Friday, September 14, 2007


The probability of a 50 basis point rate cut rose this morning. Slow retail sales and a further decline in the dollar shows that the US economy needs to be stimulated. Keep in mind that the world economy is not like a smooth lake on a clear day but more like an ocean with many storms raging. A swell in one part of the ocean means there must be a dip in another area.

China has announced its 5th interest rate increase. The base lending rate in China is now at 7.92%. The deep decline in the value of the dollar has been the major dip that has helped cause the huge swell in China. Because the Yuan is pegged to the dollar, the lower the dollar goes the more other nations buy from China. China's manufacturing growth has been phenomenal. The increases in rates in China will have a marginal effect on economic growth in China but the turn in the dollar will be far more important. Once the dollar starts to appreciate, just as it did after the turn in 1995, the price of goods purchased from China by other nations will rise. Because oil is priced in dollars, the price of oil will also rise in terms of other currencies. Demand destruction will accelerate in Euroland and else where as their cost of oil rises.

The Kurds have made a deal with key players in Iraq. The Kurds are to get 17% of the oil revenues produced in this very oil rich region. Iraq is the 15th largest oil producer in the world but it is the 3rd largest in terms of reserves. The potential for steady production increases is there. The final resolution of the oil sharing agreement still has hurdles to jump. The central government has still failed to pass a compromise bill. The people of Iraq are getting tired of waiting for the compromise to develop. The Kurds have signed additional development deals. The latest is with the Hunt family of Texas. There are many other development projects under way. The investors range from the Japanese and Chinese to the Canadians and Norwegians.

The new strategy of arming militias in the various provinces has worked well in the Anbar province and the model is being followed elsewhere. Should the various armed factions go to war with each other, the civil war could be big, but giving power to the providence's is, so far, working against al Quaeda.


The slowdown in the US economy is concentrated mostly in housing. Even the auto industry appears ready to surge forward. A drop in US interest rates would begin to heal a lot of wounds in a hurry. Those people sweating a reset of their home mortgage rate will be relieved by the drop in short term rates. Unfortunately, many will have been scared into refinancing at relatively high fixed rates. It is not the time to lock in to a 30 year loan, but, again, the financial industry is doing a good job, in cooperation with the news media and the democratic congress, of taking advantage of the unknowing. The impression has been given that mortgages are hard to find. This impression makes the high fees being charged for refinancing easier to swallow.


While the "non bank banks" have gotten pounded; the strong have gotten stronger. The cost of money has already fallen sharply. A cut by the FOMC will lower the cost of money more. Those who borrow huge sums (airlines being my favorite example), will benefit greatly from the lower cost of funds.

Each time a set of weak numbers is announced, the probability of a 50 basis point rate cut increases. It remains to be seen if 50 basis points will be the move and if the one move is enough to cause the free fall in the dollar to stop. Of course, should the free fall in the dollar turn into a sharp climb in value, the price of oil will fall along with the climb. What a wonderful environment to make serious money! BUY BUY BUY