Chinese Curse Bewitches the Dollar

Be careful what you wish for; it may come true - Chinese curse

China made a bold currency move Wednesday, and it barely registered in the West: it is encouraging the Yuan to be a reserve currency, to be used to settle transactions in and out of China, instead of the Dollar. For all those pundits and politicians pressuring China to float their currency, they just got their wish. 

This marks a shift from an export-driven mercantilist economy, to a consumer-led capitalist economy. The internal pressures from mercantilism eventually create their own contradictions:

• inflation from laundering the currency conversions
• unrest by people who wish to cash in and enjoy the good life
• lost wealth from capital trapped in forced savings that act as a sinkhole of productive investment
• lost profits from excessive competition & multiple me-to factories

The curse is that it removes one of the largest borrowers of Dollars, and reduces demand for Dollars for international settlement. This has led the WSJ opine that the Dollar's role as the one reserve currency is coming to an end:

1. Technology is undermining the scale and depth of Dollar trading by allowing rapid cross-cirrency comparisons without translating in Dollar terms
2. Rivals of enough scale are emerging, especially the Euro and the Yuan
3. US fiscal policy (such as QE and huge deficits) are undermining confidence in the Dollar as a safe haven that is a stable store of value 

Asked rhetorically, can the Fed continue infinite QE (indefinite Dollar debasement) as the foundations for Dollar strength (oil trade, international settlement, safe haven) crumble?

The Fed has become the biggest buyer of Treasuries, which has worried Bill Gross to ask the question: who buys Treasuries when the Fed exits?

His answer: Treasury rates will have to go higher to attract investors. This could scuttle an incipient recovery, especially with higher oil prices. It would, however, be good for the Dollar - but it is months off until QE2 ends, and expectations of QE3 are increasing as fast as GDP fades. 

The Dollar, then, remains on edge. It has traded below the trendline of support that has held for the past three years. The longer down below, the more likely it begins to lose support and possibly crash. 

When measured in the Dollar Index, as shown in the chart (with the key trendline), the so-called crash would like more like slip-sliding away; but when measured against metals or commodities, it would look like gold and silver shooting north & commodities heading up parabolically - which is how they have begun to look recently. You can scan the blogosphere and pick up all sorts of predictions on silver ($130!) for example. It is pretty clear that Dollar weakness since last summer has led to commodities strength (Dollar in green, using the UUP instead of the DX; commodities in blue):

Another leading indicator of a Dollar collapse would come from the commodity currencies - the CAD, AUD and NZD, which indeed have been showing recent strength. You can scan the blogosphere and pick up all sorts of predictions on the CAD (Fifteen reasons to love the Loonie!) as well as the AUD. 

A further (but in this case misleading) indicator is oil, which is undergoing a dramatic spike - up 15% in five days. Such a spike is rare and almost always fades back quickly (the one recent exception being the invasion of Kuwait in 1990, which led to the first Gulf War). Such an event-driven spike gives little guidance on the direction of the Dollar since it is likely to be temporary; indeed it may be the primary explanation of why the Dollar Index has fallen below the support trendline and stayed below. When the immediate Libyan crisis abates, oil should fall, and the Dollar recover. 

Bullishness on the Buck is below 10%, according to the STU. This is what happens around a Dollar low, so they wait for it to bounce, but add that the wave structure is unsettling. The bounce that began at the QE2 announcement has now faded more than 78.6% off its peak in November, and the wave structure is ambiguous. Normally a fade beyond 78.6% means it is going beyond 100%, but they expect the opposite. Again, the explanation for the ambiguity may be the temporary oil spike. 

In the longer term, the Chinese move should be good both for China and the broader world, as China rebalances toward a more Western-style economy, which will come with opening it up more for imports. The move will put pressure on the US to get its economic house in order, also a good thing in the long term. Also, the multiplicity of reserve currencies may smooth a transition to a different form of reserve currency, one not tied to any domestic set of policies, what Keynes called the Bancor. This frees the reserve currency from the tyranny of domestic policies, and lets all currencies float against a standard. 

In the near-term, with turmoil in the oil-bearing countries and a painful adjustment domestically to get off the drug of stimulus and back into a sound economic foundation, the US may have to live through the other Chinese curse: "interesting times."

Comments

[Mamma Boom Boom]

Sam Zell: End of Dollar as Reserve ‘Disastrous’

Billionaire real-estate magnate Sam Zell warns that Americans should brace for a "disastrous" 25 percent decline in the standard of living if the U.S. dollar’s reign as the global reserve currency ever ends.

"Frankly, I think we’re at a tipping point. What’s my biggest single financial concern is the loss of the dollar as the reserve currency, I can’t imagine anything being more disastrous to our country than if the dollar lost its reserve-currency status.”

If that happens, the impact on the United States would be deep. “I think you could see a 25 percent reduction in the standard of living in this country if the U.S. dollar was no longer the world’s reserve currency,” Zell said “That’s how valuable it is.”

[Best Method to Date? Fade Prechter.]

Mamma, chill out. The dollar is fine. Gas is a bit more expensive and suddenly the sky is falling? Don't worry, be happy. You'll be richer, too. You've had a lot of gloomy posts which tell me you haven't made money during this awesome bull move.

Stick to the basics. Get a job and do it well. Fade Prechter. Find someone to love.

Life is short, keep it simple.

[tk]

Yelnick

I always enjoy reading your posts. They are well thought out and interesting. That said, I still can't understand why you refer to the STU. Those guys have been wrong so much more than they are right. they have been sooo wrong on gold, the SnP, the dollar that it just kills me that you still give any credence to what they say. Thanks for listening.

[Virgil]

Today's big move in the Euro puts it right up to the downsloping trendline running from Nov 09 thru Oct 10, along with some fib time resistance. If the Euro is thne new reserve currency it should blow thru this thing easily.

[Mamma Boom Boom]

Best Method to Date? Fade Prechter, .... that's the problem with nit-wits like you, you can't even interpret what you read. That's not my view, it's Sam Zell's view. Fool!

I just told Virgil, maybe one day ago, I expect the dollar to rally. Can't you read? Fool!

Neo-Mamma

[OracleLurker]

Yelnick - i like the timing of this - just as the Shanghai's wave 3 is beginning. Looks a little like the post '29 crash dow to me. The dow had an 80% drop, the shanghai 70%. Wave 1 for the dow was 122% in just 101 trading days, for the shanghai 87% in about 120 trading days. The dow followed with a wave 2 consolidation lasting 434 trading days from july of '33 to march of '35. The shanghai has been in what appears to be a wave 2 consolidation now since july of '09. The only problem is whether enough of wave 1 was retraced by july '10 to invalidate this whole scenario - it's somewhat questionable but that's what stops are for.

[MHD]

Well the market seems quite concerned about the dollar does it not? It just sucks to be a bear!

[Best Method to Date? Fade Prechter.]

Pleased forgive me for my foolish error.

Sam Zell, wherever you are, chill out!

Mamma if you are thinking of wagering, I urge you not to take positions Prechter and his folks advocate. In fact, do the opposite.

And to whoever is asking Yelnick to refrain from discussing Prechter's ideas, let me remind you that anti-Prechter has leaps and bounds the best track record I know. Better than Buffett, Peter Lynch, Sam Zell, candlesticks, fractals, Gann Cycles, sunspots, and any other person or technique their is.

Anti-Prechter is simply superb.

[yelnick]

Tk, re "I still can't understand why you refer to the STU" - sometimes I wonder too!

[Virgil]

The bounce that began at the QE2 announcement has now faded more than 78.6% off its peak in November, and the wave structure is ambiguous. Normally a fade beyond 78.6% means it is going beyond 100%

A very specific case when it doesn't is the Gartley bat pattern. It looks like an "M" with the second peak sagging lower. The middle valleys retrace no more than 50% and the pattern terminates at then end of the "M" when price retraces 88.6%.

[joe]

A really good post.

I surely wouldn't be concerned about the Yuan though.
China will implode - not a question of if but when.

Joe

[LDA]

There used to be a "plunge protection account" that used to step in from time to time. Do they still exist? Interesting bit on China but even they are not going to move on that any time soon are they?

The wave practitioners that follow gold must be seeing some interesting things today and perhaps they would be kind enough to comment?

Thanks
LDA

[Mamma Boom Boom]

I assume everyone used today's action to strengthen their short positions. Right?

Neo-Mamma

[Fade Precther and Win]

China will implode - not a question of if but when.

When do you think? Five thousand years from now? Five MILLION???

If it's five million I gotta say I think it's kind of worthless to predict that it's going to implode.

Also: Do you mean literally implode? Like the gravitational implosion of a large star?

[joe]

Fade -

It will economically and socially implode. Probably within two years. It cannot maintain the corruption much longer than that.

You know, China's economy is the 2nd largest in the world. 100 years ago it was still 2nd largest in the world. It may be the 2nd largest economy in the world a 100 years from now, too. 90+% of that population was dirt poor than and they are dirt poor now.

The inland proviences will revolt. It is a matter of time.

Joe

[joe]

Also - I believe the "magic number" is 7.5% GDP growth. When they cannot maintain that rate would be the point when most papers I have read on the matter would be the tipping point.

Joe

[Joe]

The Dollar index from the late dec 2010-jan 2011 high now has 5 overlapping waves
to the downside . wave 5 equals 1 at 76.24 and wave 5 equals .618 of waves 1-3 at 76.05 . time wise there is a 21 trade day cycle which called for a low march 2nd ( failed ? ) and a 23 top to bottom to bottom to bottom on march 5th . since the waves are each 3 waves each and wave 4 overlapped wave 1 i would conclude that if the levels noted above hold over the next 2 trading days then we should see a large rally back above 81.44 .
weather this pans out or not remains to be seen .
good luck

[Dsquare]

The wave practitioners that follow gold must be seeing some interesting things today and perhaps they would be kind enough to comment?

I don't do Gold, but the HUI (gold stocks). Been short a couple of days (at 575). Possible wave-e and B finished. Not much of a start down today though but we'll see.
Neely had gold in a g wave last time he posted on Traders Talk.

http://www.mexicomike.ca/php/phpBB2/viewtopic.php?t=13597

[Dsquare]

Neely on gold (January post). Actually I assume he has it in wave-g as looks like f finished some time ago higher than he expected (atypical diametric?). Link: http://www.traders-talk.com/mb2/index.php?act=attach&type=post&id=18135

[Dsquare]

This chart BGMI(Barrons gold mining index)/SPX supports my HUI count (in E of 4) as the ratio is still just above 1.
http://img535.imageshack.us/img535/6142/bgmiaug2bgmivsspx.jpg

[Wave Rust]

I said a few months ago that DX goes to 73. I still think it gets there and, as soon as June.

Lots of support at 74ish though.

wave rust

Was today's rally a 2-day sucker, or something else?

anybody want to short crude yet? watch nattygas!

[MHD]

Virgil.... should I look for the Gartley bat pattern in the sky????

[Mamma Boom Boom]

More evidence that the world we live in is similar to the aftermath of the South Sea Bubble:

---------Unemployment---------

BLS - 8.9%

Gallup - 10.3%

Neo-Mamma

[Wave Rust]

spx 1362 is probably a high if this crappy correction is minute 4 thing, from the Nov low.

waffle around into next week then

wave rust

[ed]

China can posture all they want about the Yuan being the new "reserve currency", but fat chance.... USD market large and deep, really not any replacement, politically stable and stable law ( Obama aside) Anyone who thinks world trade will be priced in Yuan is smoking crack, Chinese are the most corrupt in the world, bogus accounting, bogus economy, bogus political system and NO navy. The dollar is under pressure because its become the new carry currency akin to Japan in the 90's...An orderly decline in the dollar is actually very positive to US trade, current account deficit and frankly really messes with economies pegged to the dollar. China is a house of cards.

[Mamma Boom Boom]

>spx 1362 is probably a high<

NO WAY

[yelnick]

Ed, your points on the Yuan are all well made. It appears however that we are going to a multipl-reserve-currency world, which might be the worst of all possibilities. 

[Vipasyana]

Duh! Winning! Says Ben B. Thanks for great work/efforts, Yelnick.