What Happens To The US Dollar If The Debt Ceiling Is Not Extended?

money7/15/11:  In the markets, as in life, there are no guarantees but everyone is entitled to their opinion. Here’s my opinion on the financial markets today.

The Nitty Gritty Details:

Stocks opened higher this morning despite S&P’s warning that there was a 50% chance it could cut the U.S. AAA rating.  Some big individual stock moves are helping drive early gains, sparked by strong earnings and M&A news.  This morning’s economic data provided little evidence that the soft spot is over, leaving the “micro” to support stocks rather than the “macro.”  Overseas markets are mostly higher after reversing early losses in Europe, although European Financials may be volatile ahead of their stress test results due out after European markets close.  Crude is almost a dollar higher, between $96 and $97, while gold is taking a bit of a breather this morning after Bernanke tempered stimulus expectations.

Looking back at Thursday, the broad averages ended the session lower.  Part of yesterday’s weakness was attributable to Bernanke tempering the market’s enthusiasm for further monetary stimulus, while strength in gold and silver and higher Treasury yields suggested debt ceiling angst as the U.S. risks possibly losing its sacred AAA credit rating.  All 10 S&P sectors fell, with Health Care holding up best and Industrials losing the most ground.  Commodities were mostly lower, though gold, silver and soybeans managed gains.

Around our financial planning services firm this morning, we were discussing four items that we thought would be of particular interest to our readers:

The Markets Broken Down:

1. Good earnings results so far, but not a blowout. While some big upside surprises are getting a lot of attention, and the overwhelming majority (over 70%) of companies are again beating expectations, the amount of the upside in aggregate from the 40 or so companies that have reported is a bit less at this stage than in recent quarters.  In addition, expectations had come down in recent weeks and guidance has not been strong enough to lift forward estimates, suggesting earnings may not be a catalyst for near-term market gains.

2. Bernanke backs off on QE3. In testimony yesterday to the Senate, Fed Chairman Bernanke tried to downplay the idea that another round of QE3 was imminent.  Our view remains that Bernanke slightly lowered the hurdle for QE3, but it still remains high, especially given that core inflation is now trending higher and the labor market has added over 2 million jobs.  In late August 2010 (when Bernanke hinted at QE2), the economy had not added jobs and we were close to deflation.

3. What happens to the US dollar if the debt ceiling is not extended? The dollar would sell off versus hard asset currencies like the Canadian dollar and the Australian dollar, and would also decline versus traditional safe-haven currencies like the Swiss franc.  The dollar would still be the world’s reserve currency and the bulk of global transactions would still occur in dollars.  A default would hasten a move away from dollars as the world’s reserve currency, however.

4. Another mixed bag of economic data for June and July – few signs of a bounce – yet. While the July Empire State Manufacturing Index, which measures manufacturers’ sentiment in New York state, was less negative than June, it did not indicate that activity was expanding in July, and has to be marked as a modest disappointment.  This morning’s industrial production data for June was likewise tepid, although the June data was clearly still impacted by the auto supply chain issue.  On the inflation front, this morning’s June CPI data brought good news on gasoline prices, but food, vehicle and rent prices continue to move higher.  Still, core inflation is only up 1.6% from a year ago.

As always, email me here with your questions or comments.  I love to hear from you and thoroughly enjoy the “intellectual debate” with our clients and friends that these opinions generate.


Greg Powell, CIMA
Wealth Consultant
Note: The opinions voiced in this material are for general information and are not intended to be specific advice. Any indices such as the S & P 500 can’t be invested into directly. Past performance is no assurance of a future result.
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