The First Hole In The U.S. Dollar


The EU countries reached a deal for an economic recovery plan.

The amount will likely be insufficient.

However, the way it is structured opens interesting possibilities, and it might be a threat to the dollar.

Photo credit: Christine und Hagen Graf

The EU has just announced the deal for an economic recovery plan. The deal seems insufficient, but it has opened the doors for some serious breakthroughs. The €1.8 trillion ($2.1 trillion) plan is not going to be available straight away. Actually, the last portion of the funds is only supposed to be released by 2029. Therefore, we are talking about something like €180 billion ($210 billion) a year, on average, for ten years. Short of spectacular now, right?

However, the fact that around €390 billion ($453 billion) will be in the form of grants, and, that part of the overall plan will be raised in the credit markets, seem a step towards debt mutualization. We might be closer to a Hamilton moment for the Euro area. Likely, further steps will happen during the decade ahead.

Game-changer for Europe

In my opinion, that is a game-changer, but not because of the sums involved. As we’ve seen, we are talking about less than $210 billion a year on average. Likely, this plan will have to be overhauled during the following months, creating new tipping points for the EU. What makes this plan very interesting is the grant stimulus, the joint emission of debt, and the second-order effects stemming from both.

Interestingly, the second-order effects open the door to instability in the US dollar market. Why? Well, the smart money is aware of the current printing implications, even if somewhat overwhelmed by the outcome in the equity market. Until now they haven’t pursued any alternative, mainly, because there wasn’t any. China is still some time away from liberalizing the RMB market, and investors distrusted Europe for not being able to show any coordinated effort.

Europe is moving in the right direction, and this time, without being pressured by speculators. That has echoed in the EURUSD. The deal prompted a 4-day extensive move, as we haven’t seen in a long time.

(Source: Yahoo Finance)

Investors are clearly more optimistic regarding the future of the Eurozone. And that, coupled with the US massive money printing, is likely to result in an appreciating EUR. Additionally, the plan might also result in an attractive Eurobond market by issuing new debt. If they issue bonds across a wide range of maturities, we might get an alternative to the US treasury market.

Second-order effects, and bond market warfare

Folks might not realize it yet, but creating competition to the US treasury market is the first step to destroy the invincible aura that the Fed currently holds. The Fed has been printing money and using it to buy US bonds. Notwithstanding, for months, the US dollar has remained stable. Now, it seems like the USD is ready to take a big movement down. If you think that devaluing is good for the economy, pause and give it a second thought. The current Fed strategy only works if there’s no inflation. An inflationary outburst is a game over for the printing game. With the USD devaluing, commodities get more expensive, and imports, in general, follow the same path. Depending on the severity of the move in the USD, that might be the catalyst for inflation.

Additionally, the China trade war might also play a role in this. The Chinese might see an opportunity and accelerate the opening of their internal bond market. That would put even more pressure in the USD. If you are thinking that the Chinese hold lots of US treasuries, remember that the European do not have the same problem, and the trade war also seems to be heading for the old continent. That being the case, and the European bureaucrats finally realizing the potential of having a Eurobond market, they might increase the size of it significantly (without even getting near the current US printing volume). In this case, they would hurt China’s treasury holdings too.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

Additional disclosure: This text expresses the views of the author as of the date indicated and such views are subject to change without notice. The author has no duty or obligation to update the information contained herein. Further, wherever there is the potential for profit there is also the possibility of loss. Additionally, the present article is being made available for educational purposes only and should not be used for any other purpose. The information contained herein does not constitute and should not be construed as an offering of advisory services or an offer to sell or solicitation to buy any securities or related financial instruments in any jurisdiction. Some information and data contained herein concerning economic trends and performance is based on or derived from information provided by independent third-party sources. The author trusts that the sources from which such information has been obtained are reliable; however, it cannot guarantee the accuracy of such information and has not independently verified the accuracy or completeness of such information or the assumptions on which such information is based.


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