The US Dollar treads the world stage like a colossus, laying waste to all other currencies in its path.
The US Dollar treads the world stage like a colossus, laying waste to all other currencies in its path. From the British Pound Sterling to the Argentine Peso, almost all other fiat currencies have fallen in value against the Dollar. Only Russia’s Rouble (ironically), Brazil’s Real and Mexico’s Peso (just about) have risen against the US Dollar since the start of this year. The Rouble’s strength is partly because of capital controls preventing money leaving the country, partly due to a collapse in imports since sanctions were imposed by the West on Russia, and partly because of fears that further sanctions could be imposed, perhaps paralysing Dollar trading in Russia. The strong rise in international gas and crude oil prices has also boosted interest in owning Rouble's.
The reason why the Dollar is crushing most other currencies is obvious – the Federal Reserve has been raising interest rates and looks like it will continue doing so, in its determination to stamp out the country’ inflation. Consumer price inflation for September in the US, the official figure for which will be published tomorrow, (Thursday) is expected to have drifted lower to around an annualised 8.1%, against August’ 8.3% and July’ 8.5%. The trend seems down, but for the Fed’ managers, inflation needs to be stifled faster. Mary Daly, president of the Federal Reserve Bank of San Francisco, said recently that inflation is a “corrosive disease” which “rodes the real purchasing power of people”. True – 2% inflation a year, which is the Fed’s target, destroys some 18% of fiat money’s purchasing power over a decade. Inflation is a toxin which is in-built into a country’s economy by almost all governments.
As evidence that the economy is still running hot the Fed will consider the latest jobs report, which showed that the country added 263,000 jobs last month. Wages have failed to keep up with inflation; the Bureau of Labor Statistics says that in the 12 months to August 2022, real average weekly earnings decreased by 3.2%. But against that unemployment in August fell to 3.5%, compared to 3.7% the previous month and lower than the long-term average of 5.74%. The Fed sees an overall picture of an economy which is firing on all cylinders – it will in other words push up interest rates by another 0.75% in November, taking the Federal Funds rate to between 3.75% and 4%.
Our currency, your problem
The US Treasury Secretary in 1971 under President Richard Nixon was John Connally, an economics ignoramus but a political bruiser who will forever be remembered for saying that year “the Dollar is our currency, but it’s your problem”. That may soon no longer be true.
Josep Borrell, a senior diplomat of the European Union (EU) said this week that the US Federal Reserve’s higher interest rates are forcing other central banks to follow suit: “Everybody has to follow, because otherwise their currency will be [devalued]… Everybody is running to increase interest rates, this will bring us to a world recession”. The strong Dollar will not only hurt other countries, whose capacity to buy US exports will curtailed. It will also nudge the US towards its own economic downturn. The strong Dollar will hurt America’s trade balance, as the country will export less. About the only Americans who will cheer such a strong Dollar are those planning to travel overseas; other countries have become remarkably good value for American tourists.
The International Monetary Fund’s (IMF) managing director, Kristalina Georgieva, said the institution, when it stages its joint annual meeting with the World Bank in Washington D.C this week, will downgrade its previous economic growth forecast of 2.9% for 2023. “Even when growth is positive, it will feel like a recession because of shrinking real incomes and rising prices,” said Georgieva. Overall, the IMF expects global output to shrink by $4 trillion between now and 2026, or roughly the size of the German economy. Even China is not immune – Ren Zhengfei, CEO of Huawei, warned in August that the chill from economic downturn would be “felt by everyone” for the next decade. From Argentina to Lebanon, the world economy is facing considerable problems. Argentina’s economy has become Dollarized – people want Dollars, not Pesos, as inflation approaches 100% a year. In Lebanon where inflation will average 178% this year, people inevitably want to use Dollars rather than Lebanese Pounds – but Lebanese banks have closed indefinitely after a spate of hold-ups by people wanting not to rob but simply to get hold of their own money. Lebanon’s central bank in July imposed a limit on Dollar withdrawals of $400/month.
Against this darkening global picture, the Fed chairman, Jerome Powell, has to ask himself – how far can I tighten monetary policy (push up interest rates) without creating havoc on the stock market and a collapse of asset values, thus making millions of Americans poorer?
While in the White House, President Biden will be tempted to pick up his phone and speed-dial Powell and ask him to tread very carefully between the rocks of inflation and recession – either of which will be uppermost in the minds of American consumers on 8 November, the day when the country votes for all 435 seats in the lower house and about a third in the Senate. Overhanging the US is the threat (promise?) of a Republican victory, as the nation punishes the Democrats for uncontrolled inflation and associated economic woes. A Republican mid-term victory would paralyse the final two years of President Biden’s current term – and possibly usher in a return of Donald Trump and a return to bitter political divisions.
Financial markets are caught between different varieties of pessimism – rare it is to find a reputed source predicting a ‘Goldilocks’ ending, i.e. not too hot, not too cold. Nouriel Roubini, an extremely clever observer of the macro-economic world, says “a hard-landing scenario is becoming the consensus among market analysts, economists, and investors”.
Roubini marshals some empirical support for his bleak view that “a hard landing by year’s end should be regarded as the baseline scenario”.
Where is gold headed?
If we are right and the Fed will put up interest rates again in November then that will have the effect of weakening the Dollar-denominated gold price still further; insofar as a still stronger Dollar will push other currencies lower, the gold price in those currencies should rise.
Roubini argues that we are in for a period which he calls the “Great Stagflation” – a combination of high inflation and stagnant economic growth. Who knows if he is right?
But if he is, and stagflation is likely, then the implications for gold are clear. According to one source, during stagflationary periods in 1973-2021, gold has shown far better average real annual returns than other leading investments such as US equities – recording an average return of more than 22%. Moreover, if one likes to own gold – and use it as money, which Glint makes possible – then as the Dollar price falls, it can be seen as a buying opportunity for the longer term.
The Dollar has not been this strong for two decades. What goes around comes around. If US economic growth is weaker than expected then the Fed will ease off its anti-inflation drive, and that will bring about a weaker Dollar. The US economy is relatively less exposed than Europe’s to events in Ukraine, but any settlement of the war with Russia would undermine the Dollar’s relative appeal.
At Glint, we make every effort to demonstrate a balanced conversation between gold, crypto and fiat currencies when it comes to purchasing power and, while we strongly believe that gold is the fairest and most reliable currency on the planet, we need to point out that it isn’t 100% risk free. While we have seen a steady increase over time, the value of gold can fall, which means that its purchasing power can also decline.
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