The big news this morning is about the decline of the dollar, but to understand why that is happening one needs to look at unemployment and today’s jobless report explains a lot.
The dollar is declining because our federal government is spending too much. Our almost $1.5 trillion deficit is going to be financed by the Fed which will print money to buy federal debt. They will also purchase additional large amount of Treasurys and other assets to create inflation. The currency markets have reacted strongly to this new move into quantitative easing (QE) and, in anticipation of a future devaluing dollar, they have discounted the dollar heavily, raising other currencies such as the Canadian and Australian dollars into parity with the US dollar.
The reason the Fed will engage in massive QE is to try to effect their mandate to maintain full employment. They believe price inflation will stimulate the economy and create employment. The markets fully understand what money printing is: a debasement of our fiat money currency. As the dollar loses value, other currencies who don’t debase their currencies as much as the dollar will appreciate.
The Fed in its September minutes said they would keep a close watch on unemployment as an indicator of whether or not “additional measures” were required. Thus, this morning’s news that jobless claims were up last week, after improving for the prior 5 weeks, will be a negative signal for the dollar because it insures that the Fed will “soon” engage in QE.
The jobless report noted something that should be disturbing to the Fed:
Continuing claims fell substantially in the October 2 week, down 112,000 to a recovery low 4.399 million. Yet improvement here reflects, to an uncertain but probably significant degree, the loss of benefits. Those on emergency and extended benefits both fell. The unemployment rate for insured workers is down one tenth to 3.5 percent.
In other words, jobless claims are decreasing because people are falling off of the radar not because they have found jobs, but because their benefits have run out. That means long-term unemployment is becoming a reality for many workers. This is a stinging indictment of the obvious failures of the Administration’s economic policies and the Fed’s policies. It puts heavy political pressure of the Fed to “do something.”
Another signal came in this morning and that is the Producer Price Index, a measure of price inflation at the producer level. On an overall basis, you would think that the Fed would be happy with a 4% YoY total price inflation, but they are not. The Fed pays more attention to ”core” inflation which excludes food and energy. As the Fed would look at it, “core” price inflation remained flat for the month and was up only 1.5% on an annual basis. The Fed looks more attentively to “chained” personal consumption expenditures (PCE) which measures consumer expenditures in 2000 dollars. The core chained PCE for August was up, in the Fed’s eyes, a measly 1.39% MoM.
To the Fed, low inflation is something that needs to be “cured” to produce employment and they do that by inflating (debasing) the money supply.
So, if you were a foreign central bank or a foreign bank holding US dollars, and you see that the two main indicators that the Fed uses to gauge the need for QE, you would expect inflation of the dollar and you would sell. It is no surprise. We can blame the Chinese, the “unfair” balance of trade, the speculators, other central banks, the “international banking cabal” but they are not the culprit. The only reason all those dollars are sloshing around outside the US is our government’s deficit spending. After all the Fed created all those dollars.
The short-term effect of a currency devaluation will be to transfer economic benefits away from consumers, who benefit from cheap imports, to US exporters who will benefit by selling goods which appear cheaper to foreign buyers.* Note that China pegs the yuan to the dollar, so expect no major prices increases of their goods unless they unpeg, which, despite all the pressure on them to do so, is unlikely.
*I will publish a longer article on the foreign exchange, foreign trade issue soon.
Good article. Incidentally, I think the dollar is close to done moving down for this move. Not because the Fed is going to stop the debauchery, but because:
– other central banks are run by the same keynesians
– every country wants a lower currency to boost exports
– other countries are running deficits too
– the dollar has the highest ratio of stocks to flows, and thus its marginal utility declines the least
– the Euro is not going to survive too much longer
– the Yen and Pound will both blow up before the dollar due to long-term structural decline and demographics
The Fed may be the loudest at boasting what they will do to their dollar, but it is a universal affliction.
So….your definition of the dollar dropping is only vs other currencies. So, if the exchange rate between the USD and a basket of other currencies stays the same but gold goes to $1500, the dollar is not dropping in value?
Not what I’m saying. But if all currencies were pegged to the dollar it wouldn’t matter because there would be exchange rate parity. Gold’s rise would indicate that all fiat currencies are junk. Thanks for the comment.
The Gallup unemployment figures came out at 10.1% last week. Their figures showed a large rise in the last two weeks of September which did not show up in the Bureau of Labor Statistics figures of last week. Consumer Metrics Index continues to show a significant slowdown in consumer durable goods purchases which relates to a -6.08 GDP. Orders are falling and rail traffic is topping with trucking slowing down. The inventory buildup is quite large. Put it all together and a major slowdown is on its way. QE2 is too little too late. If you believe in the fundamentals than inflation is like to have a very difficult time taking hold.
Bearster,
Totally agree, all Fiat Currency float and are priced against each other, based on perceived value. Everyone is focusing on the US problems, but very few countries are in better shape.
Per Jeff’s previous post, Brazil, New Zealand, Norway, compared to US/dollar?
I want to correct one thing (post above). Many countries are not actually running deficits, but surpluses. Only the governments are running deficits. In US, it’s the whole country. So countries as whole are not in debt, only the governments to the people. This is how US is vastly different from most of europe. The reserve currency status and general faith in the dollar has enabled this to happen in the first place.
I don’t know if europe as whole is creditor or debtor, but it is way more of a creditor than US as country for sure.
Also the ECB is definitely not as inflationary as FED. It is not run by at least “as bad” clowns as the FED. Gold isn’t even half good investment here in europe, it is kind of risky actually, cause the ECB might turn around, like happened in US 1980s. Afterall Germany is pretty big country here that as creditor is going to be quiet pissed at the inflationary policy. If USD crashes, they might raise the interest rates considerably, or not. Remains to be seen.
Now it is still pretty bad, but better than US.
The FED’s thinking doesn’t make any sense to me. How can employers hire more employees if their own energy & healthcare costs are going up due to inflation? How can the FED expect consumer expenditures to increase when the consumer has less money to spend because more of their budget is going to cover rising energy and food costs due to inflation that the FED doesn’t even consider. It all seems like fairy tale wishing and thinking.
The difference is that all prices are rising so it gives businesses a false sense of profits as their net looks bigger but then so are their costs. It is a fairy tale.
The truly amazing thing for me is that much of the Feds policy still seems to be influenced by the assumption that inflation and unemployment are mutually exclusive. Heck, Nobel Prize winning Krugman said as much not too long ago in one of his insufferable NYT columns. What are the chances that the High Priests of Modern Economics will ever adopt the insights of Austrian Economics when they can’t even be bothered to take into consideration empirical evidence?
Economics as practiced today has little to do with science and everything to do with theology.
Maddenning.
PS: great post, by the way, just needed to rant.
Good rant, though.
Dietwald, they obviously don’t weren’t living during the late 70′s early 80′s with sky high inflation and unemployment.