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David A. RosenbergJuly 17, 2009
 Chief Economist & Strategist Economics Commentarydrosenberg@gluskinsheff.com+ 1 416 681 8919
Breakfast with Dave
Is the U.S. dollar the nextpolicy shoe to drop?Cautious on claims;seasonal factors may bein play here, not theeconomyThe Philly Fed index was abrown shootBusiness conditions stillvery weakNo recovery in homebuilding It is the second anniversary of the credit crunch and after all of the fiscal andmonetary policy initiatives, the best we get are ‘green shoots’ and now that storyis getting stale. Go back two years and you will see that the funds rate was5.25%. Today it is zero. The fiscal deficit was 2.0% of GDP two years ago.Today it is 13%. Mortgage rates were 6.5%. Today they are 4.7%. Homeowneraffordability with all the government measures is 70% stronger today than it was then too. The Fed’s balance sheet then was $850 billion. Today it is bloated at$2 trillion. The government has tried just about everything. Or has it? What if we were to tell you that the one policy tool that is unchanged since the summerof 2007 is … the U.S. dollar? It is exactly the same level now, on any trade-weighted measure, as it was back then. The greenback is struggling at the 50-day moving average, and this could well be the next policy shoe to drop.If we would have told you two years ago that we would have a deficit/GDP ratioof 13% and a Fed funds rate of 0%, would you have believed that real GDPgrowth would still be negative? Two years ago, it was running at nearly 5%. Theunemployment rate was at 4.7% — today it is twice that level. The S&P 500 was1,550 — today the bulls are content with 930. Consumer confidence was 111 — today it is 49. The inflation rate was nearly 3.0% then, it is -1.4% now. All this, two years after the onset of the most dramatic monetary, credit and fiscal policyeasing in 70 years.The key, really, is the unemployment rate. It may be a lagging indicator for theeconomists, but for a politician it is a perfect coincident indicator — especially forincumbents seeking re-election. There are lots we do not know about the futureand the error term around any forecast is far wider than it has been in the past.Just take a look at the massive range in the FOMC’s real GDP growth forecast for2010 – from as low as 0.8% to as high as 4.0%. In a $14 trillion economy, thatgap is not exactly trivial. But what caught our eye was the unemployment rateprojection — 8.5% to 10.6% is the range of forecasts. So, there is someone at the Fed who sees a 10.6% unemployment rate, which would put it within striking distance of the 10.8% peak reached in November-December 1982.
Please see important disclosures at the end of this document.
Gluskin Sheff + Associates Inc.is one of Canada’s pre-eminent wealth management firms. Founded in 1984 and focused primarily on high net worth private clients, we are dedicated to meeting the needs of our clients by delivering strong, risk-adjusted returns together with the highestlevel of personalized client service. For more information or to subscribe to Gluskin Sheff economic reports
visit www.gluskinsheff.com
July 17, 2009
We think there is a nontrivial chance that we actually see the unemploymentrate hit new post-WWII highs next year, and it comes down to how businessesmanaged their payrolls during this economic downturn. While more than 6million jobs have been lost, what that number masks are the near 9 millionpeople who saw their full-time positions eliminated. There were 3 million whowere pushed into part-time work, and in fact, there are now a record 9 millionAmericans working part-time because of the weak economy, which is a 64%increase from a year ago. Against this backdrop of a growing part-timeworkforce, the private workweek was cut 2.3% this down-cycle to a record low33.0 hours.
We believe that we willactually see the joblessrate hit new post-WWIIhighs next year
What does all this mean? It means that when the economy does begin torecover, when we finally get to the other side of the mountain, companies aregoing to raise their labour input first by lifting the workweek from its record low.Just to get back to the pre-recession level of 33.8 hours would be equivalent tohiring 3 million workers. And, the record number of people working part-timeagainst their will are going to be pushed back into full-time, which will be greatnews for them, but not so great news for the 125,000 - 150,000 new entrantsinto the labour market every month. They won’t have it so easy becauseemployers are going to tap their existing under-utilized resources first since thatis common sense. Also keep in mind that there are at least 4 million jobs inretail, financial, construction and manufacturing jobs lost this cycle that are notcoming back. In fact, the number of unemployed who were let go for permanentreasons as opposed to temporary layoff rose by more than 5 million this cycle.This compares to the 1.2 million increase in the 2001 tech-led recession and in the 1990-91 housing-led recession (when Ross Perot talked about the sucking sound of jobs into Mexico).
The U.S. government haspractically exhausted allof its policy options…except for one, the U.S.dollar
In other words, the unemployment rate could well stay on an upward trajectoryfor the next few years. As we said, 10.8% would be a headline-grabber because that is the post-WWII high, and what we do know with certainty is that 2010 isspecial because it is a mid-term election year. The last Democratic presidentwith an ambitious health care plan was Bill Clinton and if you recall, his partywas crushed in the 1994 mid-term elections and his agenda was derailed byNewt Gingrich’s ‘Contract with America’. We are convinced that PresidentObama is well aware of this, and more than likely well aware that a recordunemployment rate (at least in the ‘modern era’) could well be a political hotpotato for any incumbent, and it is debatable whether a year from now he will beable to continue to deflect the jobless rate problem onto W.As we said above, the U.S. government has practically exhausted all of its policyoptions … except for one; the U.S. dollar. It is the only policy tool that has notbudged one iota since the crisis erupted two years ago. As we mull this over, werecall all too well this great book that a client referred us to a few years back andit was Robert Rubin’s autobiography – “
In An Uncertain World
”. What welearned (as did the client and whoever else has read it) was obvious — theUnited States will always do what is in its best interest. Full stop.
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July 17, 2009
The best chapter was the reasons for bailing out Mexico in 1995 — it was aboutpolitics, not just economics.
We see significantdownward pressure onthe U.S. dollar by thistime next year
In addition to knowing it is going to be an election year in 2010, we also know that we have a President who has, step by step, been taking feathers out of FDR’s cap in dealing with this modern day depression. The one item that hasyet to be utilized is U.S. dollar depreciation, and if memory serves us correctly,FDR snuffed out the worst part of the Great Depression when he unilaterallydevalued the dollar to gold in 1933 by 40% (and fixing the price of gold at$35/oz). We’re not sure that President Obama is going to re-price the dollarprice of gold. Then again, can anything be ruled out? But we are sure that as the unemployment rate makes new highs and increasingly poses a politicalhurdle in a mid-term election year, that it would make perfect sense, for acountry that always operates in its best interest — even if it may not be ineveryone’s best interest — to sanction a U.S. dollar devaluation as a means tostimulate the domestic economy.Remember, this is a premise. We are just conjecturizing. But it is interesting  that the dollar is the only financial metric that is at the same level today as itwas two years ago, and we are of the view that the risks are high that thegreenback will be on a significant downward path by this time next year. With that in mind, investors should be thinking of how to hedge or protect theportfolio against this not-so-remote possibility, namely:
Canadian dollar
Resource sectors of the stock market
U.S. sectors that have high foreign exposure (materials, industrials, staples,health care)
Canadian sectors that benefit from lower import costs (consumer stocks) butlose export competitiveness (manufacturers)
Canadian bonds (a higher Canadian dollar will keep inflation low, hencereinforcing positive fixed-income returns)
Keep in mind that Dell is the end-user and Intel is the primary producer. Andkeep in mind that CIT Group means a whole lot more to the economy (financing half of the small business sector) than Goldman Sachs (who specializes inproducing trading revenues). This rally is coming off oversold levels of a weekago and is going to need confirmation to keep going. Watch the divergences as they occur.
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