I have met Greenspan and can quite understand why he is so highly respected throughout the world. Now he is retired from the Fed, he can speak more freely. Prudent investors should listen more carefully to him than to many senior people, still politically shackled by official salaries and pensions.

The key part of Greenspan’s speech was hard hitting and drove straight at the deep, fundamental social issues that are now causing foreign governments to diversify out of the U.S. dollar on a major scale, posing most serious problems for the Fed.

Few politicians or civil servants would dare to speak so openly about the clear failure of the "soft," PC policies of the Democrat Party, that now threaten America itself, through it’s currency.

The main difficulty, as Greenspan also pointed out, was that, unlike budget deficits the problems of Medicare and education are structural and are, "going to be tough" to fix.

We feel it is hard to overestimate the vital, long-term importance of Greenspan’s assessment of the legacy of structural weakness, left by successive Democrat governments. It is a legacy of economic ruin that Republicans have too often proved afraid, in our media-dominated adversarial political system, to risk the unpopularity of restoring the economic integrity that once made America so strong.

On the whole, foreign governments behave in a manner that is supportive of international monetary stability. Unfortunately, they now clearly see deep, structural problems in American society that threaten directly the long-term viability of the U.S.!

Such an international view should not be taken lightly either by investors or by politicians.

This movement of official and private funds out of U.S. dollars puts renewed pressure on the dollar. As MoneyNews has hinted before, the Fed is placed in a difficult position.

Unfortunately for the Fed, the international interest rate field is not flat.

The European Central Bank, that overseas the euro, has only a single mandate, to curb inflation. The U.S Fed, on the other hand, has a dual mandate: to curb inflation and at the same time, to encourage growth.

This dual mandate places the Fed at a competitive disadvantage in any "interest rate differential battle" to defend the dollar. It now represents a serious dilemma for the Fed.

Long-term weakness of the dollar will act as an inflationary influence on the U.S. economy. FIR and MoneyNews have long believed that the U.S. inflation rate is far higher than that shown by the "politically distorted" official CPI.

In addition, economic history shows that a weak currency leads in the short-term to increased exports but in the long term, to increased imports and negative trade balances. This is described in the notorious "J" Curve.

As the Fed contemplates a possible increase in U.S interest rates to support the dollar and to curb inflation, it must be very careful not to stall the U.S. economy and herald another era of the damaging stagflation that savaged America in the 1970s.

We believe, like Fed Governor Jeffrey Lacker, who voted Wednesday for an increase in the Fed Funds rate, that in the long-term interests of the economy, the Fed should have increased rates. Of course, we understand that to do so yesterday may have added risk to a Republican majority in Congress. We therefore feel that U.S. rates will start to rise soon after the November election.

In the meantime, we urge investors who speculate against the dollar by buying euros, to do so on a short-term basis. Like Morgan Stanley, where I once worked, we feel the euro is a flawed currency, in the long-term.

Speculators might be better advised to go with our forthcoming recommended trade from U.S. dollars into sterling.

Editor's Notes:

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