Tuesday, May 02, 2006


'Competitive Devaluation' Coming: Gross

Reuters has this report on Bill Gross' recent comments. "U.S. policymakers will ultimately favor a weaker dollar to help industry compete abroad and overcome problems symbolized by General Motors' current struggles, the world's biggest bond fund said on Tuesday. 'General Motors is a canary in this country's economic coal mine,' wrote PIMCO's managing director Bill Gross in his monthly Investment Outlook for May."

"'As General Motors goes, so goes the nation,' Gross wrote. The United States economy and the car maker both face 'uncompetitiveness of their existing labor cost structures and the onerous burden of their future healthcare and pension liabilities.'"

"GM lost $10.6 billion in 2005 as it grappled with sliding market share, high labor and commodity costs and the prospect of a strike at its key parts supplier Delphi Corp. Analysts have said a strike at bankrupt Delphi could force GM to quickly burn through billions of dollars, pushing it near or into bankruptcy."

"Over the long term, Gross wrote that he expected a shift in the policies of the U.S. Treasury and Federal Reserve. 'Look for an eventual abandonment of our stated mantra of a 'strong dollar policy,' he wrote. 'Look also for the Fed to support such a policy..via a substantive period of low real interest rates compared to history,' he wrote."

"'This one-two punch by the Treasury and the Federal Reserve amounts to what is known in economic circles as a competitive devaluation,' Gross wrote."

'Look also for the Fed to support such a policy..via a substantive period of low real interest rates compared to history,' he wrote.'

Gross is a smart guy, but he and Stephen Roach both called for rates to fall further back when the 10 year was under 4%. If this scenario worked out, it would look like Japan. But they are savers and the US isn't. People don't lend money at low rates to currency risks. Sad what's going on at GM.
He's right on the money.

But the rationale for devaluing the currency (inflation) is far broader than that.

In a nutshell: Inflation favors debtors.

That is: If you owe a fixed sum of money, it sure is easier to pay it back with cheaper dollars. Inflation is the answer to the Social Security crisis, corporate America's pension obligations (and the PBGC crisis, which still barely gets any press) and most importantly: our insurmountable national debt.

Reducing the value of the dollar is the answer to a whole lot of problems. It favors the rich, because investments in real goods go through the roof, and it screws the little guy who watches in horror as the price of everything goes up.

Oh, and it also does wonders for the housing bubble.

Inflation is going to be out of control. Gold, silver, copper, uranium, corn, sugar, coffee, etc. are all going to go ... bananas.

If only it were that easy.

Ben has it right. Deflating dollars, and all financial instruments denominated in same, will be dumped wholesale. No matter what the Fed & Treasury do, interest rates will skyrocket just to compensate for the inflation risk.

Furthermore, the "global labor arbitrage" will keep wages from rising with inflation, thereby forcing John Q. Public to spend less on his abode (among other things).

Damned if they do, damned if they don't.
A what point do US treasuries become attractive to domestic or dollar zone investors?
I remember marc faber saying the dollar would weaken, but no country wanted to have a strong currency so the currencies of the world would depreciate against a basket of commodities.
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