Dan’s Blog

Fixing the Market: Strengthening the Dollar

Dan Calandro - Monday, October 03, 2011

First things first, it’s quite hypocritical for the US government to continually excoriate the Chinese for manipulating its currency by not allowing it to appreciate. I don’t understand the US stance. The Chinese currency has risen steadily and in dramatic fashion for more than a decade while at the same time the US government has been purposely urinating on the dollar.  What China does with its currency doesn’t amount to a hill of beans if US governance takes care of business with the US dollar. 

Because the US is the freest country in the world, it’s a major market problem when it’s not the strongest currency in the world.  This needs to be addressed quickly to avoid further demise. Like Rome, however, a strong dollar can’t be built in a day.  It will take time and a multi-faceted approach.  

First we must acknowledge the obvious: more of any one thing means less value for that particular thing.  For example, if diamonds could be found everywhere they’d never appear on an engagement ring.   They’d have no long-term value and women would find such a gesture insulting.  And who would blame them.

The same is true for stocks.  If Apple printed another trillion shares of its stock it wouldn’t be trading at $300+ per share.   The new abundance of shares would dramatically devalue existing share already in circulation. 

The same is true with money.  When central governance floods the market with currency like it has for the past several years, the dollar weakens.  A weak currency brings on inflation (the general rise in prices) because more dollars are required to purchase the same amount of goods. 

That’s why President Obama wants to raise taxes – to remove currency from circulation in an attempt to ward off inflation.  But that’s the wrong way to do it.

As we know, another major market problem is that banks aren’t lending money.  The reason for this is because there’s no money in money.  Interest rates are too low and inflation is heading right for us.  Banks are operating on such tight margins right now, and with inflationary pressures rising there’s very little room to take risks – so they’re not lending.  Instead, banks are trimming their workforces and getting paid by the Fed not to lend.  

We need to turn this around.

It’s time for the Fed to start raising interest rates. This will give banks more incentive to take risks and lend money. It will also raise the value of the dollar because there would be more interest in borrowed money – in other words, more value in US debt.

Higher interest rates will also give the Fed a mechanism to remove currency from the market without raising taxes. Bond values and interest rates have an inverse relationship, meaning as interest rates rise bond values fall.

Right now the Fed is trying to lower long-term rates (and raise short-term rates) with a stupid policy called, "Operation Twist." Instead, it should be raising short-term rates with new debt issues and using the proceeds to purchase existing debt at lower rates trading at discounted prices.  In such a case, $1 dollar of new debt will be able to purchase $1+ dollars of existing debt – thus removing currency from the market and warding off inflation. 

Would the government’s interest expense go up because of this? 

Yes. 

But banks would have more incentive to lend, taxes would not increase, excess currency would be removed, and the dollar would strengthen.  And that’s what we really need right now. 


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