Hi again, and if that was not enough, I also must be on the lookout for the USD to flip up when USD interest rate starts to rise due to inflation expectations :0) or :0( or simply not sure to cry or laugh, yet, when, or if ever.
Now, a side issue of no small consequence is what happens if USD interest rate flips up before the USD starts to seriously tank?!
We are playing a video game with real money (or imitation wealth) at stake. Crossing the river by stepping on those cartoon logs. If fall into water, lose the quarter.
Excuse me James Grant, I am doing you some publicity. Sorry again, just this once, more.
grantsinvestor.com
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DOLLAR TALK
by Andrew Kashdan 07:00 AM 08|17|2001
A slight drop in the dollar has spawned a plethora of comment, some of which ignores a harsh reality: Even if the U.S. had 'a policy' and the means to implement it, there is no easy solution to the problem.
There has been a lot of talk about the dollar recently, and a lot of talk about the fact that there's been a lot of talk. Some of the comments have been misinformed, incomplete or just plain wrong. (Our criticism of this din of discourse may be equally misinformed, but at least it permits us to refrain from making yet another prediction on the direction of the dollar. Before we so refrain, however, we say it's going down.) Our intent is to correct some of the fallacies floating around: First, a weaker dollar will not be an unalloyed blessing for the U.S. economy; second, the so-called strong dollar policy is nothing but a vast propaganda device; third (and most profound), the dollar will do what it's going to do.
All the major newspapers have pitched in with recent editorials and op-ed wisdom. In early August, Paul Krugman, the nation's top economic pundit at The New York Times, called the dollar a "Ponzi scheme" that is "about to run out of suckers." He concluded that "the great dollar decline is coming, and we should welcome its arrival." Although Grant's Investor has previously noted the risks of a dollar correction, we believe any beneficial consequences may not be so clear-cut as to warrant a "welcome." Other commentators have been closer to the mark. Philip Coggan of the Financial Times, for instance, says, "Beware what you wish for," and Robert Samuelson of The Washington Post warns that the "damaging side effects might overwhelm trade gains."
Taking another tack, economist Larry Kudlow, a frequent guest on CNBC, is certain that the Fed should "inject substantially more liquidity into the economy," seemingly without regard for whatever else is going on. Kudlow is also "devoutly opposed" to ending the "strong dollar policy" and in favor of "preserving dollar value based on a broad market basket of commodities." How these prescriptions fit with massive liquidity injections is unclear.
Getting back to Krugman, the Times columnist offers three reasons why the dollar and long-term interest rates have not gone in the "right" direction. For those who read Krugman regularly, it will come as no surprise that the first two are the Bush administration and the Bush administration -- in particular, statements made by Treasury Secretary Paul O'Neill and the recent tax cut. It seems that the press is so used to talking about the "strong dollar policy" that no one recognizes that there isn't one. Or, perhaps more accurately, the policy consists of administration officials continually repeating the words "strong dollar." As James Bianco, president of Bianco Research, observes: "What exactly does the Treasury do to keep the dollar strong? Except for issuing press releases, we are not sure."
It is true that the markets would react to any significant statement by O'Neill, and they might also react without one. Currency traders are a jittery bunch. Recent wiggles in the dollar exchange rate were the result of a nearly meaningless policy change by the Bank of Japan and a standard warning from the International Monetary Fund about the "unsustainable" U.S. current account balance. But neither O'Neill's opinions, nor those of his predecessors, have caused any sustained moves in the dollar.
Even intervention, the one policy tool that is available to the Treasury -- and the Fed may decide to "sterilize" the intervention so as to offset the impact on the domestic money supply -- doesn't work in the longer term. The massive, coordinated interventions in 1985 and 1995 (unlikely to be repeated anytime soon) wouldn't have been nearly so successful if the fundamentals hadn't already been pointing -- or quickly thereafter did point -- in the desired direction. After the dollar/yen intervention of 1998, the concern shifted from unease over a yen that was too weak to fears that it was too strong. But the yen was not merely obliging the past wishes of government officials. In the longer term, and usually sooner than that, Mr. Market tends to stubbornly follow the fundamentals. The yen episode illustrated that a currency's value is more than a reflection of economic growth; in the end, it's all about supply and demand.
Right now, foreign investors may be overestimating the potential return on U.S. assets, but does anyone really believe they are holding on because O'Neill hasn't said anything bad about the dollar?
As for Krugman's third reason to explain the current levels of the dollar and long-term rates, it is that "optimism, paradoxically, helps keep the bad times rolling." This statement muddles what is an accurate point -- i.e., investors expect interest rates to rise again because they are bullish on America. It does not necessarily follow that if investors were to become bearish, yields would fall, and "a recovery led by housing and exports will be in place," as Krugman postulates. (Such a turn of events, however, might provide the irony for a future Krugman column -- by becoming bearish, investors should have become bullish.)
Paul Kasriel, director of economic research at Northern Trust Co., provides the best brief on the monetary policy dilemma. If the dollar has entered a downward trend, he says, "this could be checkmate for Alan Greenspan." [See the accompanying story, "Running Out Of Options."] As everyone knows, a falling dollar would raise inflation expectations as well as boost exports, all else being equal. But, as Kasriel points out, it would also increase money supply growth unless the Fed were willing to raise the funds rate. If global investors pulled their money out of the U.S., prodded by a falling dollar, there would be an excess demand for credit domestically. Unless the Fed raised rates, it would create the credit to accommodate this demand, thus adding to inflationary pressures. Although Kasriel has admitted to being bearish on the dollar, he warns: "Take it from me -- a weaker dollar is the last thing the U.S. should want right now."
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