Central Bank Intervention a Growing Possibility

With the U.S. dollar falling hard over the last six weeks and the price of gold up $180 an ounce since September 18, the odds of concerted central bank intervention to put a floor on the dollar is a growing possibility this month. The American dollar has declined almost 10% against the euro in 2007 and more than 20% versus the Canadian dollar. And gold prices have rocketed 33% this year -- just shy of their all-time high in January 1980.

The dollar's decline has gone from orderly to outright disorderly over the last several days and needs to be addressed by central banks now to thwart a serious sell-off in world markets. Central bank intervention rarely halts a currency's decline, but it does serve a powerful psychological purpose to stem speculators' bets against the primary trend, at least temporarily. It also gives a clear message to investors and speculators alike: global governments can no longer tolerate a currency trading at this level.

As for the United States, public rhetoric for a "strong dollar" policy is now a joke at this point. It's obvious to investors that the government desires a low dollar, despite utterances to the contrary.

The U.S. dollar has continued to decline versus most currencies in the world this year and is now the most undervalued major currency in the world along with the Japanese yen. In my eyes, the dollar is dirt-cheap and unlike its initial blow-out five years ago, this current leg of the decline is fundamentally wrong. The trade deficit is shrinking, the budget deficit is less than Germany's and the savings rate is grudgingly rising. These are not the conditions for an extended bear market.

It might be hard to believe, but 12 months from now, I think the U.S. dollar will trade higher, not lower, against the euro and most other major currencies even as U.S. interest rates decline. That's because the economy will bounce back on the heels of low rates, high global liquidity and strength in the non-financial economy. Also, the Bank of England, European Central Bank and The Bank of Canada will finally start cutting lending rates by mid-2008, or sooner, depressing the values of their currencies.

Dollar bears in 2008? Not me.

Note: I'll be speaking tomorrow at our Sovereign Society Offshore Advantage Academy combined with day-long consultations with members. My next post will be on Monday, November 12. Have a great weekend.