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Expect a Fall in the U.S. Dollar

by Stephen Leeb
The Complete Investor

Probably the most important numbers reported recently: China’s December trade data. Its trade surplus declined to about to about $41 billion in December. Exports decreased slightly while imports increased. The surplus was one of China’s lowest in 2016. We see two key takeaways. First the Chinese economy is doing fine without gains in exports. Coincidentally, the International Monetary Fund (IMF) agrees as the global bank over the weekend raised its estimate of China’s 2017 growth by 0.3 percentage point to 6.5 percent.

Second, China takes a much longer perspective than one year. When broken into more detail, the trade figures also show that commodities imports remain very strong. Oil, iron ore, and copper imports all set records in 2016 by a wide margin.

The important implications: First, by all measures China’s economy continues to perform very well despite a trade slowdown. This suggests that Chinese reforms are having a positive effect and indeed the Middle Kingdom may navigate its transition to a consumer-based economy from an investment and export-based economy without sacrificing much growth. That commodities continue to gain suggests that the country is both stockpiling and meeting its internal needs. While many have noted that China has been stockpiling oil, it is very likely also stockpiling other commodities.

Heavy imports of commodities underline a strong Chinese belief that commodities – even the most basic – are headed for longer-term shortages. They also suggest that the downturn in China’s foreign exchange reserves may partly result from its trades of dollars for commodities; in other words, China envisions a brighter future for hard goods but not paper money.

Consider how the price of copper has performed relative to the dollar in the last generation. Generally speaking, there is a negative relationship. From late 2001 to mid-2008, copper soared while the buck fell. And when the buck bottomed in 2008, copper (and all other commodities) collapsed. A falling dollar in 2010 set the stage for all-time highs in commodities. Moreover, over the long haul, U.S. economic fortunes connect much more closely with the performance of copper than the dollar. That’s good, as over the last generation the red commodity has far outperformed the greenback. That trend suggests that one should buy copper above dollars.

The recent coincident rise in both the dollar and copper is anomalous. How long can it last? Some say new President, new world. Maybe, but we don’t buy it. While a trade war with China would no doubt hurt China and hurt commodities, it could also crush the U.S. both economically and geopolitically. That would hurt the dollar and sharply boost gold.

A trade war would negatively affect everything from iPhones to grains for both countries. Sure, China exports much more to America than it imports. But this data is deceptive: iPhones account for a small portion of exports, but despite that, the phone assembly makes it an essential part. China could force Apple to transfer assembly to another country at massive cost. A trade war would cause havoc for both. According to Bloomberg, China’s GDP in 2017 would lose about a one percentage point and fall to 5.6 percent. The Peterson Institute guesstimates that a full-blown trade war could raise U.S. unemployment to about 9 percent in coming years. Very likely China could more easily recover from a relatively small hit to its GDP than the U.S. from another full-fledged recession.

The geopolitical consequences of a major rift with China would also damage America. Seemingly under cover of night, the Middle Kingdom has emerged with sufficient naval power to rival that of America. Simulation games reported in the National Review show that in any South China Sea encounter with America, China would beat the tar out of the U.S. If you doubt this, note that while the new administration has blustered, China has sent an aircraft carrier into the Taiwan straits and added patrol boats to its already huge China Sea fleet. For good measure China also slapped tariffs on some American grain exports.

Such actions give credence to the state-owned Global Times. It chillingly termed Trump “inexperienced, complacent” and said he “speaks like a rookie.” If he continues to flout the One China policy, the editorial says, “Taiwan may be sacrificed as a result of this despicable strategy.” We believe that the Trump administration will follow a rational approach. Despite more tough rhetoric, in the end we think that the new administration will foster growth, not a no-win fight. Any pick-up in American growth will mean strong worldwide growth, and in turn higher commodity prices. Instead of China, Trump will probably fight the Fed. He won’t replace or silence Chair Janet Yellen but will slow her down. And history shows that at least in the 1970s and more recently during the 2000s, rising commodities means a falling dollar.

Whether we return to the 70s or 00s commodity plays, of course gold will be in the vanguard. And if the world does turn to broad-based hostilities gold will also win. Thus, we propose a majority of our recommendations as either levered to inflation or as stocks to provide a “port in any storm.” We don’t know any other way to play the next scenario.

Editor’s Note: Stephen Leeb, Ph.D. is Founder and Research Chairman of the Leeb Group, the publisher of an extensive line of financial newsletters and e-letters reaching more than 200,000 subscribers. For more information visit www.completeinvestor.com.


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