As was expected, the congressional super-committee charged with the task of cutting $1.2 trillion from the national deficit over the next ten years has failed to make any progress towards an agreement. According to the legislation signed into law last summer during the debt ceiling debates, the failure of this super-committee to reach an agreement will trigger automatic cuts across both domestic and military budgets. The cuts, which will be both broad and deep, will be automatically set in motion fourteen months from now.
The core issue on which the parties cannot agree is that of new revenue. While Republicans have sworn to nix any plan including any sort of tax increase, Democrats are refusing cuts to social programs without increasing the tax burden on at least some Americans. In essence, this is a basic disagreement between the two sides as to the role government should play in the daily lives of citizens. Considering that even if the super-committee had come up with a compromise that did increase taxes, it was likely to have been voted down in the house by members who have pledged not to vote for any tax increase whatsoever.
Since the summer debt ceiling debacle, Washington has been rather quiet so far as international markets are concerned. The focus has shifted to Europe, where it remains at the moment. As a result, the dollar is enjoying increasing support as investors flee the fledgling Euro. For the moment, gold is caught in the middle and trading lower under pressure from the high flying-dollar.
That said, there is something seriously wrong with this picture. We’ve been hearing for years how the dollar is unstable and declining in value. We know the value of a currency is dependent on the strength of the issuing nation’s economy. It’s clear that the long term health of the dollar is questionable at best. It’s also clear that our nation’s economy has been heading in the wrong direction over the last several years. Why then is the dollar still so high? Perhaps we should look to some other markets that continued to go up despite weakening fundamentals.
Remember the dot com era? For a few years there, IPOs for Internet based businesses were racking in ridiculously high valuations for companies that essentially did not exist. Everyone and their brother were jumping into any dot com business that issued stock without any regard for the real stability of the company.
Remember the real estate bubble that lead to the 2008 crash? Remember when millions of Americans financed houses they could not afford, betting that real estate would continue to do what it had always done, and grow in value indefinitely? Was anyone looking at the fundamental malfunctions of the home finance industry? Was anyone stopping to ask the question of whether the sky high home prices were really sustainable? No.
What did both of these examples have in common? They both showed markets where investors were buying in with reckless disregard for market fundamentals and realities. They were both characterized by illogical exuberance and the common feeling that the party would never end. They both lead to disastrous corrections in which the bottoms fell out almost overnight. They were both bubbles, and they both burst.
As our economy has come to be defined by this boom and bust cycle over the last couple decades, analysts are constantly looking for the next bubble. Some have pointed to gold prices, which have continued to grow steadily for more than 10 years. The problem with labeling gold a bubble is that it is actually supported by strong fundamentals. With increasing investment demand and essentially flat global production, the supply and demand fundamentals alone point to higher gold prices. This is not to mention the fact that all the usual contributing factors for a positive gold environment are in place. With low interest rates, high debt levels, and inflationary monetary policy, there is much more than irrational exuberance supporting higher gold prices.
One market that the talking heads tend to skip over in their search for the next bubble may be the one that comes back to bite them: The US dollar.
Let’s step back a moment to October 2007. At that time, the subprime crisis was just beginning to unfold, and the main brunt of the global banking crisis was still many moths away. The US dollar index was trading at about 78.40. We point to this time, because again today, the US dollar index is at about 78.40. So to review, the value of our currency on the international market is today, exactly what it was before the global meltdown occurred. Does that make any sense?
Now we’ll take it a step further: In October 2007, the total outstanding US national debt was about $8 trillion. As the dollar is essentially credit issued by the US government, the amount of outstanding debt should be a major determining factor in its value. The problem is that our current outstanding debt has surpassed $15 trillion. That means that our nation’s debt has nearly doubled, and the value of the currency is essentially unchanged. That is not a sign of a healthy market.
The question is why is the dollar still so high? The answer is really quite simple: Because investors keep buying it despite the weakening fundamentals. As the European debt crisis is scaring investors away from stocks and the Euro, their money has flowed into US Treasury Bills like lemmings marching off a cliff. Sure the dollar is the best looking horse at the glue factory, and it is still the world’s reserve currency. That however, is essentially the same as saying a market is going to continue to go up, just because it has gone up in the past. That’s the mentality that led to the dot com bubble, the real estate bubble, and just about every other bubble in the history of financial markets.
The difference with this bubble is its sheer size. When the dollar bubble bursts there will be no bailout packages, late night meetings or swift action from the Fed. The market is just too big. One of these days investors will wake up and realize that despite the development of the worst financial crisis in nearly a century, the world’s chief currency has not gone down in value. That makes absolutely no sense. That is the definition of a bubble. The US dollar, right now at this moment, is probably the greatest bubble in the history of markets.
Mike Getlin is Executive Vice President of Merit Financial, home to America's fastest growing physical gold IRA company. Please send comments or questions to email@example.com.