Time To Buy The US Dollar?

Forty years ago, one US dollar bought 900 mg of gold. This morning you would only get 29.57 mg – a 97% devaluation.  In just eight years, it has halved in value against the AUD $$. But is this the beginning of the end?  Is the US $$ bear market almost over?   You know the saying that when the financial news moves from the pink pages to the front pages, it’s time to change strategy.

As the proud holder of no US dollars, i’m less concerned by Ben Bernanke’s eagerness to swap mortgage securities for treasuries, his desperation in bailing out third tier investment banks, his urgency in slashing interest rates in the face of rapidly rising inflation and his manic flooding of the repo market with liquidity.  I am concerned, however, that Gisele refuses to be paid in US dollars and that Jay Z chooses to flash a wad of Euro notes rather than $$. Buy dollars.

watch at 0:50

34 thoughts on “Time To Buy The US Dollar?

  1. The US$ started its’ collapse in 1973, the year of the petrol crisis. Coincidence? And that was when the Watergate scandal broke. AND the Whitlam years afflicted Australia from 1972 to 1975!
    I want an apology from everyone who voted for Federal Labor in 1972! You ruined the world, not just Australia!!!!

  2. I used to buy music from a sydney shop online a few years ago. The price conversion fro USD to AUD felt like I was seriously cheating. $15-$16 AU would cost me $8-$9 USD. It was cheaper to buy products, have the shipped across the pacific ocean than it was to buy them here in California. Now its roughly the same. That $15-$16 AU now runs me $14-$15. I have seen our currency drop in value. Over the last few years the price of petrol has doubled.

    As someone who is living in the middle of it, the economic storm is hardly over. I can’t tell you if it would be a good idea to buy American dollars, but I am certain there are probably some American companies that would be worth investing into that will do better once the recession is over. The federal government can continue to pump more into the money supply and turn an investment into a loss. Our markets still need to do a tremendous amount of adjusting. All this cheap money we have had over the last few years has turned $90,000 homes into $350,000 homes and people weren’t even flinching over an $50,000 car. Now the money isn’t so easy to get Someone is going to take a fairly significant loss for all this. Over the last few years a common practice has been people engaging in variable interest rate loans for obscene amounts of money for highly over valued property, they would try to get as much as they could as long as they could afford the minimum monthly payment. I had people tell me back in 2004, that I was insane for thinking the interest rate could go up beyond a point where people could afford their payment. They all called me crazy and told me that the interest rate will go down. Well.. I was right. For many of them their payment doubled. In order for many of them to keep the payments going they are selling off retirement account holdings. Because of people selling stocks to keep their homes the price of many stocks has gone down and THAT would be a good time to buy.

  3. Nicholas,

    The US petrol crisis needs to be understood in context. There were two primary causes:-

    1. On ending the gold standard the replacement US monetary policy caused an almost immediate slide in the value of the US dollar. This was most immediately apparent in the rising gold price. Only later did the price of oil and other commodities follow golds lead. However all commodities rose in price as the US dollar lost it’s buying power. The US dollar retained it’s value relative to many foreign currencies but only because those currencies were themselves fixed to the US dollar and as such were also inflationary.

    2. Nixon imposed price controls on petrol. What would have been merely an inflationary cycle became wide spread shortages as profit margins in petrol sales went negative and imports ground to a halt. Note that few other countries had petrol queues like the USA and the mythology about an oil supply shock being the cause of the economic problems is mostly a US invented one. Oil production did decline but for economic reasons and not because of any meaningful difficulty in extracting oil.

    Further to point 2 it is worth noting that long standing price controls on credit in many US states (ie legal caps on nominal interest rates) also caused a credit shortage as the real yield on legal lending went negative.

    Pommy – your first graph looks very nice. I’m not sure where you found it but I did enjoy creating it.

  4. Time to short the USD through the GBP?

    Remember how much we tax petrol in Australia.

    With GST interaction, the Federal excise alone is 41.9573 cents per litre.

    Independent owners are opposed to the petrol price commissioner and fixing prices like in WA, they see it as a threat to their competitive advantage – while at the same time, it would raise average prices.

    Terje is essentially right. Increases in inflation and petrol price increases after 1973 correlate perfectly with excessive monetary growth.

  5. Pommy – I believe you got it wrong when you said that one US dollar is now worth 29.57 milligrams (0.02957 grams). In fact the website you reference would suggest that what you should have said is that US$29.57 buys 1 gram of gold (ie the price of gold grams). This could be translated from dollars per gram to grams per dollar by taking the reciprocol of 29.57 which is roughly 0.034 grams per dollar. In other words the US dollar is worth 34 milligrams at present whilst it was worth about 900 milligrams in the pre 1970 days. In currency terms this is a basic cross rate conversion (gold grams are a currency – symbol AUG). Sorry to be pedantic. Nice to see you examining the gold story in more detail.

    The outbreak of consumer price inflation is looking increasingly inevitable. I suspect that there is no longer any viable way out of the spiral, other than going through it.

  6. Nicholas – sarcasm aside I do think Whitlam gets unfairly pillared. His mistake was being clueless about economics. However he grew up in a time when governments were smaller and monetary tradition took care of itself. Prior to Whitlam, politicians didn’t need to know as much about economics. Back then being conservative (ie sticking with tradition) was mostly sufficient.

  7. Speaking of inflation. The RBA has been lifting interest rates to slow down inflation. But based on my non-representative sample of conversations with various people, a lot of folks are confused by this strategy. In their eyes, the main cause of inflation is higher petrol prices driven by higher world oil prices. They can also see how higher food prices is related to the drought. And they understand that both of these are largely beyond Australia’s control.

    So naturally, they ask: “How is deliberately hurting families with mortgages going to lower the price of oil or make it rain?” To them, lifting interest rates makes no sense.

    Someone needs to explain this to them because I don’t think the Govt (or indeed the RBA) is doing a good job of it.

  8. The other thing I see in news.com.au comments are endless assertions about how interest rates hurt “new homebuyers” where the “real culprits” of inflation are people buying plasma TV’s and whatnot… which is funny, since TV’s have gone down over 5% in the last quarter.

  9. E.D. – food and oil prices are set internationally but Australia can still lower the domestic price of these goods by increasing the value of the Australian dollar. I think the RBA should use it’s open market operations to do that directly rather than via interest rate targets.

  10. E.D. – if the Australian dollar was worth more then in Australian dollar terms oil and grain would cost less. So increasing the value of the Australian dollar relative to the US dollar would tame much of the current inflationary effect. Higher interest rates sort of gets us there anyway in a round about sort of way but it meddles overly with credit markets in the process.

  11. Indeed. The creation of money should be left up to market processes, as money evolved from bartering goods to using the most sought after commodities as a form of settlement.

    Creation of FX balances and reserves also affects credit markets.

  12. Terje,

    I assume you mean that a strong currency is the opposite of inflation. But I’m still unclear what you mean by “the RBA should use it’s open market operations to do that directly.”

  13. Do you know what open market operations are, what open market operations entail and how they are used at present?

  14. From Wikipedia:

    “The open market is the term used to refer to the environment in which bonds are bought and sold.

    To intervene in the “business cycle”, a central bank may choose to go into the open market and buy or sell government bonds, which is known as open market operations to increase reserves. Open Market Operations are when the central bank buys bonds from other banks in exchange for cheques. These local banks then cash the cheques, which allow them to take money from the central bank. This action thus decreases any credit the local banks may owe to the central bank, and also increases their money supply. This thus increases reserves.”

    So if the RBA bought up bonds in the open market, this would reduce the money supply? And this would see a reduction in the price of petrol and food?

  15. E.D, if the central bank doesn’t respond 100% correctly to changes in demand, it basically creates credit (business) cycles.

    This is why political neutrality and low and stable inflaiton are policy goals. It is also why private money is better as there are better incentives to accurately match changes in the demand for money.

  16. Thanks Mark, the tradegy is “private money” will never be allowed because it can’t be taxed.

  17. Mark, private money may be better, or not, but since we don’t have that (and probably never will) its irrelevant.

    As I said earlier, the average person probably thinks they are being unfairly targetted with higher mortgage interest rates at a time of increasing living costs. Indeed, they probably think the RBA is in the pockets of the “greedy” banks.

    What needs to be explained to people (and to me for that matter) is how lifting interest rates will help lower the price of petrol and food.

    To make matters worse(?) the Federal Govt plans to cut spending in the Budget. Again, from the perspective of the uninformed, this looks like the Govt slashing services (and probably some jobs too) when people need them the most.

  18. John – it was in Australia until 1911. Although I do get the point if by you mean inflation as a stealth tax.

    E.D – we have had private money, Scotland, Canada and New York had very good private money systems as well. I don’t see how it is irrelevant since it has better outcomes and you think actually having it or not counts towards it’s relevancy.

    It is simply matter of informing people about budget constraints and the impact of hyperinflation and seignorage. They may not use the terminology but most people will get the point.

  19. Mark,

    The idea of issuing private money is purely of academic interest, there are no Government plans to do this, so it is irrelevant.

    I suspect most people are skeptical that raising interest rates will lower the price of food and petrol. Indeed, they may view rising interest rates as part of the problem rather than part of the solution.

    Imagine you are confronted by a young working couple with a mortgage who are facing higher petrol and food prices. How would you explain to them that an increase in interest rates is good for them? Especially as this would lead to higher mortgage repayments, a slower economy and a higher risk of unemployment. Can you convince them that higher interest rates will lower petrol and food prices? And even if you could, so what if petrol and food costs fall $100 p/m if the mortgage has gone up $100 p/m and you are now unemployed?

  20. Open market operations is the process by which the RBA injects new cash into the economy or takes cash out of the economy. Whether they buy and sell bonds or turnips is not really here nor there in terms of inflation management. The point of the process is to increase or decrease the supply of cash in circulation.

    I suspect that the young couple in EDs example would have little difficulty understanding that a stronger aussie dollar would make grain and oil cheaper for them. At this point in time the goal of open market operations should be to make the aussie dollar stronger by injecting less new cash into circulation and withdrawing old cash from circulation if necessary. Using interest rates as an interum target is a distraction.

  21. E.D,

    Open market operations and monetary policy are a highly technical area, and they can get as technical as the reader’s knowledge of economics. Like private money however, it is not a “purely academic interest”. As for Govenrment plans, monetary policy changed with Keating and Costello. It might change again with Swan.

    Tell the young couple – everything gets cheaper. Have them look at the net result. If they are worried about petrol, tell them part of the reason why fuel costs more than ever is that too much money was printed in the past, and that the Government takes 42 cpl in excise and GST-excise interaction alone. Most people are familiar with a budget constraint – having too much money is like spending too much money. Instead of being in debt, our money becomes worth less.

    Also stability in inflation is important too. We want low inflation and stable inflation. Unstable inflation can cause mispricings and short and long term unemployment.

    The young couple benefits as it keeps them employed at a higher real wage rate.

  22. Pom:

    Of late the US dollar feels like it is going to go through a big bottoming out process against the Euro.

    However I think it’s another story against the Aussie. I like the Aussie doll. I ditched my commodity stocks in favor of the aussie a little while ago as I think it has a lot of room on the upside. There are now far too many people playing commodities and commodity stocks so I never like a crowded trade.

    I like the aussie so I have put together a basket of currencies primarily against the Euro, Sterling and a little against the Yen.
    Since the move up in agricultural commodities and higher materials contract prices several investment banks have calculated fair value to be around Aussie /US1.3.

    In fact we now have better terms of trade that we did in the 70’s.

    This trade is far less crowded than the other plays I talked about and also have the interest rate differential on my side.

    The hard headed approach by the RBA is running in my favor.

    Negatives are that the economy could slow faster than anticipated and the RBA starts to cut rates quickly. This is possible but less likely. the other problem is that the global credit crisis goes further into the red. However US bank stocks are looking a little bit better these days, so i’m less concerned but still mindful.

    Gold is no longer interesting and could actually fall futher. I’m only interested in gold if it goes to US$780-750 an ounce with a sub US$700 stop loss.

    Hope I’m right.

  23. JC – I’m not a trader but your logic sounds good to me. Relative to commodities the Aussie does seem undervalued. Unless the aussie rises relative to commodities I think our inflation worries will endure so the RBA should be on your side. However as always a lot hinges on what the central bank actually does. For the sake of the domestic economy we should hope that a lot of speculators follow your lead. A bullish position on gold at this point would seem to assume that the central bankers really have lost the plot entirely and I don’t believe that to be the case.

  24. Whilst we are not legally allowed to print private money, we could still use something like it amongst ourselves, and thus undermine the system.
    Isaac Newton was the first strident believer in hard-metal currencies, insisting on gold backing. We could print medals in gold, by gram weight- a 5 Newt medallion, with Isaac’s face on it, would look like just another amulet, and they could be worn around the neck. When trading amongst ourselves, we could use them exclusively.
    Something to think about!

  25. Gold is a pretty poor “medium of exchange”. It’s too heavy, too valuable and too soft. Although Isaac was right to recognise golds virtues as a “unit of account”.

    As with languages most regions tend naturally towards using a single primary unit of account. Displacing the government version isn’t going to happen by stealth. Policy reform is the only real viable option.

  26. If not gold, then silver could be used. At the least, we might print the gold and silver levels, and show how dollars relate to it- a theoretical gold standard, as preparation for when (not ‘if’, let’s be positive!) we adopt a national hard-metal standard.

  27. Nicholas – such a project exists in the USA. Take a gander at the Liberty Dollar. Structurally it is a good approach to private currency creation. Although still not likely to get far whilst a fiat unit of account dominates. Also check out the multitude of digital gold currencies such as Pecunix and E-gold.

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