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A recurring lesson for financial markets is that financial opinion follows the market, not the other way round. We last looked at this topic in Contraryview no. 49 "The City now believes ..".
Last week, an erudite journal penned a story suggesting that perhaps the US deficit doesn't matter. This week, the US dollar has started rising strongly and more stories in similar vein will slowly appear. The reasons, of course, are simple - as the world's major trading currency, economies have to hold dollars, and therefore America's deficit belongs to the world. In fact, looked at in relation to GDP, America's deficit is not that significant. Hungary, the Czech Republic, Greece, Australia, Iceland and Portugal all have proportionately worse deficits! Another curiosity is that the world apparently runs a deficit with itself - which is impossible - showing how poor the quality of statistics really is. Much of the missing data is, inevitably, in dollars!
But the rising dollar is only one facet of the change that must now occur. Equity markets are again too high, failing to recognise the risks of rising unemployment with the consequent debt service problems. The worry about inflation is overdone; with an unnecessary rate rise, America will now go the way of the British high street and property markets. Interest rate cuts lie ahead when the authorities react to the growing debt problems and sliding property markets. Incredibly, the story that Gilt prices are too high and interest rates must rise, continues to get attention. The reality is that the deflationary forces are about to return, leading to lower interest rates, higher Gilt prices, and lower equity (share) prices. This is going to be a year of changing stories.
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