It is clear that the U.S. dollar has been one of the biggest hedge fund crowded trades, and still remains despite recent pullbacks in the greenback.
And, although, the DXY saw a violent decent following last week's dovish FOMC-minutes report, there is still an underlying dynamic that supports a much higher dollar.
History may not repeat, but it often rhymes. And, those who look back into historical context for potential clues of today should find interest in the "Law of Unintended Consequences." This concept dates back to John Locke, who discussed the unintended consequences of interest rate regulation in his letter to Sir John Somers, Member of Parliament during the 17th century.
In 1936, socialogist Robert K. Merton wrote "The Unanticipated Consequences of Purpose Social Action," which discussed unintended consequences of deliberate acts intended to cause social change.
We don't have to look any further to globalized manipulation of interest rates by central banks with the sole purpose to deliberately change actions (or inaction) of consumers. Low interest rates have been designed to force those into riskier assets who may not have accumulated previously. The suppression has also "enticed" individuals to buy homes, cars, take on student loans and other interest rate sensitive loans to unsustainable levels, essentially robbing tomorrow's growth to consume today.
Furthermore, market participants are underestimating the ongoing global currency debasement on the race to zero. Since the financial crisis - on a global scale - there has been $12.3 trillion (and growing) in quantitative easing and 650-plus (and growing) rate cute. Yet, central banks are unwilling to admit their policies have failed. And they won't.
In Merton's paper, he stated that ignorance stems from unintended consequences. Those that are objective ponder why economists are consistently wrong and never forecast recessions (Fed included). There is a degree of ignorance that shields them off from from anticipating the potential from future events, thus this leaves their analysis incomplete.
Moreover, short-term interests are clearly overtaking long-term interests. As former Dallas Fed Reserve Bank President Dick Fisher has stated on TV numerous times, the Federal Reserve front-loaded risk appetite in order to develop a "wealth effect." Instead of focusing on longer-term solutions for the growth of American, it was imperative for the Fed to spoon feed quantitative easing to investment banks and their crony peers.
The hubristic nature of Ben Bernanke, Janet Yellen, Mario Draghi or Haruhiko Kuroda in believing they can manipulate "free" markets like a volume dial on a radio is foolhardy and create unintended consequences that will cause a panic buying of the global reserve currency, the U.S. dollar.
Stay tuned for additional Dollar Paradox additions.
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Thank you. If anyone is familiar with Greek tragedies, the protagonist always falls victim to hubris, or pride. I believe we are seeing that in central banks.
webmiztriz
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hmmm ... overconfident pride and arrogance. ... you may have something there... ;)
tbuckle
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So to summarize do you see the $ going higher or lower in the short term? ...and long term?
RisknVolatility
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I agree. But you should also keep in mind that the opposite may also be an unintended consequence: a massively weaker dollar due to the market blindly jumping onto a long dollar trade. A massive re-evaluation of the value of the dollar lurks just beyond the horizon either way.
CommoditiesTrader
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In the end, yes, there will be a weaker dollar but to wit:
The Fed is highly confident that the US economy is stronger, or at least improving, more than it really is. Therefore, the Fed has been more tolerant to a higher dollar assuming the economy will support such. However, even as confirmed by Fed Vice Chair Fisher, prolonged strength in the dollar weakens the economy.
Once a recession takes hold, a deflationary spiral will more than likely take place. Poor economy equals lack of consumption, therefore layoffs occur further decreasing consumer spending and supers sion of wages. Businesses decrease spending, cut costs; all deflatuonary.
Furthermore, the demographic makeup of the US (and Europe and japan) is aging - deflationary.
When investors look to avert risk, they cash out and/or head into treasuries. That has deflationary consequences too.
And the best of all, whether we like it or not...... the US dollar still remains the reserve currency thus demand is supported.
I see inflation likely to be the overreaction of the Fed during the next crisis.
As long as they allow the dollar to remain elevated, it allows other countries to devalue. It's a self purpetuating cycle.