-- Posted Wednesday, 30 April 2008 | Digg This Article
| Source: GoldSeek.com
by Howard S. Katz
4-29-08
At the present time, gold is holding at its April 1 low, and the central question is, will this low hold and set the stage for a rally above $1,000, or will the low break and lead to a more extensive decline? Probably the most important factor giving the answer to this is the fate of the U.S. dollar.
A brutal battle over the dollar has gone on for better than 7 months, but the decisive blow in this battle came on April 15 when Martin Feldstein did an Op-Ed article in the Wall Street Journal entitled, “Enough With the Interest Rate Cuts.”
Since January, opposition has built up against Bernanke: Trichet, Volcker, the March palace revolt at the Fed and now Feldstein. There may be another quarter point cut on Wednesday, but basically the series of rate cuts which began Sept. 18, 2007 is over.
This series of rate cuts has been very good for us gold bugs, but it has been very bad for America. Now that it is over, a point of view has built up that with the end of the cuts the dollar will rally. The 3-day dollar move of last week reflects this point of view.
However, if you remember last summer, before the cuts began, the dollar could not get out of its own way. With the T-bill rate at 5¼%, the dollar was over valued. On Tuesday, the T-bill rate was 1¼%. I would say that the dollar is now unbelievably over valued.
Further, anyone who studies currency movements knows that they do follow interest rates but with a significant lag. 2004 provides a case-in-point. At that time, the Fed began to tighten in June, and the dollar did not bottom until December, a six-month lag. Furthermore, everyone is talking about the Fed funds rate. But the Fed funds market is a small market. The big market, which affects all interest rates in the country, is the T-bill market. When there is a difference between the Fed funds rate and the T-bill rate, it is the T-bill rate which is important. Coming into this Fed meeting there is a good 1% difference between the two rates. The Fed did not cut by 3%; it cut the Fed funds rate by 3%.. But the Fed funds market is small. The big market, which affects all interest rates in the country, is the T-bill market. When there is a difference between the Fed funds rate and the T-bill rate, it is the T-bill rate which is important. Coming into this Fed meeting there is a good 1% difference between the two rates. The Fed did not cut by 3%; it cut by 4%. The conclusion is fairly clear. The lag time is going to be longer than normal this time, and we haven’t yet begun to count.
What I think is happening is nicely indicated by an article in this week’s Barron’s predicting “Dollar’s Dark Days Are Over.” The article presents the standard Keynesian argument that an economy can always be balanced between not enough demand and too much demand. and it is always possible for the Fed to strike this happy balance.
Of course, the U.S. economy has had too much demand (“inflation”) since 1956. During this time it has also had 7 to 8 periods of not enough demand (“recession”). If you study very hard, you can make yourself believe that the economy has not enough demand and too much demand at the same time and that there is nothing wrong with this state of affairs. If you can turn your mind into a pretzel in this manner, they will give you a pretty certificate saying that you have knowledge of economics.
Now Adam Smith did not have such a certificate. However, to be a good Keynesian you are not supposed to know who Adam Smith was.
Now in truth, economies do not move in response to demand, either too much or too little. Concern about demand is appropriate to one industry, etc. They want the customers to come to them. They view demand as demand for their products. But this is a zero sum game and does not apply to the whole economy. If the customer goes into store A, then he will not go into store B. But it does not matter which store he goes to; this will not make the whole economy richer.
Economies move in response to supply. Some productive person has to come along and figure out how to create more wealth. This happened again and again, principally in the Anglo-Saxon countries and those which imitated them, from about 1800 to 1950. Take, for example, the green revolution of the mid-20th century. This was a productive advance which dramatically increased the amount of food in the world. But our age cannot find such a productive genius.
Or take Henry Ford’s discovery of how to make an inexpensive car. Cars before 1913 were hand crafted and, therefore, very expensive. If a factory of Ford workers could turn out 100 cars where a competing factory could turn out one, then the per unit cost per Ford car was much less. Ford was creating wealth. That is why the world became richer. The productive geniuses of that day were highly motivated to increase the wealth of the world. No one understands this today, and the beneficiaries of a Federal Reserve money/credit bubble are mere hangers-on who make it via other people’s money.
If anyone will open his eyes to look at the economy of our day, he will see that houses are going down in price, and food is going up. That is not too difficult to see. To fail to see this requires one of those pretty little certificates. The reason is that over the past few decades we have built too many houses and planted too little food. We have taken farms and turned them into housing developments. (Total world arable land is nearly constant and cannot be easily changed from year to year.)
Why are there too many houses and too little food? Ludwig von Mises knew the explanation back in the early part of the 20th century. The monetary authorities distort consumer demand. Instead of businessmen creating the goods that people really want and need, they create goods that are not needed. In words of one syllable, when Volcker and Greenspan eased credit, they induced entrepreneurs to build housing developments. Land went out of agriculture and into housing. Now the people of the world have too many houses and too little food. The producers of the world have not produced those goods which the consumers want and need.
And what is Keynes’ answer to that?
Gold here is looking like a secondary test of its April 1 low. The same is true for the $XAU. Gold has a way of taking us right to the edge (as per Oct. 2006 or Aug. 2007), and then, when it has us scared to death, it makes a great move.
In sum, the dollar’s bearish pattern is still intact. The recent, small dollar rally has been caused by Keynesians rushing in (in large numbers, full of confidence). This is what makes gold bottoms so scary. The Keynesians attack. They are full of incredible self confidence. Then they turn out wrong. Then they mentally erase the fact that they were wrong. And so it goes.
This is the kind of analysis you will find at the One-handed Economist, an 8 page, fortnightly newsletter which analyses and predicts the financial markets.. Social and political analysis is available (at no charge) on www.thegoldbug.net. Subscriptions to the One-handed Economist are available (via the website) for $300 per year. You are invited to check us out.
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-- Posted Wednesday, 30 April 2008 | Digg This Article | Source: GoldSeek.com
