown won't happen either.
Right now people are buying dollars because you need them to unwind derivative positions. Once that's over, look out below.
unless you are omnipotent, be careful of using absolutes such as, "nobody called it," it discredits your views
In case you are interested in doing the math: Of course the USA is insovent. Any idiot that thinks otherwise needs a tree and some rope...
For the rest, I am baffled by the amount so called 'Central Banks' kept on buying GSE like Freddie Mac & Fannie Mae while in the spring of 2004 I already said this is unwise given their so called 'business model' (only picking up one sided risk).
Just do the math: The USA is insolvent.
If you have some proof otherwise, please let me know!
1. the negative effect of the recession on the CA deficit
2. the negative effect of deleveraging on the real money supply (I imagine more than an offset to recent liquidity injections)
3. prices falling faster in the US than major trading partners
If the carry-trade using USD funding is not completely unwound yet, and in addition European banks continue to unwind their USD loans to emerging markets and Europe itself, that would be another reason.