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Portfolio > Economy & Markets

How to make sense of global gloom

By Daniel Williams

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According to our latest circulation numbers, roughly 65 percent of the subscribers to this newsletter (and to Senior Market Advisor in its print form) have a securities license and perhaps I don’t address your particular needs as often as I should.

I received a pretty interesting article from Mark Dodson, CFA, of Brentwood, Tenn.-based Hays Advisory, LLC., late last week concerning the global economy and the U.S. dollar versus the euro and wanted to share some highlights from it so you can address questions your clients may have for you regarding those topics.

Q: What should be done about the European mess?

Dodson: Just a few years ago we were being asked this question about the U.S. dollar, to which we said, the euro is the one that you need to worry about, not the dollar. Now that it is the euro we are all worrying about, what can be done? The first answer to us seems to be the most obvious-provide more liquidity. In spite of what you may read, monetary policy grew too tight in the Euroland in March and April of this year and is too tight today.

Today, the euro is overvalued against the dollar (about 20 percent by our estimates), and monetary policy needs to ease substantially. The value of the euro needs to be brought down if leaders are serious about wanting to save that currency. Policymakers can have those structural discussions about the euro, like fiscal integration, but right now that’s a little like worrying about how to rebuild your engine while you are riding on four flat tires. Buying tires (providing more liquidity) seems like the no-brainer here. If the ECB (European Central Bank) wants to save the euro, it is going to have to hold its collective nose and buy the sovereign debt that others don’t want, plain and simple.

Q: Should I worry about another round of Quantitative Easing (QE)?

Dodson: ECB leaders have the same kind of fixation on inflation that U.S. economists have. We may need a new generation of economists to take over; ones who didn’t live through the 1970s and now suffer from inflation OCD. In the United States, as part of our obsession with inflation, we spent the last 20 years massaging CPI statistics or removing things like actual home prices from inflation statistics to make the numbers look better and easier to target. The irony is that nothing could help perception of monetary policy now more than to include actual home prices in inflation statistics, which were removed from inflation statistics years ago, and are still declining.

Monetary policy was very restrictive for a whole year before Lehman failed, well after the crisis had begun, because of the obsession with commodity prices. It can also be argued that it may be too tight now. While our monetary rating puts conditions about as good as it gets for encouraging a bull market, personally, we would be fine with the announcement of a QEIII tomorrow. It may sound contradictory to how you have been raised in markets, but in this case, the Fed should add liquidity until interest rates actually start to rise. Only at that point will they have pushed enough money into the economy to satisfy all the demand that we have for liquidity. Our confidence is so poor at the moment, that if we polled you today about how much cash you’d like to have in the bank, you probably wouldn’t be satisfied unless it were enough to pay off all your debts and then some. As long as this is a reflection of our collective sentiment, it doesn’t matter how much money the Fed has unleashed on the system; there is room for more. Right now, additional liquidity would do more help than harm.

You can learn more about the economic conditions at the Hays blog. Tell me if you’d like me to sprinkle more economic information in our newsletter and print editions. Look forward to hearing from you.

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