Thursday, July 31, 2008

US Dollar Elevator -- GOING UP! (revised)

Since 1995, the "US Dollar Elevator" has been from the ground floor to the top floor and all the way back to the sub-basement.

In March of 1995, the US Dollar Index hit and extreme low of 81.69. In January of 2002, the US Dollar index hit 120.24.

On April 22, 2008, the US Dollar Index hit an all time low of 71.32, a 41% decrease from the prior peak.

Since April of 2008, the US Dollar Index has been working its way through a bottoming process. The Index is around 73.3 today.

The next big move is all the way back to the 120 level.


The counter balance to the US Dollar Index Elevator is the US exports Elevator.

The US export elevator has gone out the top of the building. Last month the jump was 9%! Those who have suggested that the US has been in a recession since 2007 have had to contend with very strong export numbers. The US economy grew 1.9% last quarter as strong exports more than off set declines in other areas. The US has become so wealthy that even housing construction and auto production are relatively small portions of our total economy.

The US Dollar will rise out of the sub-basement as the export elevator comes back to a reasonable level, or will it? During the "prosperity phase" of the Juglar Business Cycle, we can expect economies from around the world to purchase US capital goods. Computer networks are going to expand rapidly for the next 5 years or so. The US export machine is just getting cranked up!

One of the "trap-statistics" Keynesian big spenders (mostly democrats) use to encourage misguided policies such as minimum wage laws, $600 tax rebates and high taxes on productive assets, is the false number that consumers account for about 70% of the economy. The reality is, since business investment is calculated as net new investment and consumer spending is a grand total, business spending is actually about the same size as consumer spending. Government spending is the least important except that it has grown to be so large and because it is the least efficient spender of the three.

Duh! Over time, businesses only spend the net money they get from consumers and consumers only spend the net money they get from business. It really cannot be that consumers spend more than businesses. Just like supply must equal demand, production and consumption are two sides of the same coin. The "trade" between the business and the consumer is a bit like the silliness of blaming speculators for the price of oil, is it the guy who is buying the contract or the one who is selling the contract who is driving the price? A couple of days ago a Sheik complained about how speculators are driving the price of oil down :-). Is it the consumer who drives an SUV who is driving up the price of oil or the gas station that charges what the market will bear? The problem the oil companies have right now is that a growing number of consumers are parking SUV's and filling up one gallon scooter tanks. While I'm ranting, let me mention that price gouging and speculative manipulation or generally nothing more than easy, convenient, evil scape goats. You cannot gasoline price gouge the fellow who is willing to pedal his bike.

During the next several years, pent up US Dollars held by Asian producers of consumer products and oil producers will be "returned" to the US in the form of capital goods purchases. The dollar will rise as the demand for US goods stays strong. Ironically, strong US sales and the dollar will come close to riding the same elevator up.

Economic Slowdown

First we have to get through the rotating slow down. Countries around the world, yesterday it was India and Romania, are raising interest rates to fight inflation. Higher interest rates are slowing the world wide demand for goods (oil included). Mexico is one of many economies that are getting slammed hard by higher prices. Even US central bankers are now starting to tilt toward short rate increases to fight inflation.

Higher interest rates make holding money more profitable than holding goods. During the past 21 days, the S&P Energy Stock Index is down 12.6% while the S&P Financial Stock Index is up 7.5%. As any long term observer would expect, this turn in prices comes at a time of huge reported earnings by the energy stocks and huge losses reported by the financial stocks. The mid-cycle rotation is underway.


Hank Paulson could have started-up the covered bond market at any time to help turn the housing market, but he waited until the congress passed his proposed reforms to Freddie Mac and Fannie Mae. To be fair, it was the passage of the bill that gave the Treasury Secretary the power to eventually set higher capital requirements for these GSIs. The higher capital requirements will level the playing field between the GSIs and commercial banks.

The republican house passed reforms to correct the GSI problems two years ago but the reforms died in the Senate. This time, the congress had little choice but to pass the reforms offered by Paulson. With approval ratings at 9%, congress had to pass the housing bail out bill, the Bush administration went along with the pork barrel payoffs to local community leaders, in exchange for the Paulson reforms.

Bush could have released the executive hold on energy months or years ago but, he waited until oil demand was falling and until new oil supplies were coming on line and until a deal with Iran was close. Wow! What a magic trick! Bush opened his mouth and the value of billions of barrels of oil fell by $20 each! Knowing when to open your mouth is a valuable trick.

Now the congress is in a box. Between now and the elections, the congress will be forced to vote for or against energy legislation. It remains to be seen how much pressure will be applied or how much pressure the congress can stand. For example, a Continuing Resolution must pass by September 30 or the government will shut down. When Newt Gingrich forced a shut down in 1995, Bill Clinton was able to put the full blame on congress. If the minority party insists on a vote on energy or no CR, would the public blame the democrats or the republicans? The risk are high because the bulk of the media is on the democrat side. Still, it is the democrats who refuse to vote on oil and they are the ones who are once again far behind on passing budget bills that are past due as of September 30.

Political Games and More Games

In recent weeks, democrat leaders have tried to pass bills about a hundred bills without allowing debate, amendment or a source of funding. Tom Coburn has become the Dr. No of the senate. He has stopped even minor bills from passing by unanimous consent. Harry Reid has tried but failed to out maneuver him. Other republicans have joined the cause. If a source of funding had to be identified for every bill, billions of dollars of wasteful spending would be cut. Right now, republicans have forced the senate train to a dead stop. The senate is not being allowed to move on to other legislation until after a vote on drilling. Over in the house, the vote to adjourn passed by a one vote margin. Eleven democrats joined is saying a vote on drilling should be made before legislators leave for the August recess.

The risk is that nothing much will happen for the next three weeks, no vote to drill and no progress with Iran. On the other hand, if a deal could be worked out in the Senate (a group of five democrats and five republicans keep working on getting a filibuster proof agreement), Bush could even call back the house from vacation. It appears democrats are prepared to go to their convention and to blame republicans for the the failure to pass an energy bill that includes anti-speculation legislation and massive funding for windmills.

The risk in Iran is obvious. Several Iranian officials have talked in glowing terms about the change coming to America (our opponents can't wait for an Obama presidency). It is a risky strategy but some Iranian leaders hope to stall until the end of the Bush administration.

After the firing of test rockets by Iran, European leaders have become all the more willing to hit Iran with harsh sanctions. Immediately after the tests, the US installed a missile defense system in the Chezk Republic. Russia was not happy. The world wants the Iran matter settled quickly. The deadline for a response from Iran is Saturday and the market apparently slightly anticipates a positive response, oil is trading down a little more today.

A few weeks ago, the heated words being thrown from and to Iran this week would have sent oil prices soaring. As always the price is set by supply and demand, but a few weeks ago a lot of folks were willing to pay big money to store extra oil as they perceived the risks of an Iranian oil cutoff to be high. Today, there is a growing understanding that the severe pain will be caused by the cutoff off gasoline to Iran. The score is 85 million suppled each day to 85 million demanded each day. The bad guys can shut down a couple of million barrels but the good guys have easy access to 3 million more without tapping SPRs.

Troops in Iraq

There were only 5 US combat deaths in Iraq in July. Iranian leaders who believe in many of the teachings of Jesus Christ, like to point to instances when Americans do not follow these teachings. Iranian leaders note that since the 9/11/2001 attacks that killed less than 4,000 people, almost 100,000 Americans have been killed by gunshot. The 100,000 does not include the 4,100 killed in Iraq. I mention these numbers because 5 deaths are terrible but also relatively small. Another 4 soldiers were killed in Iraq in July due to accidents. Everyday, you and I meet a driver who is talking on the phone and weaving along the road. More than 4,000 Americans were killed in auto accidents during July.

Bush reduced troop tours from 15 months to 12 months today. Yesterday in East Baghdad a Hezbollah leader was fingered and captured. The occasional bomb continues to go off but the good news continues to flow from Iraq. Oil exports just hit a new 5 year high at 2.43 million barrels per day (probably more than Iran's) and many a community has seen electricity, water and other services restored.

Don't Forget the Paradox of Thrift!

In recent news, the $500 billion deficit was "good news". We must always remember the paradox of thrift. In micro-economics we learned that it is "good" for an individual to save. Then, in macro-economics we learned that if everyone suddenly starts to save then net savings go down! We need people who are willing to borrow money to buy a house if we want the value of our house to go up. If everyone saves and none buy, then the value of our assets go down. Sometimes we really need government to take up the spending chore. The public has tightened down a bit. It is a good thing for the government to run a deficit when the economy is slow. The tax increases proposed by Obama would be exactly the wrong medicine for the economic conditions.

Stocks eventually suffer when the government pays down too hard on debt. Debt is a sharp knife in the kitchen, an indispensable tool but one that must be used carefully.

After the Gulf War, Bill Clinton used the peace dividend on domestic programs. It was a fun ride. Once the government built began taking in a surplus the economy went into the tank. The switch from military to domestic spending also emboldened Jihadist around the globe.

Today, Jihadist are being corralled in tighter and less strategic locations. Osam bin Laden and his friends have less and less opportunity to do serious damage as they hang out together in the high mountains of the Middle East. Democrats talk about the cost of the war but this time they talk about spending more on programs by raising taxes on the rich. They do not want to open up the can of worms that the 9-11 attack came after years of reduced military spending. It is surprising that 40 year old plus women support McCain. Women are generally anti-war but they very much desire security. McCain is clearly the "safe" candidate.

While the end of combat in Iraq will reduce the spending there, the mountains of the Middle East do need more attention as do areas of Africa. The wonderful news is that as nations join the Global Nuclear Energy Partnership, they commit to helping eliminate terrorism. None GNEP nations have contributed billions of dollars to organizations all the way around from Hezbollah to Hamas. In the new paradigm, the cheapest source of energy will be cut off from countries that support terror.

The US Dollar is GOING UP! In times of war, inflation tends to get out of hand and gold is hoarded. The cost of storing gold is like the cost of storing oil, it only makes sense if the price is going to outstrip inflation. Inflation rates are ready to roll over. The price of oil is going to feed through to the core inflation rate on the way down, the same way it did on the way up. A lot of investors are going to gradually grow tired of holding gold as global terror and inflation rates fall. Jump on the elevator for a fun ride. Buy financial, consumer cyclical, technology and industrial stocks (which includes transportation). Pharmaceutics are also a good play.


Anonymous said...

I hope so! Icant wait for dollar to go up