LONDON ENGLAND 4 December 2006 – Along the banks of the Thames… Christmas lights are beginning to appear. It gets dark by 4 p.m. By 5 p.m., the lights flicker and sparkle, reflected in the dark river. Crowds walk along the riverfront… gaily chatting… stopping into a pub or a coffee shop… or walking up to the West End for a theater outing. With its new architecture… its trendy new sections in Southwark… its Russian millionaires and Saudi princes… its museums, its fancy shops, its classy restaurants, London has never been a more agreeable place to visit.
But woe to the poor traveler who wants to buy anything, unprepared for the prices. Yesterday, the pound sterling hit a 14-year high against the dollar. Now, after paying an exchange fee, the Yanks pay almost $2 for every pound. And since nominal prices tend to about the same as in the United States, visitors from the States pay about twice as much for everything they buy. Sometimes more.
Meanwhile, here in Europe, things are not much better. The dollar hit a record low against the euro two years ago – at $1.36. Then the greenback rose to $1.22 per euro in June of ’05. Now, the American brand is on the ropes again… getting pummeled by the European’s money. Yesterday, the dollar fell to $1.32 per euro.
‘Watch the dollar,’ we have been urging. Not because we know what it going to happen, but because we don’t. And whatever happens, it should be interesting.
Investors, businessmen, bankers, and consumers all have to communicate. The consumer has to state his preferences. Investors have to give their judgments and guesses. Businessmen have to listen carefully and respond. The world of finance speaks in the language of dollars. An ounce of gold is worth so many dollars. A new car sells for so many dollars. A house in Houston…or a sack of grain in Bombay…or even an hour of a Chinese worker’s time – it is all expressed in terms of dollars. Global markets speak in dollars.
But the trouble with the language is that nobody knows what a ‘dollar’ means anymore. The term has lost its fixed meaning. Instead, it has developed different inflections wherever it is spoken; it has changed… evolved. One day, a dollar means – “a solid thing, a sure store of value… equal to approximately 1/300th of an ounce of gold.” A few days later, you look in the dictionary and you might find an entirely different meaning: “America’s weak currency, beware… currently worth about 1/600th of an ounce of gold… but falling rapidly.”
Mightn’t we some other day – if we live long enough — pick up a copy of the Random House Dictionary of Financial Terms, published in 2030, and read the following entry: ‘U.S. Dollar… currency used by America, from 1780 to 2025, when hyperinflation rendered it valueless. It was replaced by the gold-backed American Yuan.’
The immediate problem for the dollar is simple: the smart money is betting on lower short-term rates in the United States, while rates in Europe rise. The European economy is booming; the central bank seems sure to increase lending rates. But the U.S. economy is softening…and is threatened with a severe slump, led by weakness in the housing sector. Can Ben Bernanke really increase rates when so many homeowners are trying to sell? He has warned that he might, but we don’t think he will be able to. And neither do currency speculators… or the bond market.
And since the dollar is going down, a lot of major dollar holders are getting worried. The Swiss, the Italians, the Russians, the Chinese, and the United Arab Emirates have all announced that they were lightening up on their dollar holdings. China has about $1 trillion in foreign currency reserves, of which 70% is said to be in dollars.
“The U.S. dollar is supposed to the anchor that stabilizes the global currency market,” complained Fan Gang of the national Economic Research Institute of China. “Instead it is a major source of instability.”
Humpty-Dumpty is still sitting on the great wall of the world market system… presiding. When he begins to slip, however, there will be a lot of people eager to give him a kick. He may never get back on his feet again in our lifetime.