More trouble for the U.S. Dollar?

Recently, the FED has substantially cut rates in response to the growing recession fears that have spread into the minds of more academics and economists. Although the possibility of a recession is no small matter, the FED has seemingly ignored another major problem facing our economy and financial well-being.

Our US Dollar has resumed its downfall against other major world currencies, most importantly the Yen and Euro. After a mid-December rally, the USD has plunged to new lows again compared against both currencies. Despite a global credit crunch and recession worries in Asia and Europe, the FED typically acts most rapidly and decisively when problems arise. On this positive note, we can expect the other central banks to begin cutting rates sometime later in the year as a more reactionary measure instead of a combination between reaction and precaution. Asian growth is still expected to maintain, but interest rates have risen to unhealthy levels. Meanwhile, Europe seems a few months behind the US economy in the GDP cycle, so slower growth may not be realized until the late 3rd or early 4th quarter of this year.





One solution to the falling value of the Dollar the FED has yet to utilize is the mop up of excess money floating around throughout the economy. Unfortunately for the US central banking arm, excess liquidity has been necessary in a marketplace stricken with tightening credit standards and loan requirements. As the financial sector continues to right itself (with the help of much needed investment from the private sector and abroad), the FED may begin to start diminishing some of this exorbitant amount of dollars. Hence, less supply will help drive the USD's value back in the right direction.

Privatized Social Security?

Recently, Republican Presidential Candidate Fred Thompson has become outspoken on the Social Security issue. In one of the rare cases where a politician musters up enough courage to discuss one of the premier dilemmas facing American society, Thompson seems to be on the right track. Instead of relying on increasing taxes in order to boost account values like Senator Clinton has suggested, Thompson began talk of privatizing Social Security and allowing individual Americans to save their money as they so chose via an investment vehicle (likely a 401(k) or something similar).

When asked his main thoughts behind the process, Thompson replied with a refreshing remark. "The American people are smart", said Thompson reflecting on U.S. citizen's abilities to invest themselves. How about that? A politician that has faith in the American people to choose and dictate their own prosperous future.

Contrast Thompson's pro-individual comments to those of Hilary Clinton's latest speech, in which she mandated, "When I am president, we'll have our priorities in order. We will return to fiscal responsibility and fair tax policies first, and then we will address the long-term challenges facing Social Security."

With an overwhelming lead in the Democratic Primary's early polls, I worry for the country with her pro-tax hike mentality, something a fragile economy wouldn't take kindly to. What happened to the pro-growth Democrats like Kennedy? Maybe Hilary should consult someone with experience in the position, someone who understood that tax hikes were detrimental to the economy. Say her husband, Bill.

Stocks will push for another bullish end to the year

With so much controversy and turmoil in the marketplace in 2007, it seems only fitting that a prediction of bullishness is viewed skeptically by many in the investment world. However, I believe there are several factors that will continue to churn out new records in most equity sectors and classes.

Recent stock market pull-backs have been caused mainly by rising interest rates. Bond Yields rose again on Thursday bringing rates to around 5.17%. Despite the substantial increase of 400 basis points, the equity markets finished higher due to some good economic data. Although bond yields pose a short-term threat to the markets, they can only do so much damage before the flood of capital and investor confidence takes over.

Looking at the 10-yr bond yield (considered one of the best measures of rates), it continues to approach the target Federal Funds rate level. But what is going to happen when bond prices become just a few hundred basis points away from the target interest rate? They will halt, quickly. In other words, the upside to the stock market far outweighs the potential rise in bond yields. Therefore, if bond rates are not going to get much higher, we must assume that housing will begin to stabilize during the latter half of the year. In addition, consumer and institutional confidence should continue to increase providing higher highs in the marketplace.

Another key aspect of the interest rate impact regards the flattening of the yield curve. One of the main arguments of the bearish analysts on Wall Street this year has been the inverted yield curve. Not only has the curve flattened, it has really begun to shape back to its normal progression, with yields correlating to the length of the investment. Stabilization of interest rates and normal payout percentages will make short term bonds more unattractive and simultaneously display equities as a prime target for even larger amounts of capital.

Stocks remain undervalued when taking into account global profits, revenue and earnings growth, higher margins, and currency conversions. Now might be the time to buy, not sell.

When will Carter and Greenspan just shutup?

I don't know what it is with former famous political leaders, but they seem to be having a problem keeping their mouths closed. Just a few days ago, former President Jimmy Carter went off as saying "the current administration is the worst in history". Later, Carter claimed he was only referring to the Bush Administration's foreign policy.

But, like Greenspan, what good did these comments really do for the country? Confidence is already near all-time lows, set when guess who was President-Carter himself. A vast majority of Americans in both parties know how poorly Bush has done in respect to foreign policy, so why does the former maligned leader feel the need to state the obvious? Considering his track record, Carter has no room to criticize or talk.

Today, former FED Chairman Greenspan decided to tell the world that China will have a big sell-off at some point. Well, no kidding! Anyone who follows economics and investing understands that China is due for a correction at some point. Did Greenspan really find it necessary to state the obvious as well?

However, I fail to see where this "big" correction will come from. If you take into account the P/E ratios over the projected five-year earnings growth rates in China, the stocks seem more appealing then those in the United States. Yet, Greenspan seems to ignore key numbers such as this all too often. To be critical of China, when you have been linked directly to many of the problems the US Economy currently faces, takes one arrogant and senile former economist and politician.

Carter and Greenspan need to go play a round of 18 and accept the fact that they failed during their tenures.

(Chile)ng Economic Trials

In a recent Wall Street Journal column, a reporter chronicled the upcoming problems the Chilean economy faces. Like several other developing nations, Chile's economy seems to have become over-reliant on a single industry. In this specific case, Chile's recent economic boom has been fueled largely by mining commodities, especially considering how copper has tripled in the past 5 years or so.

However, Chile is dissimilar in the methods it has taken to combat the volatility derived from commodity markets by using investment techniques on a percentage of revenue generated from taxes on the economy. With tax revenues higher during years of commodity price increases, Chile has been able to develop a system that invests a percentage of taxes during this period into foreign investments such as government bonds. Although it would generally be wiser of them to place this money in equities, I applaud the finance and economics ministries for even coming up with such an idea that generates guaranteed return on money they don't need to spend.

By hedging against these fluctuations in Chile's economy, stability and long-term upward growth can more easily be secured. Many of the dividends and repayment of these funds will be invested into innovation so that the country becomes competitive in other sectors such as Technology, Financial Services and Consumer Products. All too often, developing countries focus on short-term profits, economic growth and end up spending instead of accruing or building their wealth. You will be hard pressed to find any country that has a better long-term economic strategy and focus on innovation and techonological improvement then Chile.

As with any government, the diffulty to balance the budget always poses a threat and concern among politicians and citizens. Chile's comprehension of the peaks and valleys associated with commodity dependence help create barriers against recession or stagflation. There are always issues and programs that need financial support, but tighter spending leads to a more balanced budget and higher levels of fiscal responsibility. Maybe US Politicians can learn something from our Chilean allies.



Note: GDP for Chile rises significantly after 2002.

Are Biofuels contributing to inflation in the U.S.?

With the steady rise of demand for biofuels due to subsidies and governement regulations, displacement of crops may lead to higher inflation in food prices. According to Shane Romig of the Associate Press, Argentines are not all happy about the government's new ethanol/bio-diesel plan.

Although few would argue against the environmental benefits of ethanol and other crop-based fuels, economic feasibility has long been in question. This article makes an important point in that diversion of crops towards fuel will likely lead to higher food prices. Despite vast differences in wealth, Americans in the lower and bottom middle-class could possibly face drastic changes to their food purchasing habits.

This may go a long way to show that hydrogen fuel-cell and other alternative means such as batteries may ultimately replace Ethanol as the mobile energy for the future.

ARTICLE LINK

Protectionism is a double-edged sword

Sen. Hilary Clinton continues to lead the protectionist rampage on the political front, she has yet to provide any hints as to her solutions to the various problems that are certain to arise should she win and enact her regulations. Protectionism has both positive and negative effects, the later of which Clinton ignores.

I doubt anyone questions the concern over the amount of outsourcing that has taken place since the early 1990s. Something needs to be done to revitalize the US economy, that isn't debatable. The methods for achieving the end means is where politicians and economists seem to differ.

Clinton tends to suggest that Protectionism will help keep jobs inside of US borders, lower the trade deficit and ultimately act beneficial to the overall economic well-being. She doesn't seem to realize that the trade deficit has no net affect on the United States. Entities and people trade, not countries. She should be more focused on U.S. GDP Growth rates because various factors influence trade, including tariffs, tax rates in respective countries and currency conversion rates.

If you look at Hilary's plan, implementing policies to force companies and Americans to buy home-grown products will certainly result in significant spikes in inflation. She doesn't seem to have any grasp of this concept. If strong tariffs or other protective measures are enacted, those goods that will be then produced by workers in America will most definitely be higher in price due to the wage and benefits difference.

Another key consequence on protectionism is a stronger US Dollar. Although some argue that would be beneficial for the United States and her citizens, this would only hold true when trading or converting currency or wealth with other countries. An inflated currency has proven to be part of the problem with outsourcing because a higher USD makes foreign imports cost less and become more attractive. This is a central factor in the massive import problem the US faces. Should the USD fall relative to the Asian currencies, which it still has yet to do, demand for US exports will rise dramatically.

The double edge sword comes into affect if the US Dollar were to fall too quickly, lowering the value of personal wealth and ultimately creating inflation simultaneously. By any means, the situation is complex and fragile, something Sen. Clinton needs to realize soon.

To be or not to be...Protectionist

There is a very fine line for the subject and cringe at those who believe it should be one extreme or the other. Senator Clinton has already established herself as a major protectionist, but I wonder what the other candidates stances are on this issue. If Clinton continues on this rampage, she will certainly alienate conservative or pro-business, pro-market Democrats as well as Republicans. During this time of economic prosperity and concerns over whether it will last, she might play herself into a defeat during the Democratic Primary.

With global trade and economic dependence, protectionism will be a key issue in the economic debates for both the primary and general elections. I'm interested to see how big pro-Wall Street politicians like Giuliani feel about this subject. Giuliani is by far the best candidate for Wall Street, or so those who work there believe. His extensive background in business and business law should certainly aid him throughout the Republican Primary. Whether the financial outlook looks bleak or solid, he can use his vast experience to persuade voters that his economic policy will either strengthen or maintain the future.

Whichever party wins, I hope Congress and the financial and economic experts in their cabinet and in key organizations (FED, FOMC, etc.) deter any candidate from going one way or the other. Too much protectionism, such as Sen. Clinton is proposing, will create a steep increase in inflation, decrease US exports as well as imports, and put a significant strain on our diplomatic relationships around the globe. By the same token, failure to create and maintain low-wage jobs will also create economic and social problems such as high unemployment and more dependence on government welfare and tax dollars. Additionally, Wal-Marts will continue to force their suppliers to venture outside of the US to keep up with the low prices they demand, directly affecting the job market.

Protectionism is a touchy subject, one that will not become any easier to figure out as the US economy becomes more reliant on globalization. Creating a limited protectionist platform sounds like the most effective route to counter this problem. Although it will create subjectivity, most who follow the economy can agree that neither extreme would ultimately be beneficial for America. Free trade needs to be emphasized, but some low taxes can offset enough jobs from being sent overseas.

Good numbers for the U.S. Economy

More good numbers came out today, suggesting a recession is not likely in the near term for the United States economy like some economists such as Paul Krugman and Barry Ritholz. Let's start with the bad numbers.

Pending Home Sales came in at -4.9% against projections of 0.4% increase due to spring buying habits. Part of this number may be due to the cold snaps felt throughout the early part of the spring. I wouldn't be surprised to see that number rally this month.

Now on to the good news. The ISM Manufacturing Index rose to 54.7%, a new 52-week high. With the good manufacturing numbers came a sharp decline in bond rates, a move that will help support the stock market's rally.
Source: Marketwatch

Yesterday several strong numbers came out including personal income and DPI, each rose by 0.7%. Improvement in income leads to higher consumer spending and eventually GDP growth, corporate profits and a bullish stock market. The PCE inflation measure was flat, signaling slowing inflation. This is key considering inflationary worries and concern over the FED hiking rates if inflation maintains high levels. Gold prices also dipped, strengthening the dollar and lowering commodity prices.

U.S. to be free of Middle Eastern Oil by 2012

Last night, Interior secretary Dirk Kempthorne was on CNBC touting a new offshore oil drilling program that would put to work 48 Million Acres in the Gulf of Mexico and off the coasts of Alaska and Virginia.

"Department officials estimated that the entire plan could produce 10 billion barrels of additional oil and 45 trillion cubic feet of additional natural gas over the next 40 years."

This would effectively provide enough energy for the US to completely cease its importing of oil from any Middle Eastern Country according to the Interior Secretary. In addition, they plan to make sure that certain environmental standards are being met:

"The proposal includes measures to protect against damage to coastal areas from oil spills and other accidents. It would not allow drilling within 50 miles of the Virginia shore and would wall off an additional “obstruction zone” near the mouth of Chesapeake Bay."

However, environmentalists are criticizing the plan for not being protective enough:

“The Bush administration is zeroing in on the most environmentally sensitive areas for offshore drilling,” said Richard Charter, a lobbyist for Defenders of Wildlife and co-chairman of the National Outer Continental Shelf Coalition. “These areas that they are characterizing as buffer zones are woefully inadequate when you consider that the Exxon Valdez oil spill traveled hundreds of miles in a matter of weeks.”

My thoughts on this issue are that it would be great for our own economy, hurt the purchasing power of the Middle Eastern countries, lower the price of oil in general and really help create a more energy independent country. The problem is, I do worry about potential oil spills and tend to question the safety of these offshore oil rigs with the oceanic environment. I feel split because nobody can guarantee environmental protection with these oil fields.

SOURCE: Kudlow & Company, New York Times

China learning well from U.S. Economists

As one of the fastest growing economies in the world and one of the largest, China could easily be arrogant, unresponsive and even disrepectful to the U.S., a former Cold War nemesis. That does not seem to be the case however, considering the trend of decisions made by the Chinese version of the FED, with counsel from U.S. bankers and economists.

The Wall Street Journal reported today that China lifted bank reserves in an attempt to help control growth. Although growth in double digits seems very appealing to most investors, the Chinese Central Bank and U.S. economists realize it may actually pose a huge recession threat down the road. With a lesson learned from the U.S. housing bubble, created by Alan Greenspan's flawed monetary policy, China is attempting to prepare itself and provide a soft-landing to the world's second largest economy (GDP using PPP).

Though the graph suggests no recession problems, you can be sure that growth will be tough to sustain at such a high rate. If China can curb its growth now at 8-9%, it will be able to sustain it for a much longer period of time with less volatility, such as the graph suggests. However, if they continue growing by double digits, the threat of a bubble burst is likely, one that could ultimately ruin the economy or set Chinese progress back severeal years.

Economic Worries for the U.S. Economy

Despite weak GDP performance in the first quarter of 2008, the equity markets continued their climb today with the Dow closing at yet another record high. All of this came amidst talk of a potential recession, a weak Dollar, and declining markets abroad. With this seemingly unstoppable run continuing, there are still several factors that worry me about the current economy.

First off, let me make it crystal clear that I am still Bullish on the stock market and economy in the long run. However, there are too many factors signaling a struggle ahead. Lets begin with the inflationary pressure on the economy. The CPI and PCE both rose to suggest higher prices across the broad economy. Although prices in commodities continue to increase, I do not see these increases in the CPI and PCE repeating themselves for more then a few months. Commodity prices are being driven by international demand and growth, not domestic. Therefore, rising commodity costs are not being translated into actual inflation for most ordinary Americans except in the form of gasoline.

Another concern I have relates to the Fed's competence and the inverted yield curve it created. Greenspan is out, so I will wait to see how Bernake handles a fragile situation. Many bears argue we have never seen an inverted yield curve without a recession following. This fact is entirely accurate, yet may not be in this unique situation. The Fed mishandled rates in 2002-3 by sending them too low, creating the massive housing boom. Without properly limiting growth and speculation in the housing sector, the expected happened in when the bubble burst. Sub-prime spillover and sharp declines in housing prices and sales are not what worries me though. The drastic lowering of interest rates was overdone compared to inflation numbers. Additionally, it hurt the USD, which dropped steeply between 2002-4.



In an attempt to try and generate a perception of normal inflation, the Fed has increased the amount of money it prints to provide a short-term wealth. This will only worsen inflation in the long run as prices of goods and service remain constant the value of the dollar drops even more. To help control inflation, the Fed keeps focusing on raising the short-term FF rate instead of both the short and long or just the long. This has created the inverted yield curve, which undervalues long-term lending. Why would anyone borrow for the long term when they can get short-term returns at higher rates? Not to mention, it makes the U.S. pay back larger debts sooner rather then later.

Lastly, corporate profit records of late have been derived from operations abroad, not domestically. These profits are good since the companies making them are many of those headquartered in America. But, the income and revenues being attained globablly does not help our economy in terms of GDP, employment, and other factors. When you consider most of the returns on the investments made internationally stay outside the U.S. boarders, it really has no net affect on our country except for aiding to drive the equity markets higher. Also, if you consider the gains of the Euro and Pound against the USD, it makes sense that these companies continue to report record earnings. It must be near impossible for Wall Street to predict income and revenues generate across the world, let alone exchange rates to translate those earnings and sales.

These are just some things to consider in the short-term. Once GDP growth heads back towards 3-4% in the 4th Quarter, you can be assured that a new big rally will begin. Unless, of course, the current rally just never dies. As Larry Kudlow says, "It's the greatest story never told" and I expect many Americans to continue to reap benefits of investing in stocks, mutual funds and ETFs.

Why the equity market is still the best play

Over long periods of time, nobody can argue that the equity markets always return higher yields then the bond market. Bonds are used because of their safety, but I would argue that anyone planning on investing over a 10-year period or more should just as well invest in stocks. Some argue, however, that high short-term yields present an adequate substitute for equities.

When you examine the current T-Bill yields, you find them extremely low. So what purpose would that give to invest in bonds? Looking at outside factors, you would realize that the USD has started to take back gains against the Yen, Euro and Pound. If you couple the gains in the Dollar with record high tax revenues, which in turn help decrease the deficit in the budget, Bonds would seem attractive because yields would continue to increase. However, as my fellow blogger Rufus quickly corrected himself, he explained, "Of course, the second act is the market explodes, again and the "bond" holders take a bath."

Therefore, even if the bond market rallies in the coming few months and stalls the equity boom, eventually the stock market will pull through and continue to mount significant gains. Some will argue that the spread between bond yields and commodities is too vast and one or the other will increase or decrease, respectively. With inflationary pressure in the market beginning to wane, the odds are against a momentus rally in the fixed-income market. From this, you can predict that commodity prices will slide some, although with global growth and demand as strong as it is, a larger then normal spread is not all that worrysome.

Could Protectionism Actually Hurt the Dollar?

Although some Democrats claim to be in favor of protectionism to help bolster the U.S. Dollar and curb outsourcing and the trade deficit, John Rutledge, former Reagan Economic Advisor and current President of Rutledge Capital, says it may actually cause an inverse affect. Over the past year, the U.S. Dollar Index has declined sharply while falling substantially against the Euro, Pound and Chinese Yuan. The important aspect to note in these declines against other notable currencies is that only the Yen and Yuan have a significant impact on the U.S. economy because China and Japan are two of our prime exporters and trade partners. Europe and England fail to pose nearly the threat that Japan and China do should the U.S. Dollar really free-fall against those currencies, which essentially would drive up inflation.

Democrats believe protectionism will help maintain the value of the U.S. Dollar, when in fact, the opposite needs to happen to help control outsourcing and decrease the number of imports into the U.S. If the Dollar falls significantly against the Yuan and Yen, manufacturing and production in the United States will ultimately become cheaper and in theory, our manufacturing sector will actually begin to expand again to adequately supply the public with their needed goods and services. However, the only possible scenario for the USD to decline drastically enough against the Yen and Yuan is free market forces, not government regulation or policy-making.

Additionally, Rutledge went on to explain that the USD should stabilize vs. the Yuan and maintain its success with the Yen. His theory for the slowing of the USD decline against the Chinese currency was based on increased speculation on the Yuan and the theory that recent run-ups by the monetary unit have created a bubble that will likely burst at some point in the next couple years. Keeping the USD strong against the Yuan will be key for controlling inflationary pressure in the economy, but likely will continue to contribute to outsourcing and a lack of trade balance with China.

The solution to this dilemma is simple; let the Yuan run its course and lower corporate tax rates in the U.S. to make business investment and production more attractive.