There's the Rub

Posted January 27, 2009

The yen weakened against the US dollar and the euro on equity market increases. The US Congress and new President are already battling over what form of additional government spending will stimulate the economy.


Former US President Ronald Reagan once said, “Government does not solve problems; it subsidizes them.”  Today’s economic crisis has proved him to be a wise sage because the answer to all of the problems right now seems to be the manufacturing of more money.  Countries like the US and the UK (and most others around the world) have already injected billions worth of currency into their respective financial systems to keep them propped up, and yet the banking industry remains unstable. 

In the US, President Obama has proposed an $825 billion stimulus package on top of spending the last half of the TARP funds which amounts to another $350 billion.  The money will be used in a variety of ways including subsidizing banks, investment firms, insurance companies, construction projects for infrastructure improvements, mortgage companies and so on.  The Obama proposal also includes $190 billion in new entitlements to US residents.  There are also plenty of tax cuts proposed too.

In the words of Shakespeare…ay…there’s the rub...

Once you create entitlements they become baseline additions to the annual budget and take on an eternal life.  It is for this reason there is opposition in the US Congress forming to the stimulus package Obama has presented.  Some lawmakers want the entitlement sections removed or rewritten.  Other countries such as the UK, China, Australia, Mexico and others are closely watching this debate as they try to decide what they can do in their own countries to stop the continuing slide into deeper recessions.

This volatility is making it very difficult for investors to know what markets to put their money into.  Yesterday, the equity markets went up and down and up and down.  The Dow Jones Industrial Average finally closed at a mere 38.47 points up at 8,116.03.  The NEKKEI rose 5.64% to 8,115.15 which represents a 433.01 point increase.  Even the FTSE 100 rose by 156.54 to 4,209.01.

Of course, when equity markets rise, the currency rates will weaken.  The Yen fell against the US dollar to 89.50 yen per dollar.  It also fell to 118.46 yen per euro.  The yen has been one of the strongest currencies recently as a safe haven investment, but stock gains lured investor money into the equity markets yesterday. 

The news the UK will be investing further bailout money into the UK banking and financial markets has been absorbed by investors at this point.  As a result, the British pound strengthened against the US dollar to $1.4059 dollar per pound.  The euro strengthened also to $1.3236 against the US dollar.

One of the reasons investors have been relying on the Japanese yen as a safe haven investment is because Japan can fund its own debt.  It does not need to rely on investors from overseas, such as the US reliance on Chinese investments in US securities to fund the rising debt. 

This leads right back to the question of whether all this money printing is really a good idea.  The currency markets right now are being described as calm which gives investors a temporary breather.  There are sure to be days of more volatility because there is still plenty of bad news to be released.  For example, Germany is expected to report that business confidence is still waning which will probably lead to a weakening of the euro once again.

This has been a real test of money supply and investment principles. The economic crisis has not only cause currency and equity market volatility; it has led to actual collapse of a government.  In Iceland, the banking system failure has led to the toppling of the current government.  As of yesterday, the Iceland kronur was at $.0083 against the US dollar.

The sterling is down…no it’s up…no it’s down.  The US dollar is up…no it’s down…no it’s up.  That seems to be the way it has gone lately, so enjoy the breather while it lasts.