Gyroscopic Investing

Note how as fear creeps into the market, it is the dollar that capital flows into.

This is exactly the way Harry Browne described it. 

The dollar is the #1 currency in the world and gold is #2.

Same story unfolded in 2008. 

As much as U.S. politicians and central bankers would like to devalue the dollar, it's harder to do than it looks.

Compared to other currencies, the dollar is higher now than it was in early 2008.  Obviously, gold has outperformed the dollar (as well as every other currency in the world) in recent years, but the people who think the dollar is done should pay attention on days like today.

I am just going to play the devil's advocate and ask how much longer do you think that will be the case? Currently there is no alternative to the dollar, but certainly its status as the global reserve currency has been under pressure.

http://www.bloomberg.com/news/2011-08-0 ... -says.html

In the short term, a lot of the current strength relates to horrible Euro problems. In the longer term, I can't see how the dollar retains its dominance when the world seems to be actively looking for other options...

Is there really any cause for concern if the Dollar loses its reserve currency status? Here is Larry Swedroe's response:

You may be wondering how China’s talk of replacing the dollar as the world’s dominant reserve currency will affect your investments. Like most news items, the effect of such a move is unknown, so the best we can do is look at the historical evidence as a guide. And the evidence shows us that the best thing to do about this situation is nothing.

We can look at history, because we actually have a case where the world’s reserve currency lost its status. Prior to the dollar taking that role, the British pound was the world’s reserve currency, a status it lost shortly after World War II. Not only that, but Britain’s industrial capacity was devastated because of the war. So how have British stocks performed? We have data on the FTSE All-Share Index going back to 1955. Given these conditions you’d think that U.K. stocks would have done very poorly relative to U.S. stocks. And you’d be dead wrong. From February 1955 through March 2009 the FTSE All-Shares Index returned 11.5 percent, outperforming the S&P 500 Index, which returned 9.4 percent.

Yes, it’s possible that the Chinese could abandon the dollar. And one concern you’ll hear is that a falling dollar will lead to high inflation. While that’s possible, it’s certainly not inevitable. Consider that the dollar experienced a dramatic drop from under $0.90 against the Euro to $1.60 (before rallying to around $1.35). Yet, during that period, when the dollar fell by about 80 percent against the Euro, the U.S. experienced very little inflation.

One reason is that trade is a very low percentage of our GDP. Clearly, a falling dollar does not mean that high inflation is inevitable. And a falling dollar can also have some positive effects, such as narrowing the trade deficit by making U.S. imports more expensive and exports cheaper. It’s nearly impossible for anyone to net out those potential effects with any precision.

Source: Dollar’s Reserve Currency Status Shouldn’t Cause Investment Concerns

doodle wrote: I am just going to play the devil's advocate and ask how much longer do you think that will be the case? Currently there is no alternative to the dollar, but certainly its status as the global reserve currency has been under pressure.

http://www.bloomberg.com/news/2011-08-0 ... -says.html

In the short term, a lot of the current strength relates to horrible Euro problems. In the longer term, I can't see how the dollar retains its dominance when the world seems to be actively looking for other options...

As soon as the world finds something better than the dollar I'm sure they will pile into it and out of the dollar.

The question is, what is that something better going to be?

Will it be the euro?  I seriously doubt it.  I doubt the euro will even exist in 10 years.

Will it be the currency of Canada/Australia/Switzerland/pick your favorite stable country?  Piling into any of these currencies would seriously disrupt these economies as their currency would begin to appreciate uncontrollably as the whole world tried to pile into a relatively small currency market.

Will it be the British pound?  I doubt it.

How about a Chinese currency?  You mean the one that is manipulated to keep it weak to benefit exporters to the rest of the world?  The rest of the world piling into that currency is the last thing China would want.

How about the Japanese yen?  Their problems are about 2x worse than ours.

How about the currency of Brazil/India/Russia?  These countries don't have much of a track record when it comes to controlling inflation.

How about a basket of currencies?  Who decides how the basket is allocated?  Doesn't this start to look like fixed international exchange rates?  No country is going to want to go along with that.

My point is not that the U.S. dollar is perfect, or even close, it just happens to be less bad than anything else.  This, I think, was the point Harry Browne was making.

I think that the eventual failure of the euro will make the world re-think the wisdom of any kind of inflexible cross border currency pegs, since such pegs eventually begin to usurp the power of domestic political authorities in countries like Greece, Portugal and Italy, and make failure of these weaker economies virtually certain. 

I also think that a formal gold standard is unlikely to return any time soon, simply because it would require politicians and central bankers to give up power that these people normally don't give up voluntarily.  There will, of course, continue to be an informal gold standard, just as there has been since 1971.

Didn't see this before... great post MT.

For a dollar to be abandoned, we at least have to consider the mechanics of how a replacement is generated and what that means for demand for our goods and bonds and labor, as well as what another country might think about letting a massive deflation occur as the whole world tries to acquire their currency.