A good friend and astute observer of the financial scene posted “The Case for the U.S. Dollar” on Prudent Bear’s message board last Friday:
The case against the US dollar is well documented and explains why gold has been so strong. Gold may also do well in a period of sustained dollar strength and credit deflation as the “currency of last resort”, but this latter thesis is untested and vulnerable and thus the first investor reaction to a strong dollar is likely to be to sell gold.
The case FOR a strong dollar against other fiat is simply that the alternatives suck worse:
Japan: The BOJ is screwing its culturally-predisposed saving-society with close to 0% interest rates; Japanese housewives are speculating in the difficult currency markets in a desperate attempt to offset dwindling investment income. China: Interest rates below US rates for an emerging market with high and rising inflation, an opaque banking system, corruption, and corporate earnings juiced by corporate treasury stock speculation.
United Kingdom: The UK is the US Financial System on Speed. Real estate bubble, sub-prime mortgage debacle, current account deficit and interest rates too high to support it all. Oh, and a central banker who warns about moral hazard a day before deploying it. What a joke.
Euro: This is an untested currency. Let’s see how the Greeks and Italians (with budget deficits much bigger than the US, by the way) handle “cohesion” when their economies go down the drain. They’ll want a much weaker currency or they’ll want out. But more relevant to the present, the US may have created all the “exotic” mortgage crap, but the naïve German banks bought the stuff. Germany is pissed at what they perceive as US rating agency fraud; they will unlikely be willing to accept a strong currency and weak exports for a fraud perpetrated against them. Oh, I almost forgot. Spain is about to financially implode.
Central Europe: Let’s see, Hungary and Poland are funding their mortgages in Euros. Smart move until it blows up. Latvia has a bigger real estate bubble than US. Czech Republic has lower interest rates than US.
Russia: Check out the money supply. Don’t ever complain about US M3 growth unless you are willing to complain doubly about monetary growth in Russia. The Ruble is obviously very dependent on high oil.
Well, you can always buy the Thai Baht but it’s now a negative carry trade!!
The difference between US dollar bad news, and non-US dollar bad news, is that the latter is NOT priced in.
Predictably, our friend’s contrarian take was not well received. In fact, the dollar is routinely despised, particularly among the bear community.
We must profess a small, but growing, place in our hearts for the lowly dollar. In five of the past six years, it has lost ground versus the currencies of its trading partners. Last Friday, the Bullish Consensus on 5 major currencies (yen, euro, pound, Canadian dollar and Swiss franc) averaged 80%, one of the most exuberant readings ever. The U.S. Dollar Index weighed in with just 20% bulls. The loonie is so strong, Canadian students are reportedly throwing parity parties and shoppers are crossing the border in droves in search of bargains.
Our dollar-warming friend makes an intriguing point: the dollar may be trash, but is it really any worse than other fiat currencies the world over? After all, the European Central Bank grew its balance sheet 9.7% over the past year versus just 3.5% for Bennie and the Fed. The official government-doctored inflation rate in the U.S. clocked in at 2.0% in August, while China’s statisticians admitted to a 6.5% annual CPI rate. And let’s not forget, the U.S. was not the only country fomenting a mortgage finance bubble – just look at the housing-related messes in the UK and Spain.
So the dollar does have some redeeming qualities – it is undervalued (on a purchasing power parity basis) and enjoys plenty of competition in the monetary mismanagement department. But perhaps its strongest appeal right now is that it is nearly friendless.