Politics and Current Affairs

Personal politics has no place in serious analysis of financial markets. Politics always involves emotions, and emotions interfere with the ability to think straight. You want an outcome, and so you interpret developments as leading inevitably to that outcome. This is wishful thinking, not hard-headed analysis. Or you hate the idea of an outcome, so you muster a list of all the reasons why it won’t come about. Wishful thinking results in bad analysis. Politics has a severely limited effect on financial markets as it is unfolding but it can be useful to identify political trends that will someday have a financial market effect.

We think a good newsletter is politically independent, and we work hard at independence. Since we find sarcasm delightful in the morning, we try to be equally critical of any group that seems obviously wrong and especially when they are hypocritical.  Most of the commentary on politics and current affairs in the RTS Morning Forex Briefing is in the form of “Tidbits.” If the Democrats are being especially dim, they might deserve a snotty remark. If it’s the Republicans, they are not exempt. If you don’t like sarcasm or can’t suspend ideology, don’t read the Tidbits. A good 75% of all the favorable mail we get about our commentary pertains to the Tidbits, so clearly many readers share our enjoyment of skewering idiots (or sometimes celebrating brilliance).

We call the comments on politics and current affairs “Tidbits” because in practice, they are not immediately important to the analysis of the currency market.

How often do politics and the high emotions of current affairs influence financial market prices?

Very seldom.  When the US Congress passes a new law that affects pricing in a specific sector, equity and sometimes commodity prices will, of course, be affected. (Think ethanol and corn.) But in the grand scheme of things, governments come and go without affecting equity indices or currency values, at least in the developed countries.

Even during the worst budget crisis in the US, in November 1995 when the Republicans under Newt Gingrich effectively shut down the US government during the Clinton Administration, the US dollar continued on a rising trend.

USD/CHF

Fall 1995

 The dollar also rises whenever the US gets involved in a shooting war, as in the first Gulf War in 1990-1991 under the first President Bush and the invasion of Iraq under the second President Bush. In Bush I’s war, the dollar/Swiss rose 13.1% from August 1990 to March 1991 (1.2560 to 1.4205).

We have no plausible explanation for the dollar to rally on the US getting involved in a shooting war. In the first Gulf War, since US troops were based in Saudi Arabia on the invitation of the Saudis, did traders imagine the price of oil would fall? Or maybe FX traders are a bloodthirsty lot.

In the second Gulf War, we wrote that the dollar would rally again as it had in the first Gulf War, even though we couldn’t explain it. In the build-up to the invasion during the fall of 2002, we wrote that President Bush seemed determined to invade Iraq and therefore we should expect a rally when it finally came. Sure enough, that’s what happened (March 20, 2003).

EUR/USD

Jan-March 2003

 We were writing a forecast. Some readers thought our wording meant approval of the invasion of Iraq, since one potential reason for the rally was that the world approved of a take-charge, can-do America even as most Europeans were strongly opposed to the war. In that instance, the commentary was in the main part of the Briefing and not a tidbit because it was the central factor influencing the FX market. We received irate letters and even a cancellation, despite protestations of independence.  Besides, it was the right forecast. (We also got a cancellation on criticism of Sarah Palin as obviously unqualified for the Vice Presidency. Gee, we thought that was factual, not a political opinion.)

In the winter and spring of 2010, the political event moving the forex market is the Greek sovereign debt crisis and the question of whether the eurozone will surmount it without losing credibility as the world’s second reserve currency. Lurking in the background is the subject of “contamination,” or loss of confidence to other European countries and the wider issue of just about every country (except Germany and Canada) soon facing gigantic budget deficits of over 100% of GDP, if they are not there already.

These are clearly big-picture currency-moving issues that involve politics. It’s unavoidable that a little opinion sneaks into the analysis by way of semantics, if in no other way. When we write that it seems the Greeks have less resolve to accept spending cuts and a lower standard of living than the Irish, this doesn’t mean we dislike Greeks or admire the Irish. It is a summary of what journalists are reporting in the Financial Times, Reuters, Bloomberg, Wall Street Journal, New York Times, The Economist, Market News and elsewhere. If it is the consensus opinion of the majority of journalists, we report it. Quite often we are able point out inconsistencies, inaccuracies and bias in the financial press. This can be useful. When everyone believes something that is not true, we may get a violent reversal when better facts or a more accurate perspective comes to light.

For example, during 2009 as the Obama Administration was seeking passage of a health care bill, the opposition called the plan “socialism.” This is not true. Socialism is the production of goods and services by the state. The health care bill did not call for that. Opponents also said “keep the state out of our private lives” in the same breath they said “hands off Social Security and Medicare,” which are socialist programs, as nearly every economist will agree. We say this is the worst kind of ideologically-induced blindness to facts. Those who say such things are either hopelessly stupid or politically vicious.

But to say so doesn’t imply that we approve of the Obama health care bill. That would be a political opinion and we try not to express political opinions. To unmask the opposition to a major political initiative in the US is to make a bigger point—when it comes time to reduce the budget deficit, these opponents will refuse to participate in the process simply in order to make the Administration lose. Hobbling effective leadership is “winning” to these people. We say it’s unpatriotic and a bad outcome. Okay, “unpatriotic” is a semantically loaded word. But it’s accurate in the sense that if you believe “America First,” there is no way that rendering the President powerless is for the greater good and welfare of the country. Refusing to allow the President to act in order to win the next election is not America first, it’s politics first.

We may have spotted it early, but the mainstream press wasn’t far behind. Cover stories in Business Week, Time and The Economist followed in about six-nine months saying Obama had to “reboot.” What does health care reform have to do with the FX market? Almost nothing. But identifying the obstructionist political mood has everything to do with forecasting the course of deficit reduction. The press is just now catching on to the budget deficit-reduction battle to come. Here is hypocrisy in spades. The opposition claims to want smaller government and deficit reduction, but they are preparing to shoot down initiatives aiming for that exact target just to make the President lose.

In the longer-run, this is a dollar-negative background factor. It may not stay in the background. If the horrendous level of public debt-to-GDP becomes the main focus of market attention, as now seems likely (spring 2010), political opposition to deficit reduction could be extremely dollar-negative.  The core success of the euro as a currency is the twin goal of inflation control by the ECB and deficit management under the Maastricht Treaty and Stability Pact. If Europe succeeds in these goals while the US fails, the euro will be strong against the dollar. It’s that simple.

We view the drama of the factors influencing the FX market as endlessly fascinating. We like to observe how currency prices move in response to events, and some of them are political. But we do not have a political bias and we go out of our way to avoid political bias because it’s not useful to good analysis. We get letters saying we must be a pinko bleeding-heart Democrat and an equal number saying we must be a hidebound, bigoted Conservative. This is the way it should be—nobody knows our politics, and that’s the way we like it.