Tag Archives: money

Buffet: "I don’t see how the dollar avoids going down"

Forbes reports on Warren Buffet’s currency perspective:

Heed the Sage of Omaha. Warren Buffett, whose investment acumen seems unerring, had a caveat for America: Barring “a major change” in policies, the trade deficit will further undermine the U.S. dollar.

The billionaire spoke in a Wednesday interview with CNBC, the cable TV news channel owned by General Electric (nyse: GEnewspeople).

Without shifting current trade policy, “I don’t see how the dollar avoids going down,” he mused, warning of inflation risks posed by an anemic Yankee currency.

The prairie-born genius also confessed he’s having a “hard time” identifying stocks to buy, and isn’t purchasing commodities. His cash swelled to $43 billion in the third quarter, by one account, because he couldn’t find many investment opportunities.

Buffett, 74, is chairman of Berkshire Hathaway (nyse: BRKa
people), the immensely successful investment vehicle that acquired a new–and immensely successful–board member in December: Microsoft (nasdaq: MSFTnewspeople) Chairman Bill Gates.

The latter also enjoys a personal friendship with Buffett, and takes part in his bridge games. (see: “Gates: Buffett’s Pal Bill Elected To Berkshire’s Board“)

Renminbi Valuation

The renminbi is pegged to the US Dollar, and has been for a long time, so what would a revaluation of the Chinese currency mean? Without an exchange rate determined by the marketplace, how can we anticipate the magnitude of the difference between the pegged rate and the appropriate market rate?

It is clear that the yuan is cheap relative to the dollar, but by how much? Our economies are different, and these differences lead to different relative pricing, but looking at a variety of prices can give us some sense of purchasing price parity.

Unskilled Labor:

Textile workers in China are paid about 1/30 of the amount paid for equivalent work in the United States. If this ratio were to equalize through currency revaluation, the yuan would increase by 3000%. However this is almost certainly too high, as China has an oversupply of unskilled labor. This number provides the high-end boundary on the scope of the question.


Gold can be purchased in yuan At the time of this writing, $442 worth of gold costs 3670 yuan, implying an exchange rate of about 8.303 Yuan/$. If this ratio were reflected in the currency echange rate, the yuan would increase a negligible amount (Because the exchange rate peg is currently 8.27 Yuan/$). However this is almost certainly too low, as it is illegal for chinese citizens to invest in Gold. This number provides an low-end boundary on the scope of the question.

Basket of goods:

Depending on the basket you select, purchasing price parity implies different undervaluation of Yuan. I estimate approximately 40% undervaluation, clearly with different classes of goods and services.


Under a fair and open market, I envision a 40% inflation on Cinese imports would greatly imporove the stature of US companies that have been drowning under Chinese import competition. Similarly, Chinese companies that earn their revenues from Chinese will see a US Dollar denominated revenue increase of 40%.

[UPDATE 1/25/2005]

Senator Lindsey Graham, (R) Judiary Committee and

Senator Charles (Chuck) Schumer, (D) Finance Committee

are announcing bill to impose a 27.5% tarif on Chinese imports, implying their view that the Renminbi is near 27.5% discounted against the Dollar.


Let’s speculate that Chinese currency will reflect market forces within 2 years. In this speculative possible environment, investors might benefit from:

underweight Chinese companies with revenues largely based on exports

overweight Chinese companies with revenues largely based in China

underweight US companies who import from China

overweight US companies who compete with Chinese imports

Now let’s speculate that Chinese currency will remain pegged to the US Dollar. In this speculative possible environment, investors might benefit from exactly the opposite positions.

How can the US exploit a currency peg that is clearly an unfair trade practice?

Cut taxes and issue more debt.

This increases the Federal deficit, diminishing the value of the US Dollar, and also increases the after-tax pay rates for US workers.

Silver continues big 2-day drop

The past couple days of US dollar strength has corresponded with a sharp drop in the prices of many precious and industrial metals, among other commodities. Oil has rebounded a bit from its more recent downward trend. It feels to me like a buying opportunity.

Dollar weakness is not done yet; I don’t see the fundamental causes of dollar weakness subsiding for many years. Commodity demand should also continue to grow for many years. Together, these point to higher dollar denominated prices for commodities. Precious and industrial metals prices, in my view, are particularly well suited for growth. As the economic production of the globe grows, so too does the percentage of metals used in production. Silver acts both as a precious metal and an industrial metal. I anticipate it will see increasing demand from investors trying to avoid US dollar weakness, as well as manufacturers.

One of the great industrial benefits of silver is its exceptional heat conductivity. In an age of growing demand for electronics, heat dissipation is a core concern. Silver is a major ingredient in thermal conductive paste that is used to connect heat sinks. In some cases, recycling can recover traces of silver for reuse, but the demand is high and growing.

Silver is supplied in large part as a byproduct of mining for other metals. The mining of new silver has not grown much in the last 75 years. As the US Gov’t has depleted its silver reserves, that supply has satisfied the industrial and investor demand to such a degree that the price has not trended upward beyond an inflationary-type growth rate. Low, slow-growth supply combined with higher, faster growth demand points to a good long term opportunity.

As always, a lot of things could go wrong with this story. The world could become enamoured once again by US investments, and drive up the value of the dollar. The world could experience a production slowdown, reducing the demand for commodities. Synthetic replacements could reduce the demand for silver in manufacturing. Precious metals could fall in favor with investors who shift toward more economically productive investments. All of these could hurt silver prices. But I like the odds.

Commodities Outlook

Commodity prices are falling today, but don’t join the selling momentum.

Productivity is rising rapidly. Manufacturing techniques are being shared globally at a faster rate then ever before.

Almost 1/2 of the entire human population entered the global economy since 1990. Trade has opened up in previously closed economies. The new labor is bringing labor costs down globally, simultaneously raising per capita consumption by many multiples in many countries.

Low interest rates mean that debt is cheap. Equity investments are also readily available because taxes on capital are down.

To review: Productivity up, labor costs down, global demand up, and cost of capital down. The implication is a very large increase in commodity demand. Prices have already risen quite a bit in many commodities markets, but the causal factors are long-term, and we should expect the effect to be long-term as well.

Finally, if you are investing in commodities using US dollars (I know I am), then you should also consider the currency value. The dollar has fallen more against many major currencies than the commodity prices have risen. This implies that commodity prices have even further to rise.

Historic Debt will lead to Inflation

I’ve talked about the debt and inflation before, but the following might scare you:

Although the level of deficit is the largest in history, it is not the largest when measured as a percentage of GDP. The current deficit is about 4.3% of GDP. This is high by historic standards, but has been exceeded in 6 of the fiscal years since 1962. BUT the private sector is larger than it has ever been, and issuing more debt than ever before. Total $US debt when combining private and public debt is about $35 trillion, or 300% of GDP.

Don’t think that inflation is soley a function of public debt. No, foreign investment is a competition among all capital securities, and it is net US debt interest owed as a percentage of GDP (as well as US GDP as a percentage of global production, and other factors) that underly inflation.