Gold News

Gold vs. Hank Paulson's Dollar

As Gold Prices dip, the US Treasury secretary claims to support a "strong" Dollar policy...

A NEW SURVEY from Bloomberg & the Los Angeles Times finds that "76% of Americans think the government should do something to halt the falling Dollar," reports Dan Denning for The Daily Reckoning Australia.

   "Among those with incomes of $100,000 or more, seven in 10 favored aiding the currency."

   US Treasury secretary Henry "Hank" Paulson also claims to favor a "strong dollar policy" – in words, if not in deeds. But his counterparts at the Federal Reserve, in both deeds and words, clearly do not. They've slashed US interest rates almost 2% below the current rate of inflation in the cost of living.

   The upshot for US citizens? For the first two or three years of the Fed's campaign against the US currency, the weak Dollar did not bother Americans, because it didn't affect their purchasing power. It only affected people like me, who were paid in dollars but lived abroad.

   Now that inflation has crept into the American economy with rising food and fuel prices, the real consequences of a weak Dollar are coming home to roost. And it seems to be bothering Americans psychologically as well as economically.

   "It's not just the economic impact," Paul Burt, the head of Westlake Financial Group, tells Bloomberg. "The perception of the decline in the Dollar is as important as the decline itself. The Dollar needs to be respected in the world, and the government needs to realize that."

   The value of all paper currencies is based on perception, of course, unlike the intrinsic value of hard assets – notably precious metals such as Gold Bullion – which is linked to their rarity and limited supply. If investors perceive that the US Dollar is the unbacked liability of a bankrupt government, the Dollar will fall to its true intrinsic value – which at zero, is a lot lower than where you find it today.

   Demanding respect won't help. Respect is something you earn. Currencies earn respect when the economies they come from have real savings, high rates of investment and capital formation, and real wealth creation. The monetary and fiscal policies of the United States government are the enemy of real wealth creation. Those policies are impoverishing America, not making it richer. Many Americans are just starting to realize this. And they aren't too happy about it.

   They probably wouldn't be too happy if they saw the chart below either. It comes, thanks to the Calculated Risk blog, from Fed Governor Janet Yellen. It shows you how much non-tradeable, hard-to-valuable mortgage-backed bonds – and maybe credit-card garbage bonds, too – the Fed has taken custody of through its tool-bag of "lending facilities".

   Theoretically, there is no limit to the amount of US Treasuries the Fed can exchange for increasingly dodgy collateral from commercial and investment banks. The aim is to support their balance sheets – and thus consumer/corporate lending – by turning unsellable assets into easily sold government bonds.

   If the Fed runs out of its stock of Treasury bonds, it can just print more money and lend that in exchange for illiquid toxic junk instead. But we reckon that the more depleted the Fed's Treasury stock gets, and the more investors realize new money will have to be printed to purchase bad debt, the worse it will be for the Dollar.

   "Conditions in financial markets are still far from normal," Fed Chairman Ben Bernanke told Congress this week.

   Just how much more abnormal will they get? $300 billion worse? $500 billion worse? Worse?

   Nobody knows. But three years from now, we reckon the US Dollar will be lower, and Gold will be higher.

Best-selling author of The Bull Hunter (Wiley & Sons) and formerly analyzing equities and publishing investment ideas from Baltimore, Paris, London and then Melbourne, Dan Denning is now co-author of The Bill Bonner Letter from Bonner & Partners.

See our full archive of Dan Denning articles

Please Note: All articles published here are to inform your thinking, not lead it. Only you can decide the best place for your money, and any decision you make will put your money at risk. Information or data included here may have already been overtaken by events – and must be verified elsewhere – should you choose to act on it. Please review our Terms & Conditions for accessing Gold News.

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