by Ivan Martchev

July 7, 2021

To paraphrase Mark Twain, the stories of the U.S. dollar’s demise have been greatly exaggerated. It is acting well, and it is not at all that weak, based on the Broad Trade-Weighted Index available from the St. Louis Fed website, as profiled in the chart below. That index is defined as “a weighted average of the foreign exchange value of the U.S. dollar against the currencies of a broad group of major U.S. trading partners. Broad currency index includes the Euro Area, Canada, Japan, Mexico, China, United Kingdom, Taiwan, Korea, Singapore, Hong Kong, Malaysia, Brazil, Switzerland, Thailand, Philippines, Australia, Indonesia, India, Israel, Saudi Arabia, Russia, Sweden, Argentina, Venezuela, Chile, and Colombia.”

By comparison, the old U.S. Dollar Index (DXY) is not trade-weighted and it only includes six other currencies, heavily dominated (57%) by the euro. Therefore, it does not include a great many of the trading partners listed above, which results in a dramatic difference of how DXY looks versus the broad trade-weighted index. The latter is clearly a better representation of the exchange value of the U.S. dollar. FRED Chart

Graphs are for illustrative and discussion purposes only. Please read important disclosures at the end of this commentary.

Why is the dollar rising? Could it be feeling the coming of some early Fed tapering? Or could it be that Japan and eurozone QE is actually keeping U.S. yields low and thereby putting a bid under the dollar?

It would appear that the U.S. Treasury market is supported by Japanese and eurozone money, as there is simply no yield available in either German bunds or Japanese Government Bonds (JGBs), which makes the 120 basis-point (bp) positive Treasury 2-10 spread a mouthwatering opportunity to a European or Japanese financial institution. It is not about the fact that U.S. yields are negative after inflation, which is running at 5% year over year. It is about the fact that Japanese or European financial firms can borrow near zero and buy Treasuries and realize a positive carry trade, even on a currency-hedged basis.

Another reason why the dollar may be firming could be the dramatic decline in the growth rate of M2 money supply, which at last count is running at 13.8%. In February it was growing at 27.1%. FRED Chart1

Graphs are for illustrative and discussion purposes only. Please read important disclosures at the end of this commentary.

This is not the banking system tightening credit growth but rather federal guaranteed lending programs ending, which is why there is a decline in M2 growth. This crisis required that type of aggressive control over the money supply with U.S. Treasury guarantees in coordination with the Fed (such coordination is a part of Modern Monetary Theory), but I think that such powers should only be used in crises and that the wrong person at the Fed could someday blow up the system with such moves. Jerome Powell is a good Fed chairman. He tackled the COVID crisis on par with his crisis-tested predecessor, Ben Bernanke.

Typically, money supply measures like M0 (the narrowest measure, called monetary base, which is cash in circulation and excess reserves), M1, M2, and M3 (no longer reported) are broader subsets of each other. M1 is part of M2 plus other monetary metrics and M2 is part of M3 plus other metrics. M0 is different. It excludes excess reserves from any other money supply calculation (or the electronic dollars the Fed prints as it grows its balance sheet). The Fed balance sheet provides electronic dollars for financial institutions only, not ordinary people, which makes M0 a very different type of money supply. In that regard, its immediate impact is on the prices of stocks and bonds, not on goods and services. US Money Supply Chart

Graphs are for illustrative and discussion purposes only. Please read important disclosures at the end of this commentary.

The Fed has direct control over the monetary base, or M0, while the banking system at large affects the growth of M1, M2, and M3. But since it was loan guarantees that caused the growth in the broad measures of money supply, between the Fed and the Treasury Department they pretty much control the whole monetary shebang in times of crisis by exerting control on all forms of money supply.

We’ll find out pretty soon how “transitory” this inflation problem will be. It all comes down to time frames. All inflation is transitory by definition; it matters only how one defines the transitional period.

Xi Jinping Channels Mao Zedong

If anyone doubted that Chinese President Xi Jinping is a hardliner, those doubts were put to rest last week as he delivered a long, strong speech at the 100th anniversary of the Chinese Communist Party (CCP).

He even dressed in a Mao jacket to look like Mao Zedong, the legendary CCP founder. Chinese President Xi

Mao Zedong Photo

What worries me is that in the wake of this COVID mess (and China’s previous crackdown in Hong Kong), China may finally make a move on Taiwan, which it views as a renegade province since 1949, when Chiang Kai-shek withdrew there after losing the Chinese civil war. After all, the world stood by as China reneged on its promise not to mess with Hong Kong’s political system until the year 2049 – or 50 years after it was returned to mainland control. What will the world do if China moves in on Taiwan?

I think there is a plan on how to take Taiwan by force – a plan that the Chinese have been working on for a long time and updating as their new military capabilities emerge, but when it comes to taking over former provinces and breakaway territories nothing beats the Russian retaking of Crimea in 2014, which came without firing a single shot, as they had many military bases stationed there already.

I would make a high probability bet that the Russians were waiting for the opportune time for many years, if not decades, and the revolt against the Ukrainian government following the winter Olympics in early 2014 marked the perfect opportunity. What will the trigger be for the Chinese move against Taiwan? I think such a move is coming sooner rather than later as Xi Jinping is “President for life” and he has stated on many occasions that he intends to “fix” the Taiwanese problem while he holds the reins of power.

All content above represents the opinion of Ivan Martchev of Navellier & Associates, Inc.

Please see important disclosures below.

Also In This Issue

A Look Ahead by Louis Navellier
How Much Will 2nd Quarter GDP Grow?

Income Mail by Bryan Perry
What The Bond Market Is Saying About Inflation

Growth Mail by Gary Alexander
Is The Market Getting Ahead of Itself?

Global Mail by Ivan Martchev
The Dollar Looks Like It Wants to Run

Sector Spotlight by Jason Bodner
In This Age of Feelings, Facts are Still Safer!

View Full Archive
Read Past Issues Here

About The Author

Ivan Martchev

Ivan Martchev is an investment strategist with Navellier.  Previously, Ivan served as editorial director at InvestorPlace Media. Ivan was editor of Louis Rukeyser’s Mutual Funds and associate editor of Personal Finance. Ivan is also co-author of The Silk Road to Riches (Financial Times Press). The book provided analysis of geopolitical issues and investment strategy in natural resources and emerging markets with an emphasis on Asia. The book also correctly predicted the collapse in the U.S. real estate market, the rise of precious metals, and the resulting increased investor interest in emerging markets. Ivan’s commentaries have been published by MSNBC, The Motley Fool, MarketWatch, and others. All content of “Global Mail” represents the opinion of Ivan Martchev

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