Cause and effect is always a tricky concept and that is most true when it comes to markets. With only two directions to go any explanation can seem valid. So when the Dow Jones Industrial Average dropped nearly 400 points on Friday there where many explanations out there.
The sharp increase in the unemployment rate, to 5.5% from 5% — when most expectations called for a minor increase to 5.1% — was obviously what got the bears rolling and the consensus is that the sharp increase in crude oil is what kept up the selling pressure.
I would suggest that Comments from European Central Bank (ECB) President Jean-Claude Trichet, suggesting that the ECB could soon raise interest rates to address rising inflation is what triggered dollar weakness and consequently the oil rally but it has already been determined that evil speculators are the only cause of higher oil prices. Isn’t it nice for “big Oil” and Opec that there is a new scapegoat on the block to point at.
It is almost comical how the expectations of a rebounding dollar keep on recirculating. The dollar index had rallied from its all-time low of .7105 to almost reach .7400 and people are talking about the rebounding dollar. That isn’t even a dead cat bounce. Why are people turning bullish the dollar? Because Fed Chairman Bernanke maybe kinda might start addressing inflation? There is even an expectation of a quarter point tightening by yearend—that was of course before Friday’s market action. Many analysts are already doubting the Fed’s inflation fighting resolve, suggesting there may be another easing, rather than a tightening, by yearend. If recent history can be a guide, a weakening equity market would squelch the Fed’s recent hawkishness.
Perusing through wire stories and comments I have seen numerous suggestions that the Fed needs to raise interest rates in dramatic fashion — something along the line of 300 basis points all at once to help support the dollar. While I am not recommending such a move, I would note that that is the type of action needed to support the dollar. The idea that after a panicky slew of rate cuts from September through April moving the Fed funds rate 350 basis points lower while inflation is looming; that the Fed indicating they will hold rates steady is enough to reverse the dollar slide is overly optimistic. There just doesn’t seem to be a lot of fundamental support for the dollar. It seems analysts just figure the dollar can’t go much lower. But they didn’t think the dollar index would breach .80, let alone .75.
President Bush and his minions at Treasury simply have repeated the oft spoken line, “Our Country’s policy is a strong dollar policy,” to respond to queries about the wilting dollar over the last seven years and expect the questioner to accept it at face value. It is similar to a child putting his fingers in his ears and humming loudly to avoid hearing something he does not want to hear. This is the Administration that noted, “Deficits don’t matter,” so perhaps they believe a weak dollar doesn’t matter, but while they could be right from a political standpoint, we all know both do matter and the fallout from the weak dollar is something that cannot be avoided by simply wishing it away are stating what can only be defined as an ineffectual policy, if it really exists.