A few weeks ago I predicted a fall in the U.S. dollar. Let's probe a bit deeper into what that might mean.
At the Econ 1 level, a fall in the dollar should mean increased U.S. exports and decreased imports, since our goods and services will be relatively cheaper and foreign goods and services relatively more expensive. That's fine; expect more foreign tourists and don't plan that European vacation any time soon. Our balance of trade is so hideously out of whack that any effect in this direction would be a generally good thing.
Unfortunately, another major effect of a falling dollar will be inflation. Raw materials will cost more dollars. This includes, particularly, oil. This in turn will push up the prices of finished goods. So things in general are going to cost more.
To fight this, the Fed will raise interest rates. They have one tool - interest rates - and that's how it works. Inflation looms, Fed raises the rates. In the plus column, interest rates are historically low, so there's room for rate hikes. In the other column... a lot has been built around interest rates being historically low. There are lots of variable rate mortgages out there. Hiking interest rates is likely to have significant reverberations in the economy, aside from simply slowing business investment.
That's the Econ 1 level. Inflation, higher interest rates, a stalling economy, and expensive imports. Let's look deeper.
As the dollar becomes cheaper, fixed assets become worth less. If the equity you have in your house right now would buy, say, three tons of copper, by this time next year it will only buy two. Your current paycheck will purchase fewer DVD players, less beef. On the flip side, money you borrow now will be easier to repay. Provided, of course, that your future income streams grow with inflation.
I really don't see any way around a major economic slowdown. The economy is propped up by the U.S. consumer, and the consumer has been leveraging their house to spend themselves into debt. The debt may become less onerous for some, but the falling real value of those homes will dry up that home equity cash well really quickly.
This assumes, of course, that housing values don't increase as rapidly as inflation - but the general wisdom is that we have a housing bubble already. Take the value of your neighbor's house and, in your mind, double it. Do you see that happening? I don't.
Another major catch is that not only will the American consumer's assets go down in value, but the two hundred fifty billion dollars worth of U.S. Treasury securities held by the government of China will buy a lot less, too. Not to mention the six hundred eighty billion held by Japan... or the billions held by U.S. domestic investors. And the first person to sell those assets will lose the least.
I'm not pessimistic enough to predict a race for the door, which would lead not to a depreciation but rather a collapse. I am realistic enough, however, to worry about it.
As you recall, the current exchange rate (and, I think, current asset prices) have been propped up by the tremendous influx of U.S. corporate profits. That's over now. And if the economy goes south I don't know what other aces in the hole we can pull out. Monetary policy will have its hands tied by inflation. Fiscal policy is effectively unavailable - thanks to the Republicans, the government has been spending far more than it's taking in for five years now. We have, in effect, used up our emergency supplies.
I am strongly tempted to go into a rant involving Clinton, responsibility, surplus, and tax giveaways to rich people, but let's just take that as written and realize that a government that under a Democratic administration could have stimulated a slowing economy through spending no longer has that option.
We've raided the piggy bank. We've spent the mad money. We've rifled the couch cushions and we've had our yard sale. Instead of fixing the roof, we threw our rich uncle a party. And now it's looking cloudy.
Ironically, I think one of the stronger indicators of rocky times ahead is the sudden outburst of economic pollyannas in the media. Despite the Dow closing lower overall in 2005, all channels have been saturated with talking heads opining that the economy is doing great. Unemployment is low (never mind the millions of "discouraged workers" not counted in the number), job growth is good (never mind matching it against population growth, or how deep in the jobs hole we still are), productivity is up (never mind that wages are strongly down). From all the usual apologists, its unalloyed economic smiles. Not from the serious economic watchers - not the Nightly Business Report or Wall Street analysts or even the WSJ (aside, of course, from the opinion page, which is a joke) - but from all the people who smile and feed the public the information they want the public to believe. When the paid-for opinionist comes on and says that a Dow Jones average lower than a year ago is a good sign, you know that someone behind the scenes is pushing hard.
Because when the public stops believing, the wallets snap shut. And the whole house of cards begins to wobble.
Do you recall stagflation? Neither do I. But I'd recommend you read up on it. The dollar will fall. Inflation will set in. Interest rates will rise, and the economy will stall out - keeping the inflation from becoming terrible but never really knocking it out.
We've sown the seeds of this for five years now. And when I say "we", I mean you ignorant Republican-voting assholes. And I mean that with the deepest sincerity.
But it's about to rain on the stupid and the non-stupid alike.
- Sun Ra
P.S. Not to let this end on a total downer - there are always winners in any economy, and in this climate the winners will be in exports. Find companies that sell abroad, and invest in them. Companies that have borrowed and invested that money in PP&E, i.e. working assets. Their debt will be devalued by inflation and their sales increased through depreciation. I have a few I could recommend, but I'm still grumpy so I'm keeping them to myself.