This is the fifth post in a series entitled Currency, Money and the Economy.
When President Nixon took the dollar off the gold standard in 1971, he effectively made every single currency in the world a fiat currency. The price of the US dollar and every other currency in the world is backed only by the faith and credit of each nation. The price of each one of these currencies can be measured relative to one another through foreign exchange rates and can be traded on the foreign exchange markets, also known as FOREX. In theory, based on the amount of currency each nation has printed, the exchange rate between two countries is set by the supply and demand for each currency on the FOREX market.
When you travel overseas and need to exchange US dollars for Euros, you are actively participating in setting the foreign exchange rate. When one country has accumulated currency of another country, under the rules of international trade, they are required to trade back the other country’s currency for their own currency so they can reinsert it back into their own economy. However, in recent years, central banks in every country have developed methods to manipulate the price of their own currency to suit their economic needs.
Why would a nation want to manipulate its own currency? The reason is simple. The price stability of the goods and services of its country must be maintained in order to maintain political stability. Economic instability has been the downfall of many a nation throughout history. To reiterate a couple of definitions, when a country is a nation of savers, inflation is the enemy because for each unit of currency a country prints, it devalues every other one being held in a bank deposit account. When a country is a nation of spenders, deflation is the enemy because falling prices increases leverage on debt. Therefore, a country will usually manipulate its own currency when it is trying to avoid these outcomes.
The easiest way for a country to manipulate its currency is through the issuance of national bonds, or a simpler definition, IOU’s. For the United States, it issues US Treasury bonds in all shapes and sizes. For example, let’s say Brazil has accumulated $100 million US through international trade. In theory, Brazil is supposed to go to the FOREX market and trade the US dollars that it has for Brazilian reals. However, this action would weaken the US dollar and strengthen the Brazilian real from a supply and demand perspective. Since Brazil likes the current relationship with the US dollar because it allows for cheaper exports to the United States, it does not want to weaken the US dollar. Therefore, Brazil loans back the $100 million US for US Treasury bonds and will wait a number of years for the currency back with interest. Therefore, Brazil and the United States short-circuit the currency trading aspect in order to maintain the strength of the Brazilian real relative to the US dollar. How does Brazil make up for the Brazilian reals they were theoretically supposed to receive for trading US dollars? That’s easy. Their central bank simply prints more of them!
By bypassing the supply/demand rules of the free market system by issuing national bonds, all countries are guilty of currency manipulation. The best analogy is to get twenty people in a room and have them start writing IOU's as fast as they can and pass them off to one another. By writing an IOU, they avoid having their currency weakened. And by buying someone else’s IOU, they are allowed to print more currency into circulation (historical playbook, step 5)! If you and I were to do that, we would be arrested for check fraud. Yet central banks around the world do it every day. Is it illegal? Not to them. Is it immoral? You can decide that for yourself.
In the next post, we will look at some of the more creative currency manipulation examples.
Thursday, October 8, 2009
Wednesday, October 7, 2009
World War II and the End of the Gold Standard
This is the fourth post in a series entitled Currency, Money and the Economy.
In the last post, we discussed the consequences that World War I had on the economic situations in both the United States and Europe. Knowing the havoc it wreaked, when the Allied Nations got the upper hand in World War II, the leaders got together at Bretton Woods, New Hampshire to come up with a plan to avoid the same problem. Once again, the United States was in the best position since it had stayed out of the war at the beginning and no fighting had taken place on American soil except Pearl Harbor. Therefore, the solution they came up with was that the US dollar would be pegged to the value of gold, while the other European nations would be pegged to the US dollar. This effectively established the US dollar as the world reserve currency. Anything traded in the world, from sugar to oil, was primarily traded in US dollars (and still is today). However, when the deal was conceived, there was no reserve ratio set for the Federal Reserve for dollars in circulation versus the gold it had on hand. Essentially, this gave the United States license to print as much currency as it wanted.
Now, the United States was pretty good at restraining itself for the next twenty years. The baby boomer generation was born and life was good. That is, until a little Southeast Asian conflict known as the Vietnam War. Instead of asking its citizens to buy war bonds or pay for the war through higher taxes, the Johnson and Nixon administrations simply paid for the war through deficit spending, or printing the money they needed to pay for the war (historical playbook, step 3). President Charles de Gaulle of France worried about the price of his country’s currency relative to the US dollar, decided to take a preemptive strike and began cashing the US dollars his country had on hand for gold. The run on gold forced President Nixon in 1971 to remove the US dollar from the gold standard (historical playbook, step 4). In other words, you could no longer trade your dollar into the United States government and receive gold in return. This left the United States with a raging inflation problem throughout the 1970’s. Eventually raising interest rates exceeded the rate of inflation and the problem was brought back under control. However, once again, the value of people savings had been eaten up unless, once again, you owned gold or silver. Gold set a record at $850 an ounce while silver set a record at $52.50 an ounce.
In the next post, we will set the stage for what could be the final act of the US dollar.
In the last post, we discussed the consequences that World War I had on the economic situations in both the United States and Europe. Knowing the havoc it wreaked, when the Allied Nations got the upper hand in World War II, the leaders got together at Bretton Woods, New Hampshire to come up with a plan to avoid the same problem. Once again, the United States was in the best position since it had stayed out of the war at the beginning and no fighting had taken place on American soil except Pearl Harbor. Therefore, the solution they came up with was that the US dollar would be pegged to the value of gold, while the other European nations would be pegged to the US dollar. This effectively established the US dollar as the world reserve currency. Anything traded in the world, from sugar to oil, was primarily traded in US dollars (and still is today). However, when the deal was conceived, there was no reserve ratio set for the Federal Reserve for dollars in circulation versus the gold it had on hand. Essentially, this gave the United States license to print as much currency as it wanted.
Now, the United States was pretty good at restraining itself for the next twenty years. The baby boomer generation was born and life was good. That is, until a little Southeast Asian conflict known as the Vietnam War. Instead of asking its citizens to buy war bonds or pay for the war through higher taxes, the Johnson and Nixon administrations simply paid for the war through deficit spending, or printing the money they needed to pay for the war (historical playbook, step 3). President Charles de Gaulle of France worried about the price of his country’s currency relative to the US dollar, decided to take a preemptive strike and began cashing the US dollars his country had on hand for gold. The run on gold forced President Nixon in 1971 to remove the US dollar from the gold standard (historical playbook, step 4). In other words, you could no longer trade your dollar into the United States government and receive gold in return. This left the United States with a raging inflation problem throughout the 1970’s. Eventually raising interest rates exceeded the rate of inflation and the problem was brought back under control. However, once again, the value of people savings had been eaten up unless, once again, you owned gold or silver. Gold set a record at $850 an ounce while silver set a record at $52.50 an ounce.
In the next post, we will set the stage for what could be the final act of the US dollar.
Tuesday, October 6, 2009
Early United States History and the Great Depression
This is the third post in a series entitled Currency, Money and the Economy.
From its early days of independence until 1913, the United States was only a loose knit republic of states (historical playbook, step 1). We were not a global power, as England, France, Spain, and Portugal continued their colonial conquests. We had our share of wars, booms and busts, but were still surviving. However, a banking scandal now known as the Panic of 1907 led to the eventual passing of the Federal Reserve Act in 1913. Up until then, Congress had had the right to coin money, and usually outsourced the job to many banks. However, Congress gave up that right when it created the Federal Reserve Bank. Most people think the Federal Reserve is a government agency. However, it is really a private bank that has the power to create currency from nothing and is shielded from audits and congressional oversights. Coincidentally, that same year the income tax was introduced. For the first time in the United States, the loose knit republic was becoming centralized and power was being consolidated at the national level.
World War I would change the role of the United States forever (historical playbook, step 2). While the United States stayed out of the fighting early on, most of Europe’s economy became engaged in producing goods for the war effort. Thus, in order to still supply its citizens with daily necessities, they imported what they needed from the United States. Since every power still had currency backed by gold, that meant the United States saw an influx of gold during World War I. At the end of World War I, the United States had a huge supply of gold reserves. Based on the amount of gold it had on hand, banks could loan an amount to the general public at a certain ratio (known as the reserve ratio). Thus, with a ton of gold that the United States had, the amount of money loaned out was also tremendous. And the people spent it, much like they did today, in what is now known as the Roaring Twenties. Eventually, most of the money found its way into the stock market and the real estate market. Well, with every bubble comes the crash, and in 1929, the house of cards fell apart to begin the Great Depression.
The main component of the Great Depression was deflation. How was this achieved? Let’s take a look at the banks again. When someone deposits currency into the bank, the bank can take a ratio of the deposit (say 10 times the deposit amount) and loan it out. However, when someone withdraws its currency from the bank, the bank must remove that same ratio amount from the currency in circulation. When people panicked after the stock market crash, they made a beeline for the bank to withdraw their currency. As a result, banks were forced to call in tons of loans they had on their books. The holders of those loans could not pay them off in their current economic state, so they simply defaulted on them. By loans going bad or banks taking them off the books, the currency supply shrank at a tremendous pace. Many banks went of business simply because they could not balance the reserve ratio anymore. The only thing that did not fall in value was gold and silver.
It was during this period that President Roosevelt consolidated the power of the federal government. Since states were in shambles and broke, they gladly deferred power for federal assistance. And thus any remainders of the loose knit republic our founding fathers designed were swept away as the American Empire took its place.
Across the Atlantic Ocean, Europe was having very different problem. Because most of their gold went overseas to the United States, many nations had to rebuild their economies by printing currency, lots and lots of it. Thus, while the United States was suffering from depression, Europe was battling inflation. Inflation in the Weimar Republic of Germany was so bad that it eventually led to the rise of Adolf Hitler to political power, leading the world into World War II.
In the next post, we will continue our history lesson.
From its early days of independence until 1913, the United States was only a loose knit republic of states (historical playbook, step 1). We were not a global power, as England, France, Spain, and Portugal continued their colonial conquests. We had our share of wars, booms and busts, but were still surviving. However, a banking scandal now known as the Panic of 1907 led to the eventual passing of the Federal Reserve Act in 1913. Up until then, Congress had had the right to coin money, and usually outsourced the job to many banks. However, Congress gave up that right when it created the Federal Reserve Bank. Most people think the Federal Reserve is a government agency. However, it is really a private bank that has the power to create currency from nothing and is shielded from audits and congressional oversights. Coincidentally, that same year the income tax was introduced. For the first time in the United States, the loose knit republic was becoming centralized and power was being consolidated at the national level.
World War I would change the role of the United States forever (historical playbook, step 2). While the United States stayed out of the fighting early on, most of Europe’s economy became engaged in producing goods for the war effort. Thus, in order to still supply its citizens with daily necessities, they imported what they needed from the United States. Since every power still had currency backed by gold, that meant the United States saw an influx of gold during World War I. At the end of World War I, the United States had a huge supply of gold reserves. Based on the amount of gold it had on hand, banks could loan an amount to the general public at a certain ratio (known as the reserve ratio). Thus, with a ton of gold that the United States had, the amount of money loaned out was also tremendous. And the people spent it, much like they did today, in what is now known as the Roaring Twenties. Eventually, most of the money found its way into the stock market and the real estate market. Well, with every bubble comes the crash, and in 1929, the house of cards fell apart to begin the Great Depression.
The main component of the Great Depression was deflation. How was this achieved? Let’s take a look at the banks again. When someone deposits currency into the bank, the bank can take a ratio of the deposit (say 10 times the deposit amount) and loan it out. However, when someone withdraws its currency from the bank, the bank must remove that same ratio amount from the currency in circulation. When people panicked after the stock market crash, they made a beeline for the bank to withdraw their currency. As a result, banks were forced to call in tons of loans they had on their books. The holders of those loans could not pay them off in their current economic state, so they simply defaulted on them. By loans going bad or banks taking them off the books, the currency supply shrank at a tremendous pace. Many banks went of business simply because they could not balance the reserve ratio anymore. The only thing that did not fall in value was gold and silver.
It was during this period that President Roosevelt consolidated the power of the federal government. Since states were in shambles and broke, they gladly deferred power for federal assistance. And thus any remainders of the loose knit republic our founding fathers designed were swept away as the American Empire took its place.
Across the Atlantic Ocean, Europe was having very different problem. Because most of their gold went overseas to the United States, many nations had to rebuild their economies by printing currency, lots and lots of it. Thus, while the United States was suffering from depression, Europe was battling inflation. Inflation in the Weimar Republic of Germany was so bad that it eventually led to the rise of Adolf Hitler to political power, leading the world into World War II.
In the next post, we will continue our history lesson.
Monday, October 5, 2009
Currency and Money in Ancient Times
This is the second post in a series entitled Currency, Money and the Economy.
During ancient times, gold and silver were used as both money and currency. Even in Biblical times, the three wise men gave Jesus gold. Egyptians, Greeks, and Romans also used gold and silver as the backbone of their economy at first. However, an interesting pattern emerges when looking at all major ancient civilizations from a financial standpoint.
1) The civilization starts off as young sovereign state or republic with good money (gold or silver, or currency guaranteed by gold or silver).
2) As the civilization grows, it becomes more socially responsible and takes on more and more economic burdens. It also needs to create a military to both defend its borders and expand its territories (for resources).
3) The civilization engages in wars that are extremely costly, leaving the government in severe debt.
4) In order for the government to continue functioning, it converts money to currency that has no backing. This allows the government to print as much as it needs to run its civilization. The citizens are anxious at first, but because life is still good in civilization, they accept it.
5) As time moves forward, the civilization continues to spend currency on military and social endeavors (including dealing with natural disasters), forcing it to continue printing more and more currency.
6) As some point, the amount of currency in circulation causes extreme inflation throughout its borders.
7) The citizens, burdened by this inflation, lose faith in its own currency and revert back to accumulating gold and silver.
8) The civilization, now without the support of its citizens or currency, declines into the history books, replaced by the next young sovereign state or republic waiting in the wings.
Time and time again, ancient history has followed the same pattern. For reference purposes, we will refer to this as the historical playbook. So how does the United States match up against the historical playbook? We shall see in the next few posts.
During ancient times, gold and silver were used as both money and currency. Even in Biblical times, the three wise men gave Jesus gold. Egyptians, Greeks, and Romans also used gold and silver as the backbone of their economy at first. However, an interesting pattern emerges when looking at all major ancient civilizations from a financial standpoint.
1) The civilization starts off as young sovereign state or republic with good money (gold or silver, or currency guaranteed by gold or silver).
2) As the civilization grows, it becomes more socially responsible and takes on more and more economic burdens. It also needs to create a military to both defend its borders and expand its territories (for resources).
3) The civilization engages in wars that are extremely costly, leaving the government in severe debt.
4) In order for the government to continue functioning, it converts money to currency that has no backing. This allows the government to print as much as it needs to run its civilization. The citizens are anxious at first, but because life is still good in civilization, they accept it.
5) As time moves forward, the civilization continues to spend currency on military and social endeavors (including dealing with natural disasters), forcing it to continue printing more and more currency.
6) As some point, the amount of currency in circulation causes extreme inflation throughout its borders.
7) The citizens, burdened by this inflation, lose faith in its own currency and revert back to accumulating gold and silver.
8) The civilization, now without the support of its citizens or currency, declines into the history books, replaced by the next young sovereign state or republic waiting in the wings.
Time and time again, ancient history has followed the same pattern. For reference purposes, we will refer to this as the historical playbook. So how does the United States match up against the historical playbook? We shall see in the next few posts.
Sunday, October 4, 2009
Currency, Money and the Economy
This is the first post in a series entitled Currency, Money and the Economy.
When we think about our investment portfolio, we associate it with dollars. We hear terms on the news, such as inflation and budget deficits, and those are also associated with dollars. However, have you ever stopped for a second and figured out exactly what a dollar is? Over the next series of posts, I will be covering the basics of currency and money, and discussing why we are living in a very dangerous age.
As we explore this topic in depth, you will find things that will seem unbelievable and other things that might make you feel depressed. However, throughout the series I hope you will keep an open mind, for it just might change the way you view the economy forever.
In this first post, we will establish some definitions that will be used throughout the series.
Currency is a medium of exchange used to purchase something of value, such as goods and services. Currency is always associated with the price of something.
Money is a form of currency that has value in itself. Money is always associated with the value of something, not the price.
In order to clearly differentiate between these two definitions, let’s take a look at two examples. First, let’s take a $100 bill. We can purchase something that is priced at $100, such as two pairs of shoes that are priced at $50 per pair. However, if you think about it, the bill has no actual value, except for the minuscule cost of the paper and ink. Since the $100 bill is associated with price, but not value, it is currency, not money.
Now let’s take a look at a one-ounce Gold Eagle coin issued by the United States Mint. The coin has $50 stamped on it, meaning if we took it to a store, we could buy a pair of those $50 shoes. However, if you have followed the news you may have heard that gold recently topped $1000 an ounce. Therefore, while the price of the coin is $50, the value of the coin is $1000. Therefore, since the coin has price and value, it can be considered both currency and money.
In order to know the value of something, you must measure it against something with value. For example, a house might be priced at $300,000, but what is its value? One simple way to determine value is to divide the price of the house by the price of an ounce of gold. $300,000 divided by $1000 is 3000. This means that the house has a value of 3000 ounces of gold. You can also divide the house price by anything that has value, such as ounces of silver, barrels of oil, and bushels of wheat.
Here are two more definitions you need to know:
Inflation is an expansion of the currency supply such that each unit of currency has less purchasing power. Since there are more units of currency in circulation, the value of goods revalues themselves upward (rising prices).
The fear of a nation of savers is inflation because each new printed unit of currency devalues every other one that is held in a bank deposit. That is because when they withdraw their currency, they will find it will purchase less due to rising prices.
Deflation is a contraction of the currency supply such that each unit of currency has more purchasing power. Since there are fewer units of currency in circulation, the value of goods revalues themselves downward (falling prices).
The fear of a nation of spenders is deflation because falling prices creates a higher leverage ratio on debt. For example, if your house falls in price to $200,000, but your mortgage is still $400,000, you cannot simply sell the house and payoff the loan because your debt leverage ratio has increased with deflation.
Now that we have established these basic definitions, we can take a look at these dynamics in action. In the next post, we will discuss currency and money used in ancient times.
When we think about our investment portfolio, we associate it with dollars. We hear terms on the news, such as inflation and budget deficits, and those are also associated with dollars. However, have you ever stopped for a second and figured out exactly what a dollar is? Over the next series of posts, I will be covering the basics of currency and money, and discussing why we are living in a very dangerous age.
As we explore this topic in depth, you will find things that will seem unbelievable and other things that might make you feel depressed. However, throughout the series I hope you will keep an open mind, for it just might change the way you view the economy forever.
In this first post, we will establish some definitions that will be used throughout the series.
Currency is a medium of exchange used to purchase something of value, such as goods and services. Currency is always associated with the price of something.
Money is a form of currency that has value in itself. Money is always associated with the value of something, not the price.
In order to clearly differentiate between these two definitions, let’s take a look at two examples. First, let’s take a $100 bill. We can purchase something that is priced at $100, such as two pairs of shoes that are priced at $50 per pair. However, if you think about it, the bill has no actual value, except for the minuscule cost of the paper and ink. Since the $100 bill is associated with price, but not value, it is currency, not money.
Now let’s take a look at a one-ounce Gold Eagle coin issued by the United States Mint. The coin has $50 stamped on it, meaning if we took it to a store, we could buy a pair of those $50 shoes. However, if you have followed the news you may have heard that gold recently topped $1000 an ounce. Therefore, while the price of the coin is $50, the value of the coin is $1000. Therefore, since the coin has price and value, it can be considered both currency and money.
In order to know the value of something, you must measure it against something with value. For example, a house might be priced at $300,000, but what is its value? One simple way to determine value is to divide the price of the house by the price of an ounce of gold. $300,000 divided by $1000 is 3000. This means that the house has a value of 3000 ounces of gold. You can also divide the house price by anything that has value, such as ounces of silver, barrels of oil, and bushels of wheat.
Here are two more definitions you need to know:
Inflation is an expansion of the currency supply such that each unit of currency has less purchasing power. Since there are more units of currency in circulation, the value of goods revalues themselves upward (rising prices).
The fear of a nation of savers is inflation because each new printed unit of currency devalues every other one that is held in a bank deposit. That is because when they withdraw their currency, they will find it will purchase less due to rising prices.
Deflation is a contraction of the currency supply such that each unit of currency has more purchasing power. Since there are fewer units of currency in circulation, the value of goods revalues themselves downward (falling prices).
The fear of a nation of spenders is deflation because falling prices creates a higher leverage ratio on debt. For example, if your house falls in price to $200,000, but your mortgage is still $400,000, you cannot simply sell the house and payoff the loan because your debt leverage ratio has increased with deflation.
Now that we have established these basic definitions, we can take a look at these dynamics in action. In the next post, we will discuss currency and money used in ancient times.
Thursday, October 1, 2009
Bread And Circuses
During the Roman Empire, when the political structure and societal infrastructure was beginning to decay, politicians managed to distract the citizens with handouts and petty amusements. The latin term panem et circenses, or “bread and circuses”, was used to describe this tactic. Today, it is a term used not only to describe politicians who use distracting gimmicks to gain support (such as negative ads), but also to criticize the general public for giving up their civic duty of holding their politicians accountable.
In the land of the American Empire today, we do not need politicians to provide us bread and circuses. That’s because Hollywood fulfills the role quite nicely. In homage to blue collar comedian Jeff Foxworthy, who coined the phrase, “You might be a redneck,” I have started a list called “You might like bread and circuses.”
If you can list more of Oprah’s favorite things than you can list choices in your retirement plan, you might like bread and circuses.
If you spend more time studying your fantasy sports team than studying stock charts, you might like bread and circuses.
If the cost of all of the items in your wardrobe, including shoes, handbags and sports jerseys, is more than the size of your savings account, you might like bread and circuses.
If you would rather watch an hour of reality television instead of thirty minutes of Nightly Business Report (or CNBC or Bloomberg), you might like bread and circuses.
If you own more infomercial products than you own stocks, you might like bread and circuses.
If you spend more time looking for iPhone apps than looking at the business section of the newspaper, you might like bread and circuses.
If you have an urge to appear in a commercial singing the silly $5 sandwich jingle, you might like bread and circuses.
If you follow the antics of Lindsay Lohan, Paris Hilton, Britney Spears, or the Octomom, you might like bread and circuses.
If you are more concerned with the contents of your DVR than with the contents of your IRA, you might like bread and circuses.
If I think of more, I will put them in later posts. Feel free to add more.
In the land of the American Empire today, we do not need politicians to provide us bread and circuses. That’s because Hollywood fulfills the role quite nicely. In homage to blue collar comedian Jeff Foxworthy, who coined the phrase, “You might be a redneck,” I have started a list called “You might like bread and circuses.”
If you can list more of Oprah’s favorite things than you can list choices in your retirement plan, you might like bread and circuses.
If you spend more time studying your fantasy sports team than studying stock charts, you might like bread and circuses.
If the cost of all of the items in your wardrobe, including shoes, handbags and sports jerseys, is more than the size of your savings account, you might like bread and circuses.
If you would rather watch an hour of reality television instead of thirty minutes of Nightly Business Report (or CNBC or Bloomberg), you might like bread and circuses.
If you own more infomercial products than you own stocks, you might like bread and circuses.
If you spend more time looking for iPhone apps than looking at the business section of the newspaper, you might like bread and circuses.
If you have an urge to appear in a commercial singing the silly $5 sandwich jingle, you might like bread and circuses.
If you follow the antics of Lindsay Lohan, Paris Hilton, Britney Spears, or the Octomom, you might like bread and circuses.
If you are more concerned with the contents of your DVR than with the contents of your IRA, you might like bread and circuses.
If I think of more, I will put them in later posts. Feel free to add more.
Where Does The Stock Market Go From Here?
In the last post, we covered how the market has performed the past six months. The next question was: How does the stock market move up from here? The answer to that question consists of two parts.
The first part has to do with the government. As stated in the last post, the government is currently propping up the economy with lots of financial aid. In other words, the stock market is on government life support. If the government were to remove its intervention at this very moment, the stock market would most likely suffer a setback. Therefore, the stock market will only truly regain momentum when it is able to stand on its own again without government support.
The second part has to do with the American consumer. As stated in the last post, consumer spending hit the skids when the economic crisis began, forcing companies to slash costs to maintain profit margins. The value of a stock will only increase if profits increase. Since companies have already cut costs to the bone, the only way to generate increased profits is to generate increased revenues. Therefore, companies need to get the American consumer spending again.
Both parts of the answer are quite straightforward. However, when those two parts are achieved is the bigger question. The Federal Reserve and Treasury Secretary have testified before Congress that they have yet to figure out when and how their exit strategy will work. And nobody knows yet whether the American consumer will return in full force or whether they have changed their spending habits for good. In other words, your guess is as good as anybody else’s.
I know a lot of you out there, myself included, hope that the stock market rebounds quickly. However, until both parts of the answer have been addressed, the stock market is not likely to move anywhere, up or down. Unfortunately, that might be quite a long time.
The first part has to do with the government. As stated in the last post, the government is currently propping up the economy with lots of financial aid. In other words, the stock market is on government life support. If the government were to remove its intervention at this very moment, the stock market would most likely suffer a setback. Therefore, the stock market will only truly regain momentum when it is able to stand on its own again without government support.
The second part has to do with the American consumer. As stated in the last post, consumer spending hit the skids when the economic crisis began, forcing companies to slash costs to maintain profit margins. The value of a stock will only increase if profits increase. Since companies have already cut costs to the bone, the only way to generate increased profits is to generate increased revenues. Therefore, companies need to get the American consumer spending again.
Both parts of the answer are quite straightforward. However, when those two parts are achieved is the bigger question. The Federal Reserve and Treasury Secretary have testified before Congress that they have yet to figure out when and how their exit strategy will work. And nobody knows yet whether the American consumer will return in full force or whether they have changed their spending habits for good. In other words, your guess is as good as anybody else’s.
I know a lot of you out there, myself included, hope that the stock market rebounds quickly. However, until both parts of the answer have been addressed, the stock market is not likely to move anywhere, up or down. Unfortunately, that might be quite a long time.
Subscribe to:
Posts (Atom)
