Friday, August 21, 2009
I've posted on this subject before, and it remains a very important issue. Since last March, the dollar has weakened considerably and equities have enjoyed a powerful rally. (Note that the red line, the dollar, has an inverted scale, so a rising red line means a weaker dollar.) It's also the case that growth in M2 has been flat since March, growth in dollar currency has slowed considerably, and commodity prices have surged over this same period.
All of these developments are intertwined, and they tell a convincing story. The single thread that ties these things together is rising confidence. The world is regaining the confidence in the future that it had lost going into March. With rising confidence, the demand for money has declined. Since the Fed has boosted the available supply of dollars, but the demand for them has dropped, it is only logical that the price of the dollar should fall. With rising confidence, people are beginning to spend the dollars that they had been hoarding, and the economy is reviving. With an abundance of dollars in the world (and on the margin an increasingly excess supply of dollars), people are converting unwanted dollars into commodities and into stocks.
The Fed is getting what it has been trying to achieve. Cash that pays a zero yield only makes sense if you are terrified of all the alternatives to cash. Once you become less terrified of the future, your natural inclination is to shed cash, and/or borrow dollars, putting the money to work in gold, other currencies, commodities, houses (yes, this helps explain the surge in existing home sales that was reported today), gold, and equities.
We're talking tidal forces here that are shifting beneath the surface (a good analogy to come up with while sitting on the beach in Maui). They are very powerful, they move slowly, and they are almost impossible to stop.
And it doesn't hurt that Obama's plans for the future are being derailed. The expected future size of the government is much less today than it was back in March, and consequently expected tax burdens are much less. This adds to confidence; what is bad for Obama is good for the market.
Posted by Scott Grannis at 11:05 AM