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It’s hard to believe that the greenback could get any worse off than it already is, but the Federal Reserve looks dead set on doing everything in its power to punish the buck even more.
Witness the Fed’s latest actions …
When stock markets around the world swooned two weeks ago, Bernanke and company stepped in and unexpectedly blasted a full 75 basis points off both the Fed funds and the discount rates.
But that was just the opening salvo! On Wednesday, the Fed succumbed to market pressures and officially declared war on the dollar with another 50-basis-point cut.
The buck hit the deck after the emergency rate cut two weeks ago, and went deep into a bunker after the subsequent rate cut this past Wednesday!
Take a look at my chart:
You can see exactly what happened to the greenback: The emergency rate cut kicked off a week of selling. And Wednesday’s decision sent the dollar through a key area of chart support:
Whether or not the dollar holds its ground above record lows now depends on one key question …
Can the Fed Stabilize the U.S. Economy or
Will Rate Cuts Fail to Boost Activity?
The Fed says its rate cuts are in anticipation of sustained economic weakness.
Interestingly enough, the emergency cut came without new economic data. I’d say they were using excessive force to pre-empt significant stock markets losses with that one.
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However, there’s no doubt that the U.S. economy is facing severe challenges right now: A housing recession … the subprime mortgage crisis … tighter credit conditions … severe blow-ups on corporate balance sheets … and anemic GDP figures.
Some of the latest signs:
- The rate of homeownership declined substantially in the fourth quarter of 2007. Vacancies among homes for sale are surging while house prices and sales of new and existing homes continue to drop.
- The U.S. posted GDP growth of just 0.6% in the fourth quarter. That was a huge disappointment. And the International Monetary Fund now estimates 2008 global growth at 4.1%, down from 4.4% in 2007.
- Expectations for corporate earnings are looking grim. Year-over-year earnings for S&P 500 constituents are expected to drop 20.5% from the fourth quarter of 2007. Ouch!
- Balance sheets of financial institutions across the globe are still chock full of bad debt thanks to scores of complex derivatives.
- There are major questions about the future of the U.S.’s two largest bond insurers. One of them, MBIA, just announced its biggest ever quarterly loss!
And then yesterday we got another round of bad news: The U.S. is losing jobs FAST! Payrolls declined in January for the first time since 2003. The report also noted downward revisions to the final months of 2007 — strengthening the case for a U.S. recession.
You simply can’t pull any positives from that pile of wreckage. And so, in that sense, it’s hard to blame the Fed for slashing rates.
After all, the Fed’s policy can have noticeable influences on our economy. Pouring money into the system, as they’re doing now, can get things moving again.
But in this instance, who’s there to soak up all this money? Levels of debt have already reached extremes.
U.S. household debt now sits at a stunning 130% of disposable income. And what business wants to borrow when the climate is so shaky?
Translation: The Fed could lose its ability to stimulate spending, rendering its rate cuts ineffective. Americans may actually get TIRED of borrowing!
At that point, real assets will have to take a hit instead.
Never forget, exceptionally loose Fed policy was the likely culprit behind the housing and credit bubbles in the first place!
For now, we’ll just have to stand aside and see what happens next. But the obvious consequence in the currency markets is more dollar weakness. That’s why I suggest focusing on currencies that benefit in a risk-averse environment — currencies such as the Japanese yen and the Swiss franc.
Best wishes,
Jack
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