Friday, March 11, 2005

The worth of a dollar...

Yes, there are some things that keep me up at night, such as a teething one year old, and the four year old's recurring witch dream. But lately it has been the spectre of the U.S. sailing into a fiscal iceberg and sinking that has my mind reeling in the whee hours of the night.

Because my wife is British, I tend to be a little more sensitive to international exchange rates than most married American couples. It's a big financial commitment for us to fly the family to the UK for a visit. We've been talking recently about making the trip this Summer, since we haven't been there for nearly two years. The last time we were in England, one British pound cost about $1.50. England was pricey, but still doable. Now the pound is fast approaching the $2.00 mark, which will just about put it out of reach for us. We may have to offer to fly the Mother-in-law to the U.S. instead.

So why is the pound so expensive?

It's because the effects of the U.S.'s wreckless financial path is starting to hit home in a real way. Take the gas pump, for instance. The weak dollar is not increasing demand for oil but the price of oil is going up simply because it is priced in dollars. When oil goes up, inflation follows, because it takes oil to grow food, to ship food and other goods to your stores, to heat your house, etc. You get the idea. As the cost of oil goes up, so does everything else.

High oil will also slow U.S. economic growth, forcing corporations to cut costs (i/e lay off workers). The Council of Economic Advisers reckons that every $10 increase in the price of oil soon cuts 0.4% off real GDP. A less optimistic financial outlook will put more downward pressure on stocks, and increasing American unemployment will result.

The Euro is now a formidable competitor to the U.S. Countries with vast holdings of U.S. dollars, such as Japan and Korea, have already been complaining about the declining value of their dollar holdings. Their talk about "diversification" of their dollar holdings should be enough to scare the U.S. into fiscal responsibility. Because when the sell-off of dollars begins, the dollar will enter a free-fall against world currencies. Hints of a sell off is already apparent: US dollars accounted for 63.8% of the world's currency reserves at the end of 2003, down from 66.9% two years earlier, according to International Monetary Fund (IMF) figures. The dollar's role as the world's currency is slipping.

The US Government currently depends on an inflow of about $2 billion of foriegn capital daily in order to fund its spending appetite. If foreign investors lose faith in dollar denominated debt, U.S. interest rates must rise in order to attract that capital. If rates rise, that will begin to suck dollars from the U.S. stock market, possibly causing a precipitous decline in stock values just as the first baby-boomers are beginning to retire. This could decline could lead to defensive selling by boomers and institutions, driving stock prices down further.

High interest rates will also make homes less affordable. As mortgage rates rise, homes will be less affordable. The value of homes will therefor decline, further aggravating the plight of retiring baby boomers who had hoped to sell their homes to fund their retirement.

I'm seriously thinking of cashing out of dollars and into silver or gold.

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