When Is Money Supply Not Inflation?

Good day… Well… There seems to be a bit of a row going on in the European Central Bank (ECB), but that won’t stop the ECB from hiking rates on Thursday. What it might do is cause some questioning regarding rate moves in the future. I guess traders aren’t too scared, because they have moved the euro (EUR) up over the 1.35 handle once again.

I’ll get to the row in the ECB in a minute… But first a recap of yesterday’s session. The dollar softened yesterday across the board, except against the Icelandic krona (ISK) and of course the Japanese yen (JPY). There was a huge sell off in the Chinese stock market the night before, but still no budging on the lack of risk aversion. What’s it going to take to cause a pull back? Apparently, a Chinese stock market sell off isn’t going to cut the mustard.

Kiwi (NZD) sure had a nice performance yesterday – and then again last night, pushing the currency to trade over 75-cents! That’s a 15-year high! WOW! Kiwi was helped along with a report by ANZ Bank, which said that the Reserve Bank of New Zealand (RBNZ) will raise rates to 8% this week. They are the first to say something like that, as most economists have been forecasting unchanged rates after the RBNZ meets tomorrow night. So… If the RBNZ doesn’t come through with a rate hike, this strong move by kiwi will probably be reversed with a case of buy the rumor sell the fact!

Pound sterling (GBP) is closing back in on the “2” figure. I talked yesterday about how traders had come out with a case of cold feet, regarding whether or not the Bank of England (BOE) hikes rates this week, but had finally warmed up to the idea. Yes, there are not many out there that believe the BOE will follow up last month’s rate hike with another one… But, I have been on that bandwagon ever since the BOE disappointed me with a 25 BPS hike last month. To my way of thinking… They had more work to do! So… Why not come right back and finish your business?

The ECB also meets this week, and while another rate hike to 4% is already in the cards, what’s going to be said in the press conference afterward is the cat’s meow this week… What’s up with the ECB? Well… I don’t know how long you’ve followed currencies, but if you’ve been around for a while, back to the days before euros, each country had their own Central Bank that decided policy… And back then I could write about what dolts ran the French and Italian Central Banks. They were some loosy goosy dudes, let me tell you!

So now, skip forward to today… Each country in the European Union that shares the euro still has their own Central Bank. However, the ECB decides policy for the entire 13 countries that share the euro. And that leaves the likes of France and Italy to throw darts at the ECB whenever things get tight. And here we are… French and Italian Central Bank Governors are questioning the validity of using money supply as one of the guides the ECB uses to determine interest rates. Get this… These two are questioning how inflationary money supply has been. What? Have they lost their marbles?

I could really get up on the soapbox on this one. But I won’t, I think readers of this newsletter know how I feel about money supply and that it is basically INFLATION! However, that won’t stop the ECB from their appointed rounds with higher rates on Thursday, and I think that’s what has lit a fire under the euro. The single unit is looking perky this morning!

So… The press conference following the ECB rate hike will be interesting. I think ECB President, and former Governor of the Bank of France, Trichet, will have to choose his words carefully to keep the markets guessing. I know that the ECB likes to think of itself as the most transparent Central Bank in the world… But in this case, I think Trichet will be coy. There’s always time in the weeks to come to let any cats out of the bag that you need to – just don’t water down your rate hike!

Next stop for the Canadian dollar/loonie (CAD) is 95-cents, as it is half of the way there this morning. I printed the story that appeared in the Canadian paper, The Province, yesterday with the notes about the loonie reaching parity. So… There’s little else to add… I’ll just sit back and watch!

I saw a story on MSN the other day by Jim Jubak discussing Kuwait’s decision last week to drop the peg to the dollar for its currency. Jubak described this as Kuwait kicking sand in the face of a 98-pound weakling. OUCH! Now, traders are taking bets that the U.A.E. will be the next to country to drop its peg to the dollar. I included that note last week by the U.A.E.’s Central Bank Governor who said that their peg was not “untouchable”… So, look for more sand to be kicked in the dollar’s face in the future.

There’s another G-8 boondoggle this week. This time it’s being held in Germany. You know how I make fun of the Fed Heads when they have two-day meetings, and accuse them of doing nothing more to pass the time than play battleship. Oh, Janet, you’ve sunk my battleship! Anyway… These G-8 meetings are even more playtime. These knuckleheads haven’t come out with anything worthy of even meeting in a month of Sundays.

There’s more saber rattling going on with Iran again. Just about the time gas is headed below $3 a gallon, we get this little ditty. Iran’s president has warned that the latest round of sanctions imposed by the U.N. would be like “playing with a lion’s tail”. I really dislike this kind of stuff going back and forth.

Iceland reported a narrowing of their trade deficit to $170 million this morning. One would have to believe that the high interest rates are not only lowering inflation, but crimping domestic demand/spending. Since most everything they use on a daily basis has to be imported, a slow down in spending would go a long way toward helping this deficit, and inflation! Of course these days, that could be the kiss of death for the krona. The markets still have a dolt mentality about a currency’s value being greater the higher inflation goes, since it signals rate hikes.

This drop in spending is basically what needs to happen in the United States. Consumers need to stop spending – especially spending money they don’t really have! Just look at the data from Friday last week. Personal income fell 0.1%, while personal spending rose 0.5%. But don’t let the fact that foreclosures and bankruptcies keep mounting, get in the way of consumer confidence!

Speaking of data… Yesterday’s Lone Wolf piece of data, factory orders for April came in weaker than expected – at just plus 0.3%. Today, we get the servicing side of the ISM Index… And that’s it! So… I expect the day to go much like yesterday, with the dollar softening as we go along.

Currencies today: A$ .8370, kiwi .7540, C$ .9450, euro 1.3520, sterling 1.9940, Swiss .8190, ISK 62.90, rand 7.13, krone 5.98, SEK 6.8950, forint 185.25, zloty 2.8170, koruna 21, yen 121.60, baht 33, sing 1.5280, HKD 7.8075, INR 40.53, China 7.6420, pesos 10.7575, dollar index 81.93, Silver $13.75, and Gold… $671.96

That’s it for today… We’re getting a huge amount of traction on our newest basket CD… The World Energy CD. It’s now live on our Web Site, so check it out. Or as always, just call our desk… 1-800-926-4922. Chris will have the conn on the Pfennig tomorrow, as once again I will be away… But back on Thursday for the rate hikes from the ECB and BOE! Next week, I head to Kansas City for one night to meet with a customer, and attend a KC Royals/Cardinals game. Enough of all that! Have a Great Tuesday!

The Daily Reckoning