If You Think Higher Interest
Rates Will Help the Dollar, Think Again!
March 24, 2005
Since the release of the Fed
Open Market Committee statement yesterday, much has been said
about the Fed's newfound commitment to contain inflation. However,
currency traders have apparently confused the Fed's mere mention
of the word "inflation" with an actual intention to
do something about it.
Presuming that a tougher Fed means higher interest rates, traders
have aggressively bought dollars. However, this conclusion ignores
the facts that higher interest rates will ultimately: 1) precipitate
a severe recession, 2) exacerbate both the current account and
budget deficits, 3) collapse the housing, stock, and bond market
bubbles, 4) cause millions to lose their jobs, 5) bankrupt millions
of consumers, and thousands of companies and hedge funds, 6)
result in capital flight out of the United States 7) and not
even rise high enough to exceed the rate of inflation, leaving
real yields negative. Therefore, higher interest rates will
actually weaken, rather than strengthen, the dollar. Currency
traders betting on the reverse be warned.
The Fed is attempting to do with words what it is incapable of
doing with deeds. It has neither the means, nor the desire,
to combat inflation, which is its own creation. By denying that
inflation exists, and pretending to be concerned if it were to
emerge, the Fed is able to fool America's creditors, buy life
support for the U.S. bubble economy, and postpone the inevitable
day of reckoning.
Let me elaborate on the points I mentioned earlier:
1) Precipitate a recession - As they will result in the cost
of adjustable rate mortgages and other floating rate debt to
rise, higher interest rates will crush consumer spending and
result in greater shares of household incomes going to debt service.
Consumer spending is 80% of U.S. GDP.
2) Exacerbate America's "Twin Deficits" - Due to the
short-term nature of Americas outstanding debt instruments, higher
interest rates will increase both the budget and current account
deficits, as higher interest payments are required to service
maturing debts. Also, the recession itself will add to the deficit,
resulting in even more borrowing at even higher interest rates.
3) Collapse the housing, stock, and bond market bubbles - Asset
bubbles depend on low interest rates and continued speculation
to sustain their inflated prices. When the bubbles burst, the
shockwaves will reverberate throughout the entire economy. Individual
household net worth's will be turned upside down, with reverse-wealth
effects restraining consumption for years to come. The entire
financial system will be at risk, as asset prices fall too low
to secure the debts they currently collateralize. In addition,
as the cost of servicing those debts grows, an increasing amount
will default, exerting further downward pressure on prices.
4) Cause millions to lose their jobs - Since the majority of
American workers depend on the discretionary spending of other
Americans, millions will be unemployed. Especially hard hit
will be mortgage and consumer finance, home building, real estate
sales, financial services, travel, entertainment, and retailing.
In other words, just about every American.
5) Bankruptcy of millions of consumers, and thousands of companies
and hedge funds - As the cost of servicing floating rate, short-term
debt rises, debts will be increasingly more burdensome to service.
Consumers have borrowed heavily with ARM's to buy residential
real estate at inflated prices, corporations have financed long-term
capital investments and share buy-backs with short-term debts,
and hedge funds have leveraged heavily using short-term financing
to buy long term bonds. If you thought the 1998 blow up of Long
Term Capital Management was bad, multiply it by 1,000.
6) Capital flight out of the U.S. - Recession, unemployment,
collapsing assets prices, and waves of bankruptcies and foreclosures,
will cause capital, both foreign and domestic, to flee. This
will put additional upward press on interest rates and downward
pressure on the dollar.
7) Real yields still negative - Despite the fact that interest
rates will be rising sharply, inflation will be accelerating
even faster. Therefore real interest rates are likely to fall
even as nominal rates soar. This will likely weigh heavily on
In the final analysis, higher
interest rates, especially when they result from inflation rather
than growth, will likely be the straw that breaks the back of
the over-leveraged American economy. As the world's largest
debtor nation struggles to make higher interest payments on its
massive external liabilities, those holding its IOU's will finally
come to their senses. Realizing that the burden will ultimate
proof too great, they will attempt to sell. Unfortunately, this
realization will likely come too late, as few will be willing
to take the other side of the trade.
March 24, 2005
not wait for pull backs that may never come. Buy gold at current
prices and do not look back. I still believe the best way for
average investors to participate is though the Perth Mint in Australia.
For more information on their unique, safe, private, low-cost
program visit www.goldyoucanfold.com.
In addition, as the dollar's
value is likely to sink far faster than those of other fiat currencies,
investors can learn strategies to protect wealth and preserve
purchasing power by downloading my free research report on the
coming collapse of the U.S. dollar at www.researchreportone.com
and subscribing to my free, on-line investment newsletter at http://www.europac.net/newsletter/newsletter.asp.
C.E.O. and Chief Global Strategist
Euro Pacific Capital, Inc.
Mr. Schiff is one of
the few non-biased investment advisors (not committed solely to
the short side of the market) to have correctly called the current
bear market before it began and to have positioned his clients
accordingly. As a result of his accurate forecasts on the U.S.
stock market, commodities, gold and the dollar, he is becoming
increasingly more renowned. He has been quoted in many of the
nation's leading newspapers, including The Wall Street Journal,
Barron's, Investor's Business Daily, The Financial Times, The
New York Times, The Los Angeles Times, The Washington Post, The
Chicago Tribune, The Dallas Morning News, The Miami Herald, The
San Francisco Chronicle, The Atlanta Journal-Constitution, The
Arizona Republic, The Philadelphia Inquirer, and the Christian
Science Monitor, and has appeared on CNBC, CNNfn., and Bloomberg.
In addition, his views are frequently quoted locally in the Orange
Mr. Schiff began his investment career as a financial consultant
with Shearson Lehman Brothers, after having earned a degree in
finance and accounting from U.C. Berkley in 1987. A financial
professional for seventeen years he joined Euro Pacific
in 1996 and has served as its President since January 2000. An
expert on money, economic theory, and international investing,
he is a highly recommended broker by many of the nation's financial
newsletters and advisory services.
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