Home > The Merk Perspective > Merk Insights > October 6th 2004

3rd Quarter 2004 –The Emperor's New Clothes

Axel Merk, October 6th 2004
This article was written by Merk Investments before the Merk Hard Currency Fund was launched.

In my recent report on 12 August 2004, I painted a rather bleak picture; it turns out that I am more enthusiastic than I have been in a very long time about a number of opportunities. Some of these sound dull – such as holding Euro for a European. Other opportunities, from holding Euro for US based investors, to precious metals or select equity investments in the US and Europe, generate more excitement. The underlying theme is that there will be great opportunities coming up, but that we have to be patient. It is ok to be on defensive, to wait until prices are more attractive.

Merk Insights provide the Merk Perspective on currencies, global imbalances, the trade deficit, the socio-economic impact of the U.S. administration's policies and more.

Read past Merk Insights


I entitle this newsletter "The Emperor's New Clothes” because what I have been writing about is no secret. More and more bankers, businessmen and –women and politicians are pointing out what is generally known. Wim Duisenberg (former ECB chairman), Robert Rubin (former Treasury Secretary), Peter Peterson (former head of NY Fed), Paul Volcker (former Fed chairman) are some of the world’s most respected bankers, and all of them have openly talked about the global imbalances and the risks they bring with them. It is not a question of whether, but when adjustments need to take place. I have written in detail that we see the side-effects of the current policies in many pockets of the global economy now, and that we are rapidly building up to more pronounced adjustments.

Bush just signed yet another tax relief bill, extending many cuts for years go come, without cutting costs elsewhere to finance the programs. Greenspan very heavily lobbied against these, warning that we face dire consequences because of the governments’ fiscal irresponsibility. Greenspan is well aware of the issues we are facing, and on occasion is telling the world that if something goes wrong, it wasn’t his fault.

The ever more influential Federal Reserve Board Governor Ben Bernanke – he is the one who said that deflation could be fought by throwing money out of a helicopter - recently published a research paper in which he discussed ways in which to influence monetary policy with instruments other than interest rates. He continues to be most concerned about stimulating an economy with very low inflation and very low interest rates. He very openly said the Fed must employ communication to manage the yield curve (short- and long- term interest rates). He proudly said that the low long-term interest rates have been achieved by telling the public that interest rates will be kept low for a “considerable period.” Comments coming from the Fed, and increasingly so in recent months, have little to do with reality, but only with how the Fed would like us to perceive reality.

This is a very dangerous game, as this only works as long as the public has confidence in the Fed. Greenspan talks about “soft patches” – he is worried that if he talked any more negatively, he would contribute to an economic downturn. Instead, he says, we face a perfect world with growth and low inflation – if it doesn’t work, we’ll blame it on the price of oil or deficit spending.

It is no secret that inflation has been staggering in many sectors of the economy, except for, the CPI.

In many ways, this is exactly how the Fed likes it: the CPI increases only modestly, thereby saving the government billions as many benefits are linked to the CPI. At the same time, the Fed is hoping for a lower dollar to help adjust the trade deficit and because it is the only politically acceptable solution towards lowering benefits of retirees. The Fed might just get more of what it is bargaining for; some have already labeled the Fed the greatest Hedge Fund ever operated – with Bernanke gaining more influence, we will get to experience new levels of “communication” from the Fed.

This past quarter showed that our predictions are materializing. While the dollar is holding up rather well, oil, gold and other commodity prices moved higher; the US real estate market has lost significant steam, the economy is slowing down. In less than a month, the US will elect a new president – neither candidate has shown that they will be more prudent with government finances. With Bush, we know that he stubbornly pursues a policy of printing money. Kerry, although unlikely to have the support of Congress, will breathe fresh air into the global imbalances. While blowing from different directions, both Bush and Kerry will easily trigger a storm...

Thank you for your interest in the Merk perspective. To serve our audience better and to continue offering our insights free of charge, please enter your information below to continue reading.

Your Role:
Please sign me up for Merk Insights, our Free Newsletter:

Merk Funds will not sell or rent your name or contact information; our privacy policy is available by clicking here

To return to the homepage, please click here.