Many of us are dumbfounded at the willingness of people to gamble at casinos. The odds are clearly in favour of the house, yet crowds flock to these establishments all over the world. They are adult playgrounds, where gamblers seem to suspend reality and take a frivolous attitude to the size of their wallets. This approach ‘wastes’ billions of dollars annually in the name of ‘fun’. The ‘house’ has a clear advantage.
While the foreign exchange market is not a casino, the outcome of the game is still arguably dictated by the biggest player – and holder of the world’s reserve currency - America. The US is the ‘house’ of the foreign exchange casino and the Federal Reserve is its dealer. In the long-term, the house will always win.
Changing economic conditions bring new challenges in spending, domestic production and exports. Every economy relies on some or all of these measures but the easiest way to stimulate an economy is via currency manipulation. The US, as the ‘house’ and ‘dealer’, can manipulate currency to substantially affect performance. At the time of writing (8am AEST, Friday 22 February), the Australian Dollar has fallen on news that the Fed may wind back rates sooner than expected. Reactions like this remind us who is really in control. It’s not by chance that the Aussie dollar has soared to dizzying heights. In 2009, when the dollar was hovering around 0.63 US cents, parity seemed laughable. That parity subsequently came to pass was not the result of Australian government action or a soaring export market. In fact, it was well and truly beyond our nation’s control. The increase in the Aussie dollar and other currencies came as a direct result of America devaluing their dollar to make their exports more attractive.
As the Global Financial Crisis began to squeeze the US economy, housing, stocks and manufacturing crashed at an alarming rate. Capital outflows were in the billions and the world’s super power had to do something to spur demand and hopefully stem skyrocketing unemployment and lacklustre economic production.
The Federal Reserve started printing more US dollars and, much like chips in a casino, couldn’t get enough onto the floor. As the currency flooded international markets, the greenback became about as popular as a Prius at a V8 Supercar race. Declining prices made US exports more attractive and the increased demand benefited employment, housing and the stock market - the Dow Jones Industrial Average has outperformed the markets of other developed nations, including Australia. This carefully executed plan of growth-driven demand will draw out the recovery process and de-value the dollar for years or even decades to come. But make no mistake; the ‘house’ had control of the game throughout.
How do we know that the US dollar will again rise above parity? Because it has to. The master plan of this chess-like currency war is a battle between major economies for control of the global economy. As the holder of the base currency, the US has the advantage.
Brazil experienced tremendous economic growth and development until the currency wars, sparked by the US printing. Millionaires were being made every day and the middle-class was growing fast but it all came to a screeching halt when the US devaluation drove up the value of the Real (BRL). A similar situation has occurred in Australia where exports such as tourism and agriculture continue to flounder in the face of an uncharacteristically high Aussie dollar. Thankfully we are being propped up by a buoyant mining sector. The devaluation of the US dollar has had consequences for most developed nations (with the exception of Europe, which has been the architect of its own economic demise.)
America is finally enjoying the fruits of its long-drawn-out stimulus and currency devaluation. The economy is beginning to make strides, unemployment is falling and company earnings are hitting new highs. It may be years before the dealer (the Fed) drives the dollar back toward previous levels and re-establishes the greenback as a source of strength and a platform for a more powerful domestic economy. Certainly they won’t consider this until the US economy is clearly back on track and interest rates are being pushed higher and reflecting renewed domestic momentum. In the meantime, stocks, housing and exports will continue to benefit from the unique competitive advantage of being able to dictate global currency values.
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Don’t bet against the house. Instead, take advantage of the opportunities presented by playing on the same team.
Always Looking Forward,