The Fed Throws Us to the Inflation Wolves

Good day… And a Wonderful Wednesday to you! I’m draggin’ the line this morning, so if I seem to trail off at times, it’s simply that I started to nod off while writing! Nah! That couldn’t happen, could it? I guess we’ll see!

Well… The dollar extended its mini-rally again yesterday. You know, I’ve just got to chuckle at some of these guys that write for the media. The dollar has a two-day rally, and you would think, by their writings, that the weak dollar trend is a thing of the past! I would argue quite differently, as you would expect!

We’ve seen these “flash in the pan” dollar rallies before; we’ve seen quite a few of them during the six-year weak dollar trend. As I always try to emphasize in my presentations… A trend is NOT a one-way street. There is always volatility, and this is what we’re seeing right now… This is NOT a trend reversal, as far as I’m concerned. It’s not a crying time… It’s a buying time… Well, it’s buying time again… WOW, even Engelbert Humperdinck gets some airtime in the Pfennig!

Yesterday, I told you about how there’s a chance that Iceland’s banks could see a financial crisis… Well… Iceland’s central banker, Fridriksson, says that Iceland’s economy and banks are “sound”. He cited the strong performance of the aluminum smelters, the fishing industry, and his budget surplus. He also cited the banks as “sound” and noted that “they are affected by the same situation in the global financial markets like banks everywhere, but we have no subprime exposure.”

OK… That’s a warm and fuzzy… Maybe he’s throwing up a smokescreen and maybe he’s bang on… I just have to question the “soundness”. One of my fave economists, Nouriel Roubini recently wrote, “Doubts over the health of its highly-leveraged banks came to the fore this week. The fear is that the government will be unable to support the banks if the banks run into trouble.”

WOW! You should have seen the email that a reader sent me yesterday from a very well respected analyst, Jim Sinclair. I’ve followed Jim Sinclair’s writings for some time, and he is usually bang on with his stuff. Well… He has issued a challenge to anyone questioning his call for a much higher gold price for the next three years… Bloomberg, CNN, CNBC, anyone willing?

So… If Jim’s formula for calculating gold prices is correct, and I have no reason to believe it wouldn’t be, gold has got to be at bargain basement prices right now, eh?

Well… It seems that the Fed is willing to throw any dollar they can get their hands on at the current financial crisis… At what cost though? Money supply is surging and was even higher in March than the record level of February… So, it seems to me that with their decision last week to accept mortgage backed securities from brokers as collateral, interest rates being cut to the bone, and money supply surging, that the Fed has decided to throw caution to the wind of inflation.

I know I must sound like a broken record (or scratched CD for the younger people) regarding the Fed’s lack of attention to inflation… But mark my word, we’ll all regret the fact that the Fed allowed inflation to eat away at our wallets, while they went about “saving the world”. They are throwing us to the inflation wolves.

OK… So… I’ll get down off my soapbox now. Big Ben Bernanke will speak to Congress this morning on the economy. I wonder what he has up his sleeve… Speak the truth Big Ben… You’ll be remembered in a kinder light in the future if you just come clean.

We’ll see the color of this month’s ADP Employer Service’s report today… This ADP report used to give us an indication of the monthly Jobs Jamboree, but recently, it has been all over the board. Anyway, the ADP report is expected to show a loss of 45K jobs last month… Sounds about right to me.

As I look at the dollar the past two days, I see a currency that probably rose by default. What else could it do? The data from Japan and Germany wasn’t good, and the Reserve Bank of Australia kept rates unchanged for the first time in three months… So… I really don’t expect this dollar rally to last too long… About as long as it takes to read my book… No wait! I haven’t written a book! Oh, well… I should have… But there are only so many hours in a day.

Back to the dollar for a minute… The currency rallied yesterday, when U.S. Treasury Secretary Paulson announced a new plan to deal with financial institutions, Lehman secured $4 billion in a stock sale, and the ISM Index (manufacturing) didn’t fall as much as expected, although it remained well below the 50 level. Doesn’t sound like the fundamentals here are any better… In fact they just keep getting worse, but the mass media doesn’t see it that way… Too bad.

So… Soon… I suspect we’ll be singing the old Cyrkle Song… Red Rubber Ball…

And I think it’s gonna be alright

Yeah, the worst is over now

The mornin’ sun is shinin’ like a red rubber ball

With the stock market bounce yesterday, the high yielders got a boost… So nothing’s changed here. Stocks rally… Carry trades get put on… Japanese yen (JPY) and Swiss francs (CHF) go down, Aussie (AUD), kiwi (NZD), Iceland (ISK), and other high yielders go up. I find this to be quite interesting, given the fact that just last week, carry trades were being unwound faster than a speeding bullet!

That’s right… These carry traders can bask in the stock market’s sunshine for a day or two… But I can’t see this ending any other way than like a house of cards crashing down in a heap.

I read a story yesterday afternoon from HSBC that China’s net FX flows have topped $6 million dollars per minute. With the Fed’s rate cut last month, China now enjoys a positive rate differential to the dollar! Say it ain’t so Joe! We’ve recently seen some greater appreciation of the daily movements in renminbi (CNY)… So, that’s fueled expectations for even greater appreciation this year in the renminbi.

So, here’s the scenario in China… Overseas Chinese are pouring their dollars into China. Want proof? It was reported that there was an 80% year-on-year surge in retail demand for renminbi in Hong Kong in the first two months this year.

Have you noticed the nice rally in rupees (INR) lately? The Indian rupee had seen some profit taking and central bank actions have pushed it into the 40.80 region… But in the past couple of weeks it has rebounded nicely.

Currencies today: A$ .9130, kiwi .7910, C$ .9845, euro 1.5665, sterling 1.9840, Swiss .99, ISK 74.80, rand 7.8670, krone 5.1550, SEK 5.9850, forint 164.15, zloty 2.2275, koruna 15.98, yen 102, baht 31.50, sing 1.3790, HKD 7.79, INR 39.98, China 7.0180, pesos 10.55, BRL 1.7450, dollar index 72.38, Oil $102.03, Silver $16.92, and Gold… $891.29

That’s it for today… I got a call from a writer for the NY Times Magazine yesterday… He had read about me in Craig Karmin’s Biography of the Dollar. (It’s available on Amazon, should you be interested.) It was a cold one at the baseball stadium last night… Isn’t this supposed to be spring? I think I’ll go back to Florida! Wait! I am going back next week! Good! OK… I sure hope you have a Wonderful Wednesday!

Chuck Butler
April 2, 2008

The Daily Reckoning