Debt, Shutdowns & the Dollar

Washington shutdown fears are sinking the U.S. dollar, according to some news reports. Surely there’s something to this, as investor confusion rises and confidence falls, and as Washington seems to be gridlocked over a few billion dollars.

Frankly, the GOP could easily declare victory and accept a $35 billion to $40 billion spending cut for the final strokes of the 2011 continuing resolution. This kind of deal would move the domestic discretionary baseline back towards 2008. No mean feat.

Over ten years, estimates range above $400 billion in real cuts in the level of those domestic programs. Considering where the process started — with the failure of the Democrats to propose a budget, and then the early Democratic response of only $5 billion in CR budget cuts — the GOP has come a long way in the absolute right direction.

So from here the GOP could move from billions in CR cuts to trillions in cuts in the Paul Ryan budget.

Yet however this works out, the principal cause of the declining dollar is not a threatened government shutdown and the debt worries behind it. It’s the excess money creation of the Fed, which is falling further and further behind the international curve of currency stability.

While Bernanke & Co. have increased the adjusted monetary base by about $500 billion since late December, other central banks have been tightening policy in order to stabilize their currencies and fight inflation. The ECB went for a quarter-point hike this week. And the euro is trading strong at 1.44 to the dollar.

Over the past year or so, Canada and Australia have raised rates several times. Their currencies are soaring. China and other Asian countries also have been gradually tightening policy. In all these cases, foreign central banks are rejecting the over-supply of dollars coming their way.

So, by the way, are Middle East oil producers, according to CNBC reporting. As U.S. crude-oil prices have shot up 30 percent since mid-February, the Saudis and others have been selling much of the dollar proceeds from the high-priced oil sales.

It just seems like nobody wants dollars. That’s because there’s too many of them. And a lot of the excess dollar flow is finding its way into commodities — including oil, but most especially gold and silver, which are traditional monetary substitutes. Right now gold is cruising towards $1,500 an ounce. Silver has passed $40. Crude oil is over $112, and European crude is back to $126.

In a recent survey by Reuters, one-in-five traders said they expect Brent oil to hit $150 this year. Gasoline prices in the states continue to surge, with the AAA national average retail price moving to $3.74. In almost ten states, the gallon price is hovering around $4.

Nobody knows where the energy tipping point is for the economy and stocks. And by and large, the market has held up rather well. But these spiking prices are surely a threat.

There’s no question that the potential U.S. debt bomb from overspending is a backdrop fear for investors. Long-run, that bomb could be just as much a dollar destroyer as the over-easy Fed. And perhaps the debt bomb and cheap money are ultimately two sides of the same coin.

But right now another $35 billion in spending cuts that eventually will come out of the shutdown debate is at least a small part of the solution. The problem remains a stubborn Fed, with its head in the sand, and with its failure to see world monetary and commodity threats closing in all around it.