Intervention Will Not Stop the Dollar's
Bambi vs. Godzilla!
Jun 27, 2008
This week the Federal Reserve
took a step closer to acknowledging reality. Unfortunately it
didn't let that admission move it from a policy course firmly
guided by fantasy. In its policy statement, Bernanke & Co.
took the important step in noting that inflation expectations
had taken hold in the country at large. However, in asserting
that it expects inflation to moderate this year and next, the
Fed gave no indications that these heightened expectations are
gaining traction within the Open Market Committee itself.
As a result, it signaled no likelihood that it was actually prepared
to do something to fight a problem which it doesn't really believe
exists in the first place.
In fact, by indicating that they expect inflation to moderate,
the Fed is saying that elevated expectations are unwarranted.
In other words, Bernanke claims that despite the fact that so
many people are carrying umbrellas, he still believes
it will be a sunny day. The takeaway from the statement is that
no rate hike is forthcoming. The markets saw this position for
what it is... capitulation to inflation and a weakening
dollar. No surprise then that the gold responded with the biggest
single day gain in more than 20 years!
With the ensuing carnage on Wall Street, many Thursday morning
quarterbacks claimed the Fed missed an opportunity to reverse
the dollar's slide by either talking tougher or perhaps actually
raising rates a quarter point. If the Fed really believed it
could talk the dollar up, or that a small rate hike would do
the trick, they would have given it a try. I believe they chose
a dovish route because of a greater fear of having their hawkish
stance casually disregarded. Imagine what would happen if the
Fed raised rates and the dollar kept falling? It would be like
one of those horror movies where someone holds a cross up to
a vampire, and the Count tosses it aside with nary a cringe.
Others claim that now is the time for coordinated central bank
intervention to reverse the dollar's decline. Those who place
their faith in such a plan, overlook the fact that Asian and
Middle East central banks have been unsuccessfully intervening
on the dollar's behalf for years. Those nations maintaining dollar
pegs must constantly intervene in the foreign exchange markets
by buying dollars to keep their own currencies from rising in
value. Over the past few years the scope of this intervention
has been unprecedented, with foreign central banks accumulating
trillions of excess dollar reserves. Yet despite these Herculean
and misguided efforts, the dollar has fallen drastically.
Intervention advocates must believe that if the ECB and a few
other central banks joined the fray, that a better outcome would
be achieved. However any additional efforts to artificially prop
up the ailing dollar will be equally ineffective. Even if ECB
intervention could slow the dollar's decent, what possible reason
would they have for doing so? The ECB is already concerned about
inflation and is preparing to raise rates as a result. Intervention
to support the dollar will only worsen Europe's inflation problem
and run counter to these efforts. This is because to buy dollars
the ECB must increase its own money supply. That is exactly what
is happening in countries like China and Saudi Arabia, which
is why inflation in those nations is already much higher than
it is in Europe.
Further, since the ECB is asking Europeans to endure higher interest
rates to fight their inflation battle, why should they have to
make additional sacrifices to help Americans fight their own
inflation? Especially when our own central bank has held interest
rates at the ridiculously low level of 2%, and has effectively
excused Americans from the conflict.
Since we can't count on any help from our friends, the only option
would be for the Treasury to intervene unilaterally. However,
the U.S. government should think twice about bringing a knife
to a gunfight. The Treasury only has about $75 billion in foreign
currency reserves with which to intervene. The war chest is just
a spit in the ocean. To put this number in perspective, Poland
has $77 billion, Turkey has $78 billion, and Libya has $79 billion.
On the other end of the spectrum, China has $1.7 trillion (not
counting Honk Kong's 150 billion) Japan has $1 trillion, Russia
has $550 billion, India and Taiwan each have about $300 billion.
Singapore, a nation with fewer than 5 million people, has $175
billion. In fact, the United States holds just about 1% of the
world's $7.6 trillion of foreign currency reserves, and our total
position amounts to just 2.5% of the total daily volume of foreign
exchange trading. Talk about Bambi vs. Godzilla! In other words,
if the dollar is going to fall, the Treasury is completely powerless
to do anything to stop it.
For a more in depth analysis
of our financial problems and the inherent dangers they pose
for the U.S. economy and U.S. dollar denominated investments,
read my book "Crash Proof: How to Profit from the Coming
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Jun 27, 2008
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.