Back in October, I ran a post that looked at the U.S. economy and wondered about some of its fundamentals.
At least one of those concerns seems to be shared by The Economist, which is openly speculating about a large drop in the U.S. dollar over the next few years. Could the U.S. dollar even lose its reserve currency status?
Economist Brad DeLong has been talking about this possibility for a while, and it's worth considering his arguments. Read the Economist article, too - it contains many important points that his excerpts miss. The current situation is the result of a 2-decade long trend in the U.S. economy, and it won't be easy to change.
Given The Economist magazine's focus on trade and current accounts deficits, economist Arnold Kling's explanation of the negative U.S. Trade Balance as a savings deficit rather than a "trade deficit" is also worth reading. Kling's solution? "Try to take the best and reject the worst ideas from supply-side economics." Thus making both parties unhappy - but it seems like good advice.
Finally, here's a Canadian page with very understandable explanations if you're wondering what is meant by trade deficit, current accounts deficits, etc. You're welcome, eh!
The fact that nearly everyone is talking about the dollar falling into oblivion is probably the best evidence that a bottom is forming. Roughly 95% of traders are currently bearish on the dollar. That sort of extreme sentiment usually indicates a reversal is at hand.
Now it's out there in the popular press, on television, and even on the non-financial blogs. "The dollar is a goner." Advice on how to invest in the dollar's permanent fall (remember high-tech's 'permanent rise'?).
These are typically the environments in which money is made by betting against the crowd, not by running with it, over the cliff. Bearishness, however is so strong that the reversal in the dollar's fortunes will probably take several months to unfold and will not be believed or recognised at first.
Just remember that on the other end of the spectrum there is a near manic bullishness for stocks, gold, houses, tin, copper, whatever. As these (naturally) reverse their extreme bullishness we should expect a dollar rally of some robustness and duration.
As usual, it will surprise almost everyone.
NewsMax has another take on the sinking dollar. I read NewsMax with a grain of salt, and haven't looked for corroborating evidence of the OPEC angle. But it seems plausible. Here's the story:
OPEC DUMPS THE DOLLAR
http://www.newsmax.com/archives/articles/2004/12/6/211118.shtml
"...OPEC cartel nations have been dumping the U.S. dollar over the past three years, according to the Bank for International Settlements (BIS). The dollar has been falling dramatically in recent years -- reaching new lows against the Euro and other currencies. One key culprit may be OPEC states who have traditionally denominated their transactions in U.S. dollars - but are now moving to the Euro in what the BIS says is a "subtle but noticeable" shift."
George Soros's man lost.
Dollar rallies?
I think the Kling article is a good start. Wish I'd seen that one first, but I'm not generally very fond of Kling or TCS. Another way to look at the current-account deficit is the difference between domestic investment and domestic savings, which means foreign investors are making up the difference. Pretty similar to what Kling was saying.
Bart Hall : The fact that nearly everyone is talking about the dollar falling into oblivion is probably the best evidence that a bottom is forming. Roughly 95% of traders are currently bearish on the dollar. That sort of extreme sentiment usually indicates a reversal is at hand.
I'm no economist, but I think this is a bit simplistic, which I think is clear if you read The Economist article (especially the full article complete with graphs, not just DeLong's excerpt). To me, the situation seems somewhat similar to that of an investment bubble. Some investors are holding large amounts of dollars in complete disregard to its instrinsic value. In most bubbles, this occurs when investors focus on the upward momentum and either think they can buy and then sell later to leave another chump holding the bag, or start believing that valuation no longer matters. In this case, you have a large number of Asian central banks buying dollars, not because they think it's a good investment, but in order to depress the valuation of their own currencies in relation to the dollar.
Asian central banks lending to American consumers for spending on imports has never been a sustainable arrangement. The only question is when the bill comes due. Kinda similar to the Social Security situation. But as with SS, it's not necessarily armageddon. As Tyler Cowen notes, we could be in for a soft landing.
Well, I sure hadn't expected this morning's pop in the dollar and drop in commodities when I posted my comments above. I also agree that the dollar and the US economy are not without significant challenges and indisputable problems.
The simple historical fact, however, is that when you see the sorts of extremes in bearishness or bullishness we have been seeing, the market in question is way oversold (or overbought) and will correct.
Though no economist, I am a voracious reader of economic history, including stuff that's pretty arcane by just about anybody's standard. Wanna find out 13th century wheat cycles or 10th century donkey prices ?? There really is nothing new under the sun, and it never "really is different this time."
For an excellent and detailed discussion of the dollar (published this afternoon) from a guy who makes his living at it, you should read what Chip Hanlon of Euro-Pacific Capital has to offer.
Along with some great charts he adds
bq._The 80-level on the U.S. Dollar Index looms as massive support, an area where the currency spent approximately 6 years building a huge triple bottom. Perhaps we stand at the precipice of a dollar collapse, but calamity is precisely what is required from here to move the dollar through that level; indeed, I'm not sure if dollar bears fully realize the implications of their hopes for a meaningful decline from today's levels._
Technical analysis? I tend to eschew it after reading A Random Walk Down Wall Street, especially the part where Malkiel generated a chart using coin flips and showed it to a technical analyst type who immediately told him to buy that stock.