The U.S. Dollar: A Contrarian View

Includes: UDN, UUP
by: Robert Nabloid

I get a lot of emails from various investment newsletters. I recently got one from Investment U that was written by Louis Basenese titled "The End Of The Weak Dollar." In his article Louis had ten reasons why the U.S. dollar is headed higher, not lower like many people believe. I can’t publish the entire article, but I can summarize his ten points, and then offer my thoughts on each. That is what I intend to do.

Before I go on, please realize that either Louis or me can be right, but we won’t both be right. I don’t know what will happen in the future anymore than he does.

1. If not the weak dollar...: Louis talks about how China has recently said they wish to diversify away from the U.S. dollar. His response is that the euro simply doesn’t have enough liquidity to handle that and it would take more than eight years to diversify away. Besides that, he calls the euro experimental. Louis doesn’t think anyone can do anything but complain.

My take: China wishes to diversify away from U.S. dollars. That doesn’t mean they will not take anymore U.S. dollars, but it might mean they buy less U.S. dollars in the future. That is always bad for the supply/demand ratios and it is NOT good news for the U.S. dollar - period. The Euro is NOT an experimental currency - it is a real currency that plenty of people are starting to place faith in. (In my opinion ALL fiat currencies are experimental and will ultimately fail.) In fact, the U.S. dollar is losing faith of the people as it continues its slide relative to other currencies. In 2002, the U.S. dollar was worth about C$1.60. And now? It's about C$1 depending on what day you check. China isn’t limited to just buying U.S. dollars or Euros… They can buy gold, silver, oil, Canadian dollars, Australian dollars, and so on. There are plenty of asset classes to store wealth, fiat currencies aren’t alone.

2. The Fed: Louis believes the Fed is an ally of the dollar. He says in the short-term the Fed will weaken the dollar, but in the long-term the Fed will be forced to raise rates to deal with inflation and that will strengthen it.

My Take: The Fed is not an ally of the dollar and never has been. It does everything it can to butcher the value through inflation. Yes, raising the rates will deal with inflation to a degree. But it’s hard to deal with inflation by JUST raising the rates when you are also printing large amounts of money that also devalues the currency. If the Fed was so good at making the value of the U.S. dollar go up, then why has inflation continued, and why did it only cost my grandpa a nickel for a coke? Seems to me the BUYING power of the dollar has been eroded over time.

3. What Goes Down…: Louis writes about what goes down eventually goes back up and since the dollar is at lows against most other currencies, the dollar is bound to go back up.

My Take: Not everything goes back up. If everything that went down eventually went back up we wouldn’t have to worry about “risk” in the stock market. Just because something went down doesn’t mean it will come back if the fundamental reasons causing it aren’t corrected or changed. Furthermore, much of the “going back up” part is often due to inflation that forces the prices of many asset classes to go up. Sure, if house prices are $100,000 and then fall to $80,000 at which point I decide to buy, then in 10 years, if house prices return to $100,000, I don’t actually think I made any money. (Since it would now cost $100,000 to buy the exact same house.)

When discussing inflation and buying power, and the value of the dollar, stop thinking about the value of the dollar just based on other currencies. Instead, think about the value of the dollar based on its actual buying power. It has always gone down. Fiat currencies suck. Louis is just discussing the strength of the U.S. dollar in relation to the strength of the other fiat currencies, so we’re talking slightly different topics. I’d rather talk about the erosion of our buying power by using fiat currencies.

4. Warren Buffet, Jim Rogers and Bill Gross: Louis claims that these three legends can be wrong about the U.S. dollar.

My Take: Duh - they aren’t gods. Just because they CAN be wrong doesn’t mean they ARE. Time will tell.

5. Pop Culture: Even in our pop culture there are now examples of people hating the dollar. Since pop culture hates the dollar, it must be near the end of its fall.

My Take: Just because pop culture is now paying attention to the falling dollar doesn’t mean it will now stop falling. The fundamentals will decide.

6. The Unsophisticated Are Now Speculating: Louis says that unsophisticated people are now better the dollar is going to continue going down because some shop owners are now posting signs about accepting euro’s.

My Take: Perhaps that shop owner used to be an Investment Advisor or even ran a large hedge fund. Just because shop owners are now speculating doesn’t mean they are wrong or that they are unsophisticated. They could and may very well be wrong, but you can’t tell how sophisticated someone is purely by their current job. Also, they are business owners that specialize in making money and they are currently making some extra money by accepting Euro’s.

7. The Amero...: Louis goes on to explain that the Amero is a really bad idea and will NEVER happen because the U.S. will never want to give up control over their macroeconomic situation - besides which, it is nothing but a conspiracy theory.

My Take: The Amero is a really bad idea (I agree!). But, since the U.S. is so much larger than Mexico and Canada combined in both population and economics, the U.S. wouldn’t relinquish control but instead gain control over both Canada and Mexico. The Euro was a different situation since no one country controls a majority, but if the Amero were to occur the U.S. would be the majority and therefore have more power than Canada and Mexico.

The resources that Canada offer would also help bring stability to the currency by taking into account all those assets in the ground (ie, the assets backing the promissory note (which fiat currencies are) would be strengthened). If (a big IF) the U.S. dollar was to crash or fall significantly, do you not think the U.S. government would try and come out with a new Amero currency? It would be more stable and better compete with the Euro.

Having said that, I think it is such a bad idea for resource-rich Canada. We would be giving up control over our fortunes, and yes, we are a VERY rich country. Our oil reserves are now second in the world (and still climbing as we discover more!), and we have plenty of farm land and other natural resources contained within our vast borders. We are currently in SURPLUS territory for our government budgets, and our economy is growing rapidly (in the resource sectors - perhaps not the manufacturing sectors - but that is a problem with labour and competing with the wage slaves in China that aren’t paid well.). Let’s hope this Amero never happens, and that it is just a stupid conspiracy theory (though I have my doubts about whether its just a theory and that it might be a plan for the future).

8. A Weak Dollar Helps Nobody: Louis says it helps nobody.

My Take: It helps somebody because there are two parties to every transaction and somebody will be the winner and somebody will be the loser.

9. Not Decoupled: The world will feel the U.S. economic woes and will help cushion the dollar.

My Take: Yes, the world will feel any U.S. recession that may occur. That doesn’t stop the U.S. dollar from going lower. The U.S. dollar, and the U.S. economy aren’t the same thing. The economy could grow jobs and wealth but the Fed could print billions of dollars of currency and have a low interest rate which in essence devalues the dollar. The dollar is just one tool to measure and conduct trade. Also remember that the developing world is growing because they are getting jobs and moving to the city. Even with a U.S. slowdown it’s possible that they will grow simply because they are in the middle up building up their countries with bridges, roads, automobiles, skyscrapers and the other first world luxuries. The U.S. isn’t the only country on earth that buys things from others and it’s percent of power in the world economy is beginning to decline.

10. Stocks Love a Strong Dollar:

My Take: Stocks love inflation so that asset prices go up due to increased profits, even though some of that increase in profits is negligible because after inflation is taken into account that larger profit base still only buys the same amount of goods as the lower profit a year before. Stocks will rise due to inflation and that is one reason fiat currencies are so popular - you can disguise rising asset prices and rising profits and dress it up like its all good news. It’s harder to measure whether your BUYING POWER for the profits went up or not. You HAVE to increase your profits every year due to inflation - and then you’re only even. You have to increase profits QUICKER than inflation or your buying power really didn’t increase even though your stock went higher. Oh, and a weak dollar will help INCREASE profits for all international companies that are based in the U.S. since they will convert those profits from other currencies back to U.S. dollars of which they will be able to buy more which will cause their profits to increase.

In fact, inflation and rising asset prices helps the tax man. Example: Let’s say I buy a stock that only raises its profit at 4% a year (the same as the rate of inflation). In ten years I sell the stock. It’s worth more than I bought it for (the stock also rose 4% per year) because the profits went up (even though the buying power didn’t). The stock is worth more than I paid for it so I now pay taxes on this gain. What a load of crap considering the stock is worth exactly the same amount of buying power it was 10 years ago when I bought it for less. The only difference is the tax man got to steal some of that money.

My Conclusion: Perhaps I’m the true contrarian. I believe that the way we measure strength or weakness within a particular currency is COMPLETELY WRONG! The only measure that matters should be the buying power of a currency. Using that measure, ALL fiat currencies have failed to be “strong.” I realize I’m discussing a slightly different topic than Louis since he is talking about the relative strength of one fiat currency (the U.S. dollar) versus the strength of others. I just think that is the wrong way to look at a currency, and I think it’s funny that our entire culture views strength or weakness of a currency only by comparison of other fiat currencies instead of purely based on the buying power year over year, decade over decade. All fiat currencies are failed. They are a poor store of wealth.

So who is ultimately right? Louis or me? Well, he might be correct in his notion that the U.S. dollar will eventually rise in value relative to other fiat currencies, but I KNOW I’m right and that the USD along with other fiat currencies will continue to go down in terms of buying power… in other words, the value of the U.S. dollar and other currencies WILL go down - PERIOD.