07.01.2008 0

The Weak Get Weaker…

  • On: 07/16/2008 12:50:13
  • In: Monetary Policy

  • “[O]ne of the lessons of the last 20 years especially is that low inflation is the major contributor to economic growth overall, and that fundamentally, inflation must be suppressed. And it’s ultimately the Federal Reserve in this country which is the key architect of doing that, and it’s critically important that the Federal Reserve … suppress the inflation rates that I see emerging, not immediately, but clearly over the intermediate and longer term period.”
    – Alan Greenspan, on ABC’s This Week in December, 2007.

    The U.S. dollar is already weak, and this week it can only get weaker.

    With oil topping $100/barrel, gold at about $1,000/ounce, and the Federal Reserve set to cut interest rates yet again in light of recession and home foreclosure concerns, the U.S. dollar is facing its greatest crisis since the stagflation of the 1970’s.

    The Fed seems obsessed with preventing a recession over the short-term. But the cost for that could be longer term inflation – or worse, stagflation (recession + inflation).

    The signs are unmistakable, and coming collapse may not be imminent. But it is on the horizon. From 1995-2005, U.S. dollars in circulation has doubled from $380 billion to $760 billion. In the same period, unsurprisingly, the price of oil jumped from about $20/barrel to around $50/barrel. In 1995, gold was hovering around $400/ounce, and today it is about $1000/ounce.

    Meanwhile, the U.S. to foreign currencies exchange rates have been plummeting. From 2003-present, the U.S. exchange rate from dollars to Euros has dropped from .95260 to a record-low of .64890.

    In addition, the Fed has been cutting interest rates, especially since 2001, to stave off recession. In 2000, the interest rate averaged at 6.24%. By 2003, it had been cut to an average 1.13%! Now, in 2008, where the rates had started out at 4.24%, they have already been slashed to 2.98% and are set to be cut yet again.

    Michael Pento of Delta Global Investors perhaps put it best in describing the Fed’s short-term plan:

    “[Increase] the money supply and real estate loan volume until home prices cease contracting. This is all there is to its ultimate plan for rescuing the economy and balance sheets of investment banks. Put another way, the Fed is trying to bail out certain investment banks on the back of the currency and at the expense of savers – simple cronyism in its most base form.”

    So, what good news does the Fed have for us? They apparently expect that U.S. exports will rise in 2008 because of the weak dollar. Bravo! That’s kind of like slitting your wrists to increase the flow of blood.

    Now, perhaps we’re pessimistic in our outlook. But the U.S. is no longer a manufacturing economy because of the unreasonable cost of doing business in the U.S. Additionally, with the housing market in a slump, the building trade is set to take a big hit this year.

    Adding to the gloomy economic picture are moves in recent years by oil-producing nations to sell their oil with currencies other than the U.S. dollar. For example, Iran and Venezuela are moving towards a petroeuro, and in 2006, Russia – the number one oil-producing nation in the world – moved to a petroruble.

    ALG Prediction:
    In a word, inflation. In the 1970’s, high oil prices coupled with increases in the money supply produced the dreaded stagflation. If Fed Chairman Ben Bernanke continues his failed monetary policies, there will come a point when it is no longer lucrative to trade oil with dollars no matter how many Greenbacks the Fed prints. At that point, our currency will be worthless and the American consumer will be helpless to drive to work at a hopeless exchange rate.

    So, what’s the bottom line? Perhaps President Reagan put it best when he said in his First Inaugural, “[G]overnment is not the solution to our problem; government is the problem.”

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