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Monday, October 26, 2009

Transcript: Demand Side 318 - Forecast:: Is there a soft landing for the dollar?

In a moment we'll get to a new element of the forecast, the fate of the dollar.

Before that, let's hit some points on this economy.

Courtesy of Gerald Minack of Morgan Stanley we hear that Debt to GDP is at an all-time high and effective tax rates are at an all-time low.  This is not the nominal rates, but the effective rates.

David Rosenberg says buy bonds or seek dividends, because this isn’t a normal recovery. 

Rosenberg, the chief economist and strategist for Toronto- based Gluskin Sheff + Associates Inc., was among the first to warn of impending recession in 2006.
“Right now the economy is being held together by very strong tape and glue provided by the Fed, Treasury and Congress,” he says. Rosenberg sees gross domestic product stalling in the current quarter, growing at an annual rate of no more than 1 percent in the first three months of 2010 and no more than 2 percent for all of 2010.

Glenn Rudebusch of the SF Fed:
Gap He also notes the poor outlook for jobs:
Although growth has returned, the economy will remain in a deep hole with high unemployment and underutilized productive resources for some time. So, even though the recession is over, production, income, sales, and employment will persist at subpar levels. A large amount of unemployed or underutilized labor and capital remains in the economy, and it will take a sustained period of growth for the economy to return to its normal or potential level.
In the week ending Oct. 17, the advance figure for seasonally adjusted initial claims was 531,000, an increase of 11,000 from the previous week's revised figure of 520,000. The 4-week moving average was 532,250, a decrease of 750 from the previous week's revised average of 533,000.

And here,
Geoffrey Garin, President, Hart Reasearch Associates, pollsters,

is talking about his polling research on estimations of the economy by real people.  We should listen to real people.  They have proven more accurate than economic forecasters.

That was Jeff Garin.
speaking at the same recent EPI that produced our special presentation of Rosa DeLauro on Saturday.  This coming Saturday we will relay the New Yorker interview of Joseph Stiglitz by James Suruweiki. 


Joseph Stiglitz is featured in on our new website Demand Side Minds at demandsideminds.blogspot.com, along with John Maynard Keynes, Leon Keyserling, John Kenneth Galbraith, Hyman Minsky, James K. Galbraith and George Soros.  The website is primarily to organize our own work, but there is room for expansion and comment.



Against a backdrop where some are saying the dollar must collapse because of all the money the Fed is printing, others are saying dollars will be in high demand to pay debts, others are saying, "Don't worry, dollars will be destroyed when debts are written off as unpayable," Demand Side predicts ... drumroll, please ...  

Dollar Demise

The stress in the world's economy has not abated, only the points of weakness have been shored up.  More correctly, the ship has hit the rocks but has been refloated by a wave of liquidity sent in by the Fed.  This has apparently avoided Armageddon, but in fact has only postponed it.  The next leg down will be the decline of the dollar.

No need for reserve currency that doesn't hold its value.

Investors are again moving into commodities as stores of value.  This puts downward pressure on the dollar and could easily lead to a self-reinforcing downward trend.

Instead of repairing the ship, discarding the broken parts, and resetting the course, the financial sector's excesses have been covered over with another layer of greenbacks.  No change in course.  Repeat, No change in course.  What SHOULD we expect?  Two things.  One:  Another severe shock.  Two: A misunderstanding of the shock, its causes and its remedies. 

In fact (make a note), nobody has said, "I told you so," at this point.  That will come when the duct tape comes off the hull and the water starts rushing in again.  Most of the "I told you so's will be "We should have used more duct tape."

What they have told us is that Armageddon has been avoided and it may be a long, hard slog for you working taxpayers, but we will finally get to the point we were at the start of the millenium.  What they have said is that there will be good growth with bad employment.  To me, that is a sick cow with a pretty bow, a bad job set to music.  Growth is not the measure of economic health.  Employment and incomes are the measure.  Growth may be a harbinger of a return to health, or it may be noise.  "Recovery is just around the corner," is a Hooverism, nothing more.

Are profits being seen in the financial sector examples of health in the financial sector?


But I am getting off point.

The Fed has made valuable things that are not valuable.  It has ratified and validated the basic mistakes of the financial sector.  It has eliminated market discipline in a very one-sided way -- benefiting the banks by shifting the burden to the worker and the taxpayer and stifling the real economy.  It has done this because it can print dollars, distribute money to those it favors with or without collateral, and do so without any restriction from representative government.

The Fed has made valuable things that are not valuable, hence the measure of value must fall.  This is in the interests of nobody, except short dollar traders, so it will likely not be overnight, but neither will it take five years.  And considering the Market's tendency to reflexive behavior, it could well overshoot.

Had a controlled unwinding of the bad investments been undertaken, rather than a ratification of them, debt and its immense burden would have been reduced by writing it off.  Now it is carried forward to be paid from the output of a severely undertooled real economy.  This means the inevitable bankruptcies and writedowns in a much more disorganized way.

Will this lead to inflation?

Not the too much money chasing too few goods inflation, No.  People do not have too much money.  There is no boom in aggregate demand on the horizon.  Inflation could well occur from price increases of commodities and imported goods.  Food, Energy.  If so, expect the Fed to contribute to further economic ruin by starving the real economy further.  The Fed is poised, or in internal conflict about, when to raise rates to combat inflation.  As we've noted ad nauseum, slamming on the brakes when the car is in park will not help.  There is no, zero, prospect of demand-pull inflation.  Only cost-push.  Yet the Fed, astute astronomers of Ptolemy, are all in a tither about such a decision.  Sigh.

The second major outcome I mentioned is confusion among economists, politicians and the public.  Ron Paul will rant that the dollar was trashed because it is a fiat currency.   This is like saying the ship broke because it was made of steel.  True, a boat made of wood would never have carried so many so hard into the rocks.  But it was not the fault of the steel.

Others will say it was government deficits.  But the real economy depends on the government spending, social insurance and the public goods like education, health care, transportation, courts and police, and so on.  Even the financial sector depends on the cash flow from these deficits.  There is certainly room to lower deficits with taxes focused on financial transactions, fossil fuels, and the higher incomes.  Revenue would likely come right off the top of financial sector profits.  Certainly such taxes would be in the direction of economic efficiency.  But government bashing is an occupation like circuses meant to keep the populace amused.  Fortunately in a society that allows information to flow, those so distracted are dwindling in number.  Whether they have become a minority, I don't know.

And Wall Street, of course, will not blame itself.  There will be some ineptness elsewhere they will conjure up.  Providing no value for its trillions in bailouts and cheap chips does not seem pertinent.  Its most pressing duty is to keep itself up as a going concern and its executives well paid.  For the benefit of all, of course.  Currently they are consumed with new bubbles.  Fed alert:  here is Jim Bianco of Bianco Research on Bloomberg Surveillance last week.


But the idea that a rescued financial sector would lead a robust recovery is now, sadly, a distant refrain sung off-key.  A favorite still of Fed Chair Ben Bernanke.  But no robust recovery is in the offing in anybody's estimation.  So Wall Street will find others to blame.  In the process of dollar decline, some of its own may fold, and then it will be the government's failure to rescue that will be the proximate cause of subsequent problems, not the systemic rot.

The most accurate lens to see this through is the idea that the requisite change in course was not made, the requisite repair and reconstruction was put off in favor of a superficial, if costly, papering over, and that the dollar collapse is simply this tape job breaking through.

There are those who point out that there is no substitute for the dollar as a reserve currency.  But what use is a reserve currency if it is falling in value?  It is a reserve currency because it holds its value.  It may be another cue for the Fed to put the screws on the real economy, to bid up the price of the dollar.  This would add to inflation, but subtract from economic health.

Monetary policy has been tried repeatedly and enthusiastically over many years to very little effect but great acclamation.

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