Dollar Dilemma

Dollar Dilemma

We thought that it would be a good time to review what is happening to the US dollar. To us the biggest problem for the dollar is the amount of the US trade deficit. For 2006 we will see this deficit top out at about $700 billion.

The real problem with a deficit this size is that that the dollars are no longer in the US and held buy Americans. What it means is that the US has bought $700 billion more of goods than it has sold, resulting in those dollars being held overseas. Once these dollars have changed hands, the 

holders of them are free to do with them what they please. If they decide to reinvest them in the USA. In the US, either through the stock market (which has been going on until recently) or by keeping the money in US accounts. USA In order to earn interest, then there is no negative effect because the dollars remain within the US. USA

The problem starts when these holders folks dollars decide that they are doing not want to stay US dollars and like to shop for or invest into something else, such as exchanging the dollars for euros or some other currency, or gold. As more and more holders of the US dollar plan to reduce their US dollar holdings and invest them into other currencies, the result's a discount of liquidity in the US.

While there is a great deal of US dollars being held by foreign investors, the biggest holders are foreign central banks. It is these central banks that we believe will start to reduce their holdings of the US dollar to diversify away from one main foreign reserve holding. And we believe that this 

move away from the US dollar has already begun. Many of those banks are sending out the word that this is often exactly their intention. It is a true juggling act because no country wants to the dollar collapse, especially since most of the central banks still hold an enormous percentage of their 

foreign reserve in the US dollar.

They all want to scale back their exposure to the dollar, but don't want the other financial institution to panic and have a run on the dollar. But they're certainly giving us many hints to suggest that a lot of of those central banks want to scale back their holdings of the US dollar and diversify into other 

currencies and gold. Some examples:

Nov 9/06 - China announces plans to diversify out of the dollar. From Bloomberg: Gold in NY gained the foremost since June on speculation China will boost purchases of the valuable metal to diversify its foreign-exchange reserves. "All central banks plan to diversify," People's 

17/06 November - The governor of the UAE speculates that the euro will charge the entire US dollar. outside the euro area. I hope the euro will become the currency of international trade for 10 years. will exceed the dollar in 2015.

15/06 November - Volcker says investors will ease on dollar holdings: From Bloomberg: "Robert E. Rubin ... and former Federal Reserve System System chairman Paul Volcker said foreign investors won't hold dollar holdings" Will increase ... Volcker US lending requirements said to boost the danger of a 'crisis' within the dollar as soon as possible two and a half years later.' It seems to continue indefinitely. Maybe, "Rubin said .

In addition to the above, we recently had Australian Treasurer Peter Costello turn East Asia's central bankers to "telegraph" their intentions to diversify out of american investments and ensure an orderly adjustment. Mr. Costello said "the strategy had changed" and Chinese central bankers were now trying to hunt out alternative investments.  

 I feel we should always always always always begin preparing ourselves for it."

The results of all of this is often often often often that Ben Bernanke is another time finding himself straddling the teeter-totter, trying to remain the dollar because the world currency, but how does he do it? More and more foreign governments are declaring their intention of moving away from the dollar. The dollar is weak both fundamentally and technically with these increasing involves "an orderly adjustment" by the central banks of the planet , and a slowing US economy that's within the center of a housing decline.

To save the dollar, Bernanke would like to spice up rates. With the housing slowdown fully gear, a way better rate of interest would accelerate the housing problems, resulting in reduced consumer spending, killing any chance of avoiding a recession. the other option is to lower rates which may 

cause the dollar to mention no further and faster, which could accelerate the foreign investors and central banks' plans to diversify out of the dollar.

If the dollar does crash, the US interest rates would want to rise because the market will demand higher rates for those willing to buy for for or hold dollars. But how can Bernanke raise rates with billions of dollars in adjustable-rate home mortgages within the tactic of resetting? He has hinted he just might do that . the rationale - the Fed may have to form a choice that a recession, within the very best of the day , would be better than a dollar collapse. they'll simply decide that the dollar's "integrity" 

and world reserve status must be maintained within the littlest amount costs.

To date Swiss , the Russians, the Italians, the Japanese , the Chinese, and thus the United Arab Emirates have all announced that they were reducing their dollar holdings. China has about $700 billion in US dollars because the bulk of their foreign currency reserves. As noted by Fan Gang of 

National Economic Research Institute of China "The U.S." dollar is supposed to be the anchor that stabilizes the worldwide currency market," he said "Instead it is a significant source of instability."

We don't know what's happening to happen here, but we are prepared for a falling dollar. As we watch the markets make the alternatives , we feel slightly easier holding our gold and silver.

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