Prospects for the U.S. dolar

( – Inflation at the consumer level increased by 0.6% in March, up from 0.4% in February, while the core rate excluding food and energy rose by 0.4% versus the expected 0.2% and up from 0.3% the previous month. This points to the potential for inflation to be moving up to 7%+ per annum. The Fed will likely raise interest rates 1/4%, and give the $ a short-term lift. However, remember that the last $ rise was short lived and could well be again as other problems beset the $.

The prospect of a slowing economy and rising inflation is headed towards stagflation, despite Greenspan’s saying that is not a danger. With housing starts dropping but new housing sales up to record levels of 1.43 million on an annualised basis and 12% up on last month, what should we see in the U.S.? The forecast was for a rise of only 1.19 million. With interest rates rising and the prospect that they will not be seen at these low levels for some time, many feel they have to buy, while they can fix mortgage rates at a level they can afford. The fear is that these are the buyers who will be hurt in a housing price fall. With many putting down only 10% of the purchase price, these could be panic sellers if house prices began to drop. The symptoms of a bubble are there. Many new buyers are expecting capital appreciation of up to 22% a year to continue ad infinitum, but sadly it could be for a less than a short time.

The Fed is caught in a cleft stick, knowing that if they don’t raise interest rates inflation will grow. If they do raise interest rates growth in the economy could wither and reverse. The balance is so delicate now that whatever they do will be wrong. What will they do? We have pointed to a potential pause in interest rates rises but we may well be about to see a pause now?

The U.S. is rapidly moving to an internal showdown on this front. We reiterate that the Fed will place continuing growth of the economy above the curtailing of inflation. For gold either way will be positive!

The blithe consumer and property market
Over the last few years the economy has been aimed at enriching the consumer and getting him to spend. The prospects of those days ending are growing. At the end of a ‘bull’ market, one of the features one sees is the belief all will keep going up and the “little” man joins in the fray. This is happening now in the property market. The small buyers, with small deposits are buying at record levels right now. The risk they face if there is a 10% fall in house prices is enormous. Bear in mind house prices in the U.K. dropped 25% in a short period of time last year. Negative equity is a frightening prospect. It is the same as going short on margin, only to see your margin swallowed up and nowhere to go to get more to put in. The house buying frenzy is particularly worrying as house prices are running well above historic ratios of prices to incomes.

The problem goes global!
Across the developed world the phenomena is the same. Between 1997 and 2004, house prices more than doubled in Australia, Britain and Spain, and nearly the rippled in South Africa and Ireland. The ratio of house prices to rents is at least 60% in Britain, Australia and Spain, and by 46% in France. With this happening, the perception that one is becoming increasingly wealthy is difficult to avoid. Other forms of saving diminish too, after all why save more when your wealth is growing so much. There’s more room to buy other things now. Debt repayments seem unnecessary as the % of ones debt in relation to ones wealth is diminishing too.

But when the market turns, the reverse is true. As ‘wealth’ diminishes, the consumer cuts back his spending savagely, as he tries to make up for diminishing wealth. This ‘ripples’ through the economy, all the way up the line until GDP growth disappears. The Fed does not want that to happen and will take steps to reverse any such loss of confidence. Because to regain that confidence can take 4 years or so after the Administration and the Fed take action to bolster confidence. [If you fire one person, you have to hire two to lever confidence back to where it was before you fired the first.] Imagine a 30% drop in house prices, or more, which could be conservative when one takes into account the extent of the rise to date.

As we live in a global economy, the fall in house prices could be far worse outside the States right across the developed world.

Protectionism takes two steps forward.
Europe alarmed at the over 500%+ increase in textile imports from China is now considering protective measures against the flood of Chinese textiles. The World Trade Organisation procedures have to be followed so we do not expect any action to be taken for two months. Certainly the rush to global free trade appears to have tripped up itself. But then who saw the Chinese coming?
If the process continues, we expect at some point in the future for this to spill over from goods to finance. When it does this you can be sure the world will look a lot different to the picture we see at the moment.

When? Just look back at the recent past and measure the rate of acceleration of the changes we are seeing across the globe. Look at gold’s transition of gold from the ‘barbarous relic” of three, or was it two, years ago, at the mercy of the swathing action of the funds, through to a currency and moving onto a sound measure of value against paper currency, taking all that the funds can throw at it, in its stride.

This pace of acceleration is rising, so expect action sooner rather than later!

Brown doesn’t give up on I.M.F. Gold Sales
The neck of the man is extraordinary. Why? He says I.M.F. gold sales are not off the British agenda. It is off everybody else’s. Mind you this is from a nation that sincerely believes that it was not the British Isles that floated away from Europe, but Europe that floated away from the British Isles.

But if he didn’t keep on harping on about them, no one would take any notice at all. So why not keep mentioning it, it gets our attention and keeps the debt relief story in the news. Clearly the real story is, is the world going to follow the British way of debt relief or the U.S. way. The U.S. are making gifts called “grants” to the heavily indebted poor countries, so that there is no obligation remaining on their part. It is happening already, so it would be wise for the gold market to ignore Mr Brown. It’s a sure thing that the moment the spotlight stay off when he utters the words ‘gold sales’ he will drop the subject! So hopefully this will be our last word? Even when he brings it up again in July, let’s talk of something else?

Julian Phillips


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Marion Mueller

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