14 January 2008 - 22:39Global Macroeconomic Picture

The rise of the Euro has been shrugged off by the ECB and that the pleas of prominent politicans to weaken the Euro have been ignored by the ECB. They have a point because the strong euro has not helped Europeans sell goods in the U.S. However a lot of the big exporters have had the foresight to short the dollar with large positions and have covered much of the loss on the Forex market. I remember hearing a few years ago that a large German automaker (I think it was Daimler) made more money in the quarter by trading forex than they did by selling cars. Meanwhile external price pressures which translate to inflation have been partially absorbed by the stronger Euro. Yet there is still inflationary pressure domestically to contend with although it is not really consumption based but more a result of money stock increasing at a high rate. What you should realize is that the ECB’s mandate is to deliver price stability by as they say “firmly anchoring inflation expectations” which is accomplished by raising rates and not bending to the will of whimpering politicians and companies. Will Europe suffer from this action from a growth standpoint? Absolutely, but the good news is that while they are not exactly flooding the U.S. with affordable goods they are doing brisk business with the far east. Particularly in the area of machinery orders to China who needs these to build it’s new factories. Luckily the Europeans are also shrewd enough not to spend every dime they get like the yanks and as a result help tame their domestic inflation and prepare for a slowdown that is most likely coming. The best part of the ECB sticking to it’s mandate and trying to tame inflation is that they do not encourage a bubble to build as a result of lax monetary policy. Sadly no such fiscal conservancy exists in the U.S. both the consumers and the government are up to their eyeballs in debt, and it doesn’t look like it will be getting better anytime soon. Luckily America still has good credit (even though it is not creditworthy) and the talk about switching to the Euro by the Arabs is at this point still just talk and this remains the saving grace of the dollar. Once the foreign reserve managers and oil producers finally make the inevitable switch the dollar will be worth much less. I see the Euro gaining as a result of that eventual move as well as the Yen and Yuan which have both been artificially kept far to weak for far to long. Allowing unsustainable inbalances to occur and an overdependance on American consumers from a global economic standpoint as well. Now it should be clear why gold is at all time highs, because confidence in the dollar is at all time lows. Those of you who know anything about markets understand that perception is a very powerful thing. Even if it’s not true if enough market participants believe something to be true which is false the reaction by the market is the same as if it is true.  With this in mind the lingering rumors of a switch in reserve currency from dollar to Euro help weaken the dollar and make the prospect all the more likely. The key test here will be Euro at $1.50 if this level is broken and a double top in Euro does not form we will be seeing oil priced in Euro or more likely bullion sooner than you think. There was another time in American history where the Arabs were only taking bullion, WW2. Paper money loses it’s appeal when people figure out it is worthless.