Tuesday, April 14, 2015

Strong US dollar -- will it continue? (Update)

The dollar has been on a tear of late, the Yen the Euro and closer to home the CAD have all seen their value fall against the US dollar.  The impact has been to make America less competitive -- in those segments where things are not priced in dollars, and make many raw material rather expensive.  Can it continue?

GS and DB take similar views; the strength of the USD is here to stay -- the number being discussed are the Euro trading around 0.80 to the USD -- down from a peak of nearly 1.47 five years ago.  The Yen that flirted around 120 to the US dollar (although its come back a bit).

So, the charts above show the USD against the Yen, CAD, Euro and Sterling, and the direction are identical (don't be fooled by the reporting convention -- in all cases the USD is getting stronger). What is driving the USD?  Well for start, the American economy remains the only "game in town", of the entire G8 gang its the only that that is seeing strong economic growth -- 2014 saw a 2.4% GDP growth for the country, yes despite what the GOP is saying Obama has not killed the economy -- looking beyond partisan statements its clear that while the rest of the the OECD economies are having a hard time, America continues to do "well".  

Moreover, those selling goods in USD have seen a massive increase in their operating margins (that's why several European companies are doing well, despite weak economies -- growing operating margins are good for their bottom lines).  It also means that one reason Europe has not benefited from cheaper fuel prices is that in Euros, the price of fuel has not dropped so dramatically... a 50% drop in USD is really only a 20% drop in Euros!

So where do we go from here?  One thing is sure is that the US will eventually tire of having such a strong currency, American exporters have seen a dramatic squeeze on their margins.  Even China (who seems to have its own set of problems) is seeing a weaker currency.

So is the weakness of the Euro, Yen, CAD is caused by something outside these economies? Removing Canada for a second (as a Petro currency it has different challenges), if you look at the fundamentals of Japan, China and Europe there are no single reason for a generalised currency weakness against the USD, Yes Japan is in trouble, so is China, but lets be clear here -- China is going from double digit growth to single digit growth -- not really the end of the world.

No, I think that we are seeing something else here, and I would venture that its the ACA ("ObamaCare") that is the reason.  It is easy to forget that healthcare in America is a very important part of the GDP -- and aside from BMW and Audi to doctors and hospital administrators it adds little to economic well being (pun intended).  People don't buy healthcare because they want it, they buy it because they need it!  ObamaCare has changed the game for a large percentage of the population.  It has transferred wealth from hospital to primary care providers, from emergency rooms to doctor's office.  The overall impact of this cannot be underestimated.  In Q4/2013 (if memory is correct) US GDP shrank by nearly 2%, because of a reduction in healthcare costs!

Imagine that you are unwell, go to your new GP and within 20 minutes you leave with a prescription for high blood pressure, the cost to the economy is minimal -- $100 dollars for the doc and maybe $200 of prescription per annum.  Compare that to a heart attack and 10 days stay in hospital and maybe several months of recovery.  This is the impact of the ACA -- attacking health care problems when the solutions are still low costs.

The ACA has providing confidence to people to get on with their lives without thinking about their healthcare coverage (that's massive confidence boost).  Moreover,  the shift provides long lasting benefits, this shift in economic priorities will have a long term impact on the economy, reducing healthcare as a percentage of GDP from 17% to maybe 12%, that's an absolute change to the cost equation.

Despite the GOP's rhetoric, the truth, and that was also what happened in Massachusetts is that universal healthcare creates a massive boost to the economy -- as it reduces costs and "economic friction".  The strength of the US economy will be exponential for several years because the saving accumulate over a number of years.  So while I always thing that GS "talks its book" the reality is that the American story is still the most compelling -- with real economic savings, making the US economy more competitive -- the impact is a strengthening currency -- since global economy seeks equilibrium.  The Euro at 0.80 is still very much a possibility, I suspect that Europe is about the get very much cheaper for the average American.

Now watch history do the exact opposite!

UPDATE:  OK it was pointed out to me that the reason for the increase in the USD has nothing to do with competitive advantage of having a cheaper healthcare system (apparently the numbers don't all go in the "right" direction), rather its the end of QE (Quantitative Easing) that is the reason.  Ok maybe, but looking back over the past 4 years (yep 48 months) the end of QE has been announced repeatedly, with little outcome.... It was also pointed out to me that the European game (the reason hot money is flowing to the US) is a bi-polar:  at one extremity you've got Greece and at the other end you have Germany, the first's borrowing costs are now rising very very fast, the other just borrowed 5 year money at zero interest rate for five years, but the bond was issued at 102, giving a running yield of -0.25% -0.40% per annum -- effectively negative yield.  If that's not enough Portugal (not exactly out of the woods) just borrowed 5 year money at less than 0.5%.  Investors are fleeing Europe because either you have to pay to play (Germany) or the yield is not commensurate with the risk you are taking (Portugal) or its a basket case and you are playing the odds that the ECB/IMF will back down (Greece).

So the other conclusion is that although the US system is broken too, its less broken the Europe (or Japan) and therefore that's where the money is going.  That too makes sense -- it could also be a number of different and self reinforcing "forces" [sorry not very elegant].


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