The Dollar Will Fall (And So May Everything Else), But When?

A news brief with Minyanville CEO Todd Harrison touches very nicely on our existing theme - dollar weakness is the fundamental cause of asset price increases in this Yahoo Tech Ticker video.



Harrison's points can be summarized by the last statement in the accompanying article:

"...Harrison thinks there are actually legitimate reasons for the dollar to rally in the near term:

• The creation of all this debt, creates demand for dollars.
• "The dollar is the best house in a bad neighborhood." Meaning, as bad as things are in the U.S. other economies around the globe aren't faring any better."

Harrison is short term bullish on dollar and long term bearish, which is similar to our thesis. However, our interpretation is a bit different.

As we stated last night, we believe the only things that can drive the dollar higher are:

• A return of a crisis, like the credit crisis phase we entered last year which forced the deleveraging of assets
• A structural fix to the economy such that consumers get out of debt, the US starts producing more than it consumes (net of trade deficit currency issues), the government shrinks in size and becomes more favorable to business, we let the banks go out of business as required, etc. This is a long term issue that is not being addressed. Quite the contrary, the Administration, the Fed, and the banking system are "papering over" the real problem by creating more dollars. That will only exacerbate the problem in time.
• A technical bounce that occurs when the dollar reaches specific levels on the USDX chart that have made historically good buy points. This will force the dollar to rise for short periods of time, but not necessarily substantially.
  

We differ with Harrison in the belief that the debt creation will drive the dollar higher significantly. For the most part, we see an increasing lack of foreign demand for Treasuries and more "tricks" associated with "stealth quantitative easing." (That's a topic for another time). Instead, we perceive that this debt creation will only slow the rate of decline of the dollar.

Short term, we can expect some dollar "strength." We refer to this strength as a "technical bounce" since we do not expect significant rises from the dollar without a crisis driving it (in which case, we would use dollars to buy hard assets). In short, the dollar is only the best house in a bad neighborhood if there is a sudden demand for houses. That is, without a crisis move, the dollar can only move up on technical trades for brief (2 month-ish) periods of time.

Here's the rub. Again, the dollar, as measured by the USDX, is really only an indication of capital flows among the US' key trading partners. As ALL countries continue to inflate (and they'll all have to to various degrees), the USDX may remain relatively stable even as prices rise globally. Note that this is the difference between the USDX as a measure of the strength of one floating currency against a basket of other floating currencies and price inflation as a result of all countries creating more liquidity. So the dollar may be the best of a bad bunch of apples, but we wouldn't advise eating any of them. All currencies will ultimately fall against hard assets as this crisis moves forward into its next phase.