The Budget Deficit to Swell

Good day… And a Marvelous Monday to one and all! Friday was really strange in that retail sales came in higher than expected, and even though that would lead most to believe that gives the Fed the green light to cut rates again… The dollar rebounded. After that great run on Thursday, the dollar came back with a vengeance on Friday… But let’s not get too carried away with that move, as it still left the euro (EUR) trading higher than it was a week earlier!

So… As I said, retail sales did come in stronger than expected, which leads me to ask the question… When do we run out of money to spend? Apparently, not yet! So… The U.S. consumer isn’t in the can just yet… It’s only a matter of time, my friends… Only a matter of time!

Last week I told you all about the Eurozone meeting that sets policy toward the G-7 meeting that takes place this week. I’ve emphasized over and over that the Euro ministers are not happy that China, Japan, and the United States are not doing anything to get their currencies stronger. The G-7 meeting is October 18th… This ought to be good! But then, the G-7 ministers haven’t said anything that amounted to more than a hill of beans in over five years. But… Let’s give them the benefit of the doubt, and say they come out with a communiqué’ that talks up the dollar.

Well… If that happens, we’ll see dollar strength… But only as long as it takes to forget what the G-7 communiqué’ said! This could really be a great buying opportunity. But… That’s all a BIG IF… IF G-7 says something about correcting dollar weakness…

A lot of that happening depends on what U.S. Treasury Secretary Henry Paulson wants to happen. Some say that he no longer speaks from a position of strength, but I argue with that. The United States loves the weak dollar… And if they want to shove that down the throats of the world, then in my opinion, that is what’s going to happen!

So… We start the week with stronger currency levels than we started last week. Risk appetite has the carry trade investors feeling a strong hunger in their bellies, and G-7 is hanging over the currencies like the Sword of Damocles.

The euro has bounced back over 1.42, which has been used like the fulcrum of a teeter-totter in the past week. We bounce over 1.42, and we go down under 1.42, and then back, and forth… That’s all just day-to-day noise. The main thing to concern yourself with is simply that the dollar is well entrenched in the weak dollar trend, and during that trend you will see volatility, but if your patient, you will find that the trend is your friend!

I’ve talking a lot recently about the Aussie dollar (AUD)… So I’ll keep this to a minimum… The currency just keeps moving higher. Pretty soon it will have a 91-cent handle! The central bank has its hands tied, and will have to raise rates again, probably before the end of the first quarter of 2008… That thought will keep the currency underpinned and moving higher.

I’m going to spend quite a bit of your time talking about rupees (INR) and renminbi (CNY) this morning. I really don’t know just how much more I could have done to direct people to see that Indian rupees were going to strengthen versus the dollar in the past year. I kept talking about their economy, inflation, and currency strength… But we just didn’t see the interest in the currency like we had other currencies in the past… Too bad…

Indian rupees have gained 11% versus the dollar this year. The flows of investment funds keep flooding into the country. The central bank can NOT lower interest rates, because the economy is so strong, and inflation pressures run high. Maybe it’s too late to buy rupees now… But I don’t think so… The rupee/renminbi story is the story of the next couple of years.

And how about Chinese renminbi? The renminbi/rupee story is all about Asian strength. The Chinese story continues to be one that borders on amazing… Economic growth continues to soar, and the currency continues to be undervalued. However, having said that, we do know that the renminbi has gained 10% since the drop of the peg, and most of that has been in the last year. I doubt we’ll see any change in Chinese currency policy, which means the movement from renminbi will continue to be at a snail’s pace… But it’s moving! And in the right direction!

And just like I told you what I thought would happen… The price of oil has jumped back up. A new record level of $84 was hit on Friday, and has not moved much since. This adds to the commodity performance, and keeps the dollar down… This move has been triggered by a geo-political problem between Iraq and Turkey, but if it wasn’t this, it would’ve been something else triggering oil higher.

And then there’s this story going around that the U.S. budget deficit is swelling again. How does one know, given that everything is hidden from us these days? Ahhh grasshopper… Treasury issuance is the answer… And Treasury issuance is expected to rise 50% this year! OUCH! It seems the slowdown that no one wants to admit is happening, has reduced tax receipts for the first time since 2003… Hmmm… Not exactly a good time to be auctioning off new Treasury issuance considering yield levels. And… The amount of debt the world has already had to digest from the United States.

One of the 21 primary dealers of Treasuries, UBS Securities, seems to think that the issuance will rise to $220 BILLION this year. The twin deficits shooting off flares once again…

“NO MAS”… Could we hear that sentiment from central banks and private investors around the world? “NO MAS” Yes, the famous words uttered by one of the greatest boxers of his time… Roberto Duran, with fists of stone, couldn’t take what Sugar Ray Leonard was dishing out any longer and he cried out, “NO MAS”. No more… I shudder when I think of that happening with treasury sales. Shiver me Timbers!

And one more thing before I head to the Big Finish… The Central Bank Gold Agreement, which was signed three years ago, and gives quotas for Central Banks to meet with regards to gold sales… The Bank for International Settlement issued a statement on Friday that showed the total for 2008 to be 24 tons short of the total 500 tons scheduled for sale. At the same time, the German Central Bank, the Bundesbank, announced that they would not participate in gold sales this year.

This news has got to be supportive to gold… And I believe it has, as gold shot up to $760! You see, this Central Bank Gold Agreement has been a thorn in the side of gold bugs for some time. It looks like other Central Banks aren’t going to pick up the slack that is short in the quota… So, to me, it’s all good for gold!

The data cupboard has few items to keep us interested this week. Industrial production tomorrow, the stupid CPI report on Wednesday along with housing starts. On Thursday we get leading indicators, and that’s it. Not much… The dollar’s on its own for most of this week… Let’s see where the markets take it!

Currencies today: A$ .9070, kiwi .7725, C$ 1.0290, euro 1.4235, sterling 2.0390, Swiss .8485, ISK 59.90, rand 6.7375, krone 5.3890, SEK 6.3850, forint 175.50, zloty 2.6110, koruna 19.325, yen 117.70, baht 31.40, sing 1.4620, HKD 7.7520, INR 39.30, China 7.5270, pesos 10.81, BRL 1.8020, dollar index 77.95, Oil $84.05, Silver $14, and Gold… $760

That’s it for today… What a bummer Saturday night… My beloved Missouri Tigers lost in Norman Oklahoma… Oh well, they’ve still got a good season going. I’ve lost all my taste again… This is so strange! But that’s to be expected with the medicine I take… My swelling has gone down, and the pain in the leg has gone with the swelling, so I’m ready to go out dancing! Well… Maybe not yet! Did you get a chance to see the video I did for the Taipan Financial Network? My performance was pretty rusty… But, at least it only took me one take! Well, time to go… I hope you have a Marvelous Monday and a Wonderful Week!

Chuck Butler
October 15, 2007

The Daily Reckoning