When commentators on CNBC and elsewhere talk about the U.S. dollar being weak or strong, they reference the U.S. Dollar Index being up or down as their source. But most people I have found don't really understand what the U.S. Dollar Index represents. In reality it is simply a camouflage meant to conceal the real weakness of the U.S. dollar.
This article will explain the U.S. Dollar Index and then make conclusions on how it is not a true indicator of U.S. dollar strength or weakness, and show how the price of gold is.
The U.S. Dollar Index
Ask your neighbor, friend or relative what the U.S. Dollar Index means or what it consists of and you'll get a blank stare. In fact, ask your financial advisor what it means and I'll bet they'll answer you, but it won't be the appropriate answer.
Even CNBC keeps the U.S. Dollar Index figures hidden from public view as they don't include it as part of their scrolling data that one sees at the top of their daily broadcasts. CNBC does have the exchange ratios of the euro, yen and pound, but they don't allow viewers to keep tabs on the U.S. Dollar Index itself.
One might think this index to be important since every investment here in the U.S. is priced in dollars. But what exactly is the U.S. Dollar Index?
Below are the currencies that make up the U.S. Dollar Index.
Euro 57.6 % Japan/yen 13.6 % UK/pound 11.9 % Canada/dollar 9.1 % Sweden/krona 4.2 % Switzerland/franc 3.6 %
What these currencies represent are the United States major trading partners. How the U.S. dollar performs is calculated by the percentages of each currency that makes up the index. Noticeably absent in the index is the Chinese yuan because the Chinese tie their currency to the value of the U.S. dollar.
What the Percentages Mean
The percentages help keep U.S. trading partners abreast of the weakness or strength of the U.S. dollar versus this basket of currencies. When the policy of the U.S. government is for a weaker dollar, the index falls. When there is a strong dollar policy, the index rises. Alternatively, when there is trouble with one currency, like the euro in 2010 after the debt problems of the country of Greece surfaced, the U.S. dollar benefited. A stronger dollar, via the index, means our dollar was able to purchase more European goods.
The opposite can also be true. It wasn't too long ago that Europeans flocked to the United States, vacationing and taking advantage of the weakness of the U.S. dollar. I witnessed many touring Napa Valley in California, going from winery to winery.
What If All Major Currencies Were Weak at the Same Time?
The euro makes up most of the U.S. Dollar Index. The fact that thee uro makes up 57.6% of the U.S. Dollar Index kind of skews things a bit. Think of it this way. If the euro were to all of a sudden crash, as it did last year, because of its looming issues with Portugal, Ireland, Italy, Greece and Spain (the PIIGS), the dollar would automatically shoot up in value.
But what would happen if at the same time as the crashing of the euro, the U.S. dollar became equally weaker because of the unsustainable debt our government is carrying began to implode, and/or our nations top banks found no counterparty to the over $4 trillion in sub-investment grade derivatives maturing in the next 1-5 years? If the Japanese Yen, which makes up 13.6% of the Index, also started to implode because their government debt became unsustainable (they currently lead the world with the highest Debt to GDP ratio of over 220%), and Japan had to start dumping their U.S. Treasuries in attempt to maintain a sense of stability, it would cause an equal run on the U.S. dollar. And what if at the same time, the British pound, which makes up 11.9% of the Index saw their austerity measures fail and the country in dire need of more government intervention (stimulus) with the Federal Reserve coming to their rescue as what seems to be now the world's lender of last resort, resulting in an equal weakness in the U.S. dollar.
What we would have is 83.1% of the U.S. Dollar Index in trouble along with the U.S. dollar. But the U.S. Dollar Index wouldn't show just how much panic there would be in the streets of New York, London, Tokyo and the eurozone. It would pretty much stay about where it is depending on the value of the remaining 16.9% of currencies.
What would occur is the U.S. dollar, euro, yen and pound would be on a sinking ship yet anyone watching the U.S. Dollar Index as an indicator wouldn't know the ship is sinking until the water started coming over the edges of the deck.
The Currency Truth Can Be Found In Gold
If the price of gold doubled from here, the U.S. Dollar Index could be right where it is today. Investors may feel like everything is ok with the economy because of this, but nothing could be further from the truth.
In fact, flash back to September 2007 and the U.S. Dollar Index is about where it is today.
click to enlarge images
But as everyone knows, we have had much turmoil in the economy since 2007 and that is why gold represents a better indicator of whether the U.S. dollar is weak or strong. The price of gold doubled from around $700 in September 2007 to around $1,400 today. While the U.S. dollar price of gold used to be inverse of the U.S. Dollar Index, today, it is breaking free.
The Price of Gold Paints a Clear Picture of World Currency Weakness
Just look at the following rise in the price of gold with the major currencies that make up the U.S. Dollar Index the last 10 years. This is the truth that gold represents.
The icing on the cake is the fact that gold priced in U.S. dollars is up 410.50% the last 10 years.
Where to From Here?
The question is, where to from here? If you just look at the U.S. Dollar Index, you won't see the forest through the trees. Many think they are wealthier with this current stock market rebound because it has recovered some of its losses. But in terms of gold, are they truly wealthier? The following chart shows the DOW priced in gold. It now only takes just under 9 ounces of gold to buy the DOW, when in 2007, it took 20 ounces. But the U.S. Dollar Index stayed the same?
The DOW Priced in Gold
Is the U.S. Dollar Ship Sinking?
If you want the true state of currencies, price them in gold, don't look to the U.S. Dollar Index for answers. This is the only way to see if the ship is taking on water. While many people join the Wall Street fat cats in the aft deck lounge, partying like it's 1999, the individual who wants to hold onto their wealth is preparing for the sinking of the U.S. dollar ship. They can see the waves splashing on the deck. They are putting on their gold and silver life preservers and prepared to jump in the lifeboat when the time comes.
There will be some out there who will try to refute this analysis by pointing to the fact the price of gold languished for 20 years from 1980 to the year 2000. During this time period, there was no competition to the U.S. dollar. The dollar was king and equities were the place to be.
In the year 2000, the euro, after a down first year, offered up for the first time an alternative to the U.S. dollar. Subsequently, just as the euro and other currencies gained steam, ETFs became available where the average investor had easier access to gold than going to their local gold dealer. But many investors still choose to own physical gold and silver themselves and as a consequence, the U.S. Mint has had to work overtime to keep up with unprecedented demand.
You see, just a few investors who understand what's really going on in the economy have been buying gold and silver. They know that Federal Reserve Notes have 40 short years of existence without gold backing. They know that changing the amount of FDIC coverage from $100,000 to $250,000 doesn't mean their bank account is any more secure from their bank failing. They know congress will keep voting to raise the debt limit without making any real progress on cutting back. They know the system is unsustainable in its present form.
The real question is, what do you know? How do you think things will unfold? Do you believe the same Harvard, Yale and Princeton economists that got us into this mess will magically be able to get us out? Can a society spend its way out of a recession as we have been trying to do? How does that work for your own personal situation?
If you acquire another credit card you are credit rich for only a time. Sooner or later, your own boat takes on too much water and you have to be bailed out by bankruptcy or a loan from a friend or relative. Who will continue to loan you money if you keep on spending?
That's the situation we find out government in today. Congress might as well raise the national debt ceiling to $50 trillion. They can't cure their own disease. The unions and lobbyists will see to it. Until that time at least when the water starts coming onto the deck of the boat. By then, what will the premium to buy gold and silver be? Today you can buy gold and silver at low premiums. They are the life preserver needed to keep one's portfolio afloat.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.
Additional disclosure: Long Physical Gold and Silver
