On news of the interest rate( fed fund) was being cut 3/4 of a percent, the dollar has not dropped where it should be, also gold did not soar from news of this rate cut. When only a quarter percentage point drop caused a substantial drop with the dollar the last rate cut, Why not now????? Thanks and I am looking forward to your viewpoint/s, explanations.

The prices of stocks, to a lesser degree bonds, of gold, of the dollar and other currencies, is determined by supply and demand.

If the demand outstrips the supply at a given price, the price goes up until equilibrium is reached, either by the demanders deciding that they will switch to an alternative or not buy at all, or sellers deciding that the price is too good a deal to pass up.

If the supply outstrips the demand at a given price, the price goes down until equilibrium is reached, either by the demanders deciding the price is too low to be worth selling, or the demanders with the cash or credit deciding that the price is too good a deal to pass up.

The equilibrium prices is determined as they say by both blades of the scissor.

You have mistaken rationality for the operation of the price mechanism.

Let's be clear. Stocks and currency for all intents cost pennies to create. Regulation requires that the thing that the value of the stocks and currencies be disclosed and that certain remedies exist for the holders to prevent fraud, but beyond that, the value is arbitrary and entirely dependent on the actions of the entity that issued these derivatives.

At the current time, people had switched fads. For years the fad has been to buy stocks and dollars, much as people bought pet rocks and especially cabbage patch dolls. The pet rock fad quickly ended because the cost of producing pet rocks was very low and the producer did nothing to limit the supply and thus keep them scarce. The makers of cabbage patch dolls did limit the quantity delivered and also worked to create new demand, so for a fairly long time, people who could acquire cabbage patch dolls could resell them at a higher price.

The situation with dollars and other currencies is a bit difference in that the change in supply of dollars that will result of the Fed action will do little to change the balanced of dollars that are in the internation currency markets being bought and sold. One might argue that the lower interest rates might cause people to stop trading dollars for bonds issued in the US, but this is offset by the fewer yen or euros or pesos required to buy dollars to buy goods made in the US. And with the US economy slowing, and the higher price in dollars for foriegn goods, the supply of dollars coming out of the US to buy foriegn goods is sure to decline, making dollars in the near term scarcer and thus likely in greater demand.

The price of gold is based at current price levels purely on the demand relative to the fixed supply. While the cost of mining gold is about half the market price, the barriers to entry are massive, so one does not begin gold extraction without a certain payoff, and the current price is not going to hold long term. And even if it did, the cost curve for gold extraction is steep. Gold is currently being extracted as secondary operations from other mining. For those cases where the primary mining is for gold alone, many of those ventures are secondary to prior gold mining, reprocessing rich ores for which the gold had been extracted by old less efficient processes. But for the majority of the gold extraction, the gold production is secondary to the primary mineral extraction, often copper, so the gold production will track with the copper production. To extract purely for the increased gold production would increase the supply of copper which would drive down its price, and thus make the cost of gold extraction increase steeply.

If one looks at the cost of extracting gold, the price people are willing to pay looks irrational, especially for people who are buying merely to stick it back in the ground in an attempt to preserve their savings. If you are manufacturing electronics, or special manufacturing equipment, the price of gold was probably set long ago in long term supply contracts or hedging and is effectively much closer to the cost of extraction.

So, next time the Fed acts, ask "how does this affect the spot market price of cabbage patch dolls, wii's, and gold, and you will figure out the answer yourself.

mulp, Thank you for your explanation which is very well said. I still have a problem with the equation though. The P/E ratios gave been exploited to the point of giving no Safety to owners of even blue chip/ prefered stocks for about 11 years now, the value of the dollars purchasing power has been cut by more than half of that of 6 or 7 years ago. We have nine trillion dollars of debt which a large sum of it that been doubled just because of the devaluation of the dollar, so when the fed fund rate is cut that to me means print more dollars, with that in mind, it should Lower the value of the dollar by a significant amount and not hold its value, plus with the massive overseas sell off of our debt/dollars. Do you agree?

Well, the long term inflation needs to be offset by the short term credit crunch caused by people being unwilling to borrow to consume because the interest rates are so high, or banks being unwilling to lend to those who will borrow at almost any price who are too risky for the limited funds available to the bank.

Which is worse, consumpition falling and people being laid off, or inflation increasing over time?

And the P/Es of the stock market have effectively doubled since I first started paying attention to the stock market, before I started watching Louis Ruckaiser on Wall Street Week, basically when it first came on the air circa 1970. At that time, a P/E of 15 was speculative, except for some high growth companies --- the term tech stock hadn't been invented yet --- like IBM. I remember discussions when IBM stock rose above a P/E of 15 about how long IBM could continue to grow before the computer market was saturated. Of particular concern was the fact that IBM stock had increased by a factor of about a hundred, as had the earnings and profit of IBM in the prior half century.

In the 90s I just couldn't bring myself to invest in tech stocks because the idea of buying a stock with an infinite P/E was irrational, and for those that had earnings, the P/Es of 100 and up were as far as I was concerned, totally nuts. And I've been in the computer industry since 1968, working for DEC nee Compaq now HP, tho I got axed in 2001.

During my lifetime, the book on buying stock has changed from buying stocks based on their dividends, with the price based on the risk to the dividend, and a dividend rate of return of about 5% with some growth to offset inflation and to provide some risk compensation, to buying stock without every expecting to see a dime coming from the corporation, ever, and the only return on investment in the stock coming from others buying the stock at a higher price in order to be able to not get a return on their investment from the corporation. The sole reason the stock prices go up is because so many people have money they are saving for their retirement or some other reason, and the conventional wisdom is that you buy stock. It is a pure ponzi scheme, which, by the way was not a fraud, but a forward currency exchange operation, with the bet you make when buying the stock being that if no other investor like you is willing to buy your stock when you want to sell, a competitor corporation, or a conglomerate holding company, will buy the company outright and extract the earnings for their use. The real ponzi scheme involved trading currencies, in the form of buying stamps, with the expection that someone would pay more for the stamps once they were moved to their destination. It was based on the movement of currency prices, driven by uncertainty, trade imbalance, and inflation. The scheme failed when the net trend reversed. When you buy a stock that pays no dividend and hold it, you expect that the earnings will continue to increase for years or decades without the competition changing, alternatives coming along, and other things that destroy their earnings growth.

Many people thought that Sears could never fail and that its earnings would increase almost forever, or at worst, reach a level that would merely match inflation. As Sears' prospects for a future corporate buyout looked dimmer and dimmer, the price of Sears stock fell, even as they continued to have earnings, and as they attempted to boost earning to drive up the stock price, they destroyed the company.

In many respects, the same thing happened to DEC, DG, Compaq, SGI, et al. I met many people who, based on the fall in DEC's stock price and on its being bought out, were convinced that DEC ran out of money and went bankrupt, but the cash on hand when DEC was bought was used to pay the DEC stockholders the 50% cash part of the purchase price, with the other half in Compaq stock. DEC owned stock in one of the internet boom companies that owned a stake in yahoo, which six months after the merger was worth as much as Compaq paid for DEC in stock (remember DEC cash paid for half the buyout), and DEC was still generating revenue and earnings as it was cash flow profitable, unlike many other tech companies at the time.

I haven't done a study, but my guess is that half the stock price of many stocks is based on the expectation of profit growth, and for a corporation to merely move to flat profits for the long term will doom the company one way or another, either by being acquired and dismantled, or by the management doing anything they can think of to boost earnings with the eventual result being a reduction in earnings, and that is death for a US corporation.

The price of things without a relationship to labor is purely based on expectations of future scarcity, and scarcity is defined by there being less than people want at a lower price (than zero at the limit). As food is related to labor, [and land, capital, knowledge, ete], you will pay a price for food up to the price you are paid for the equivalent labor you would require to grow it.

The difference between food and the other things, like dollars, gold, and stocks, is that food has intrinsic value: you can eat it. Unless you are a jewelry maker or make electronics, gold has no intrinsic value, other than the value of the labor used to extract it assuming people need gold for making things, like jewelry or electronics.

And the food has a rather well defined value curve. If the food is a tomato, you know that it will have the most value right after picked ripe from the vine, and then the value will decline to zero when it is rotten fruit.

Now what will happen to the derived value of the dollar relative to other currencies, the value of gold as people join the gold fad because of fear of inflation or end the gold fad as they stop fearing inflation, war, etc. is all determined by the thinking of millions of people who are looking at the Fed rate cut with different perspectives. So, will say, "ok, this is really bad because inflation is going to drive up the price I pay for food, but not increase my wages." Others will say, "ok, this will improve things and prevent an economic collapse that leads to layoffs and foreclosures as the economy stalls and businesses fail and a total collapse of value in all sorts of things." Some people will want to buy more gold, and others will be relieved and not want to buy gold, or even be willing to sell their gold, convinced that the price of gold has peaked. Keeping in mind that the price of gold has nothing to do with the price of capital, labor, etc, inflation will have almost no impact on the price of gold, other than from the fears that cause people to act irrationally and see to invest savings in something that will produce zero return on investment, and that otherwise has an intrinsic value far less than the price.

Btw, consider that the cost of producing a barrel of oil for well over half the oil produced and delivered to market is less than $10, and none of the oil in the market today cost more than $50 to produce. The market price at the margin is in the $90 to $100 range. Reducing the price at the margin to $60 a barrel is not going to reduce oil production, unless the Saudis decide that they want a higher price and they shut in some of their $5 cost of production wells.

Thanks Mulp,

This is really interesting!
What do you think about the stimulus package proposal ? Will it help and how much?

Actually gold was up $8.00 today. EVERYTHING else was down.

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I may be able to help you with that. Gold is negatively correlated to the price of the dollar, the dollar negatively correlated to the price of oil. Oil is the reason we are in an inflationary economy. Watch how these markets correlate to each other and you will soon understand. The Stock Market is attractive to foreign investors when the dollar is down. The credit crunch is spilling over into foreign markets and foreign investors are pulling out.
As far as equilibrium is concerned, the market is always chasing it, and it's always changing. Therefore, equilibrium is never achieved.

Thanks again for your input and informative comments--- BUT, I still do not see the reason for the dollar not dropping through the floor and heading towards china. Supply and demand doesn't seem to apply now, the ppt is/are working Overtime with the stock market but not doing very well, and the options buying /selling contracts of the dollar on the commodities markets must be totally insane-- are they buying Call or writing Put contracts in unlimited amounts like Never before to help keep the dike from blowing, and if that is the case what will the end result be, this is one of my questions that is not making sense?

Right now, and until we have a socialist in the White House and a socialist-controlled Congress, I think the best answer to any economic question is:

RUN!!!

HIDE!!!

IT's TEOTWAWKI!!!!!!

On 01/22/09, of course....everything will be fine.

Tokie