"Inflation is when you pay fifteen dollars for the ten-dollar haircut you used to get for five dollars when you had hair." ~ Sam Ewing
A reader recently asked me why I was "so bullish on the (US) dollar." I'd like to comment on that to avoid any possible confusion or misunderstanding.
Am I bullish on the dollar? The answer depends, as so often, on the time horizon we are referring to. Thus, the answer might be "maybe and NO." In the short-term, my answer is "maybe." I could envision the dollar to rally considerably in the short-term. In the medium- to long-term, the answer is a very clear "NO."
First of all, a solid currency very much depends on solid fundamental economic strength. The level of indebtedness in America has reached a level that, in my opinion, is no longer even close to a solid state. And we all know the continued panacea America's central bank will prescribe in addressing the related issues: MORE MONETARY INFLATION.
Consumer inflation, as depicted at Shadow Government Statistics (shadowstats.com), is on the rise already. And you will see more of this, even if temporarily we may see a setback in asset prices via a de-leveraging round similar to what we experienced in 2008. In any case, the fiscal problems in America, and Europe, will not go away without further currency devaluations.
Plain and simple budget considerations
A client and friend sent me the following "US Budget Considerations":
US Tax Revenue … USD 2,170,000,000,000
Federal Budget …. USD 3,820,000,000,000
New Debt ………… USD 1,650,000,000,000
National Debt …… USD 14,271,000,000,000
Recent Budget Cuts USD 38,500,000,000
Now, these are big numbers, so big that they tend to be without meaning to us. Therefore, let´s remove a few zeroes and pretend this was your family budget:
Annual income ………… USD 21,700
Money spent ………….. USD 38,200
New credit card debt .. USD 16,500
Outstanding Debt ……. USD 142,710
Spending cuts …………. USD 385 (!?)
You get the idea. The spending cuts and so called "measures of austerity" are nothing but window dressing. In view of these "budget considerations," I don't think the American economy is well. In fact, in the numbers listed above there is a big chunk of unfunded liabilities, roughly another USD60 Trillion or so, that have not been considered. Therefore, my expectations for the dollar are bleak at best.
And yet … the dollar is currently in high demand
The value of things, including currencies, never moves in a straight line. And when it comes to currencies, we know that similar budgets exist elsewhere. And, the strategy of window dressing is not a purely American phenomenon. Europe, as we know well by now, has been drawn into the game of monetary inflation and credit galore. Thus, currently, the Euro is in question and, due to intense media coverage, it is (arguably) considered the weaker currency.
Furthermore, the global economy and its financial markets are weakish. China's economy grew 9.1% in the third quarter from a year earlier, the slowest pace since 2009, driving stocks lower on concern that Europe's debt crisis is dragging on the "global recovery." Europe has displaced the US as China's main trading partner, and its crisis has started to affect the Chinese economy. This negative influence is coming on top of the tightening measures taken by Chinese authorities.
This, and many other factors, is making the dollar look relatively shiny at this point. And treasury papers have recently experienced a renaissance. As markets grow weaker, I could well envision us entering into the kind of "deflationary twister" that we experienced in 2008. (I wrote an in-depth article about this for Mountain Vision newsletter in 2008, called "In the Midst of a Deflationary Twister.")
The absolute need for active management
So again, am I bullish on the dollar? The quick answer was "maybe and NO." However, the question was triggered by my repeated recommendation over the past two to three months to beware of a rapid dollar appreciation. Therefore, the more appropriate answer, and the message I want to leave you with is this:
Whether you or I are bullish or bearish on the dollar is not really relevant at this point. What is relevant is that you can be assured that we will see continued high volatility in currency markets. Thus, proper risk management and adequate currency hedging is critical. You have to "stay on your feet" and actively manage foreign currency exposure.