here comes the 'great depression of 2005'

  1. 2,785 Posts.
    It's Over
    "For a while now the United States has been pressuring China to let its currency float, a move that is widely anticipated to lead to a stronger renminbi against the dollar. This must rank as one of the dumbest things I have seen the United States do in recent times."

    Paul van Eeden

    While the U.S. dollar has already declined 35% against the euro in the past four years, the main event has not yet occurred. The euro was just the opening act.

    Correcting the U.S. trade deficit requires the dollar to weaken against the currencies of those countries with which the United States has the largest trade deficits, meaning the Chinese renminbi and the Japanese yen.

    The Bank of Japan sold 14.83 trillion yen in the first two months of this year, and bought roughly 140 billion dollars to keep the dollar from falling below 105 yen. But in March, they called it quits. Since March, Japan has been noticeably less determined to support the dollar and, guess what, the dollar has declined by 7% against the yen since then.

    In September, Japan actually reduced its Treasury position by 1.5 billion dollars. It was the fist time in two years that Japan sold more U.S. Treasuries than it bought.

    I've often been asked how long I thought Japan and China would continue to support the dollar. Well, it seems that we now know the answer: Until March 2004. With Japanese support for the dollar waning, it won't be long before China lets the renminbi float and other South East Asian countries start concerning themselves with issues other than competitive devaluations against the dollar.

    For a while now the United States has been pressuring China to let its currency float, a move that is widely anticipated to lead to a stronger renminbi against the dollar. This must rank as one of the dumbest things I have seen the United States do in recent times.

    Calling for a stronger renminbi is, by definition, calling for a weaker U.S. dollar. However, U.S. Treasury Secretary John Snow said in London, just last week, that "Nobody has ever devalued their way to prosperity." I guess the U.S. administration feels that the United States is already so prosperous that it could afford to pursue a weaker dollar, even though its official policy is one of a strong dollar. If that sentence confuses you, don't worry, it seems to confuse John Snow as well.

    While the fixed exchange rate between the dollar and the renminbi has allowed Chinese exports to remain very competitive in U.S. markets, it cost the Chinese dearly. China has had to buy in the order of 500 billion dollars' worth of U.S. Treasuries to keep the renminbi pegged to the dollar. This year alone, China bought in excess of 100 billion dollars. At the same time, the falling dollar has caused the price of Chinese raw material imports to soar. Just in the last year, the cost of oil is up 33%, copper is up 55% and nickel is up 18% - you get the picture. If China allows the renminbi to float, and it appreciates against the dollar as is widely expected, then the cost of raw materials imports to China will drop significantly and that is most certainly positive for the Chinese economy.

    China alone will not be able to support the U.S. dollar. With Japan clearly indicating that it is getting indigestion from an overdose of U.S. Treasuries it would imply that China has to take up the slack if the dollar is to remain at its current exchange rate.

    Given that China is under pressure from the U.S. to let its currency float, and appreciate against the dollar, this would be an opportune time for the Dragon to politely grant the United States its wish. But if the Chinese let the renminbi float, it also implies that they would not have to buy as many U.S. Treasuries going forward.

    Japan has reduced its Treasury purchases since March, and I wonder if our intrepid leaders in Washington have thought about who will finance the growing U.S. budget deficit. Life has been far too easy for US politicians in the past fifteen years. Just like U.S. consumers, they have become proficient at spending in excess of their means, in the belief that there will always be someone out there to lend them more money.

    But the game is over. With the U.S. economy sinking into quicksand the buyers of last resort have been the Asians, and now it seems that they have had enough.

    According to The Conference Board Inc., a private economic research group, the outlook for the U.S. economy further weakened in September. This is the fifth straight decline in economic leading indicators. With such a bleak outlook for the U.S. economy it's going to be tough to replace decreased Chinese and Japanese appetite for U.S. bonds with private purchases.

    For most of this year, I have been saying that we need to see the U.S. dollar decline in conjunction with rising interest rates before the dollar-gold price will sustain a meaningful rally.

    Since the day after George Bush was re-elected as President of the United States, interest rates have risen and the dollar has declined. It's too soon to call it a trend, but my own feeling is that the dollar is heading much lower and the gold price is heading much higher.

    The U.S. trade deficit is a virtual guarantee that the dollar will fall and the budget deficit is a guarantee that interest rates will rise. It's busy happening, and there is no end in sight.

    Prepare yourself, buckle up, and hold on.

    Paul van Eeden is one of the world's leading gold market analysts. He writes a weekly column on the gold and precious metals markets for Kitco (, as well producing an electronic investment publication for his subscribers.

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