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Friday, July 10, 2009

If Barack Obama is the new Lyndon Johnson, who's the new Paul Volker?

“The Obama team doesn’t seem to know what it is doing on economic matters, does it? They had a good man on the team – Paul Volker. He was the only one who really knew what he was doing. And they seem to have edged him out.

“This is a very bad sign. It was Volker who saved the day the last time the US dollar seemed to be headed for the scrap heap. This time, it looks as though they have no intention of saving it.”

The dollar hardly looks like it needs saving now. It rose slightly yesterday. Generally, throughout the crisis of the last six months, the dollar has been favored as a safe haven.

Yesterday too, prices of gold and commodities fell – in dollars. The greenback rose against cotton, coffee, silver – just about everything

Why is the dollar so (seemingly) strong right now? Master FX Options’ Bill Jenkins believes it is because the United States isn’t facing the same sort of ‘social upheaval’ that the Eurozone has. . . .

Though the dollar doesn’t look like it needs saving right now, there are two things going on…two things that appear contradictory…and which lead investors to make big mistakes. On the one hand, the world economy is contracting – which is naturally deflationary. Demand goes down…prices go down…the currency in which prices are quoted goes up. On the other hand, the people who control the currency are doing all they can to cause it to go down. The Congressional Budget Office tells us that the US national debt is rising by about $1 trillion per year. It will hit $12 trillion this fall. By next fall, it will be at $13. The interest alone this year is $565 billion – about 4% of the nation’s total output.

The last time the United States overspent on anything approaching this scale was during the ‘guns and butter’ years – the 1960s. Lyndon Johnson wanted a war in Vietnam and a Great Society at home. He got both. He also got inflation. Inflation rates hit double digits in the late ‘70s. The dollar seemed to be going the way of all paper money – to nothing.

But “Tall Paul” Volker was called to the Fed. He said he was going to snuff inflation…and he meant it. Against widespread criticism – his effigy was burnt on the steps of the Capitol – he took the yield on 10-year T-notes all the way to 15%. The economy entered its worst recession since the Great Depression. Politicians howled. The press roared. Everyone seemed to want Paul Volker’s head. But Reagan backed him up. And he beat inflation and saved the dollar.

But that was then. This is now. Now, the country is far deeper in debt…with a much weaker economy…and much stronger rivals. Not even Paul Volker could play Paul Volker’s role this time.
-- from "No Recovery in Sight" by Bill Bonner

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