The dollar crash
Talk of a dollar crash has been all in the air today. The Daily Telegraph's Ambrose Evans-Pritchard, who would have to be taken seriously if only because of that name, but also happens to be a pretty smart and well-connected financial columnist, had this to say (via Barry Ritholtz):
Saudi Arabia has refused to cut interest rates in lockstep with the US Federal Reserve for the first time, signalling that the oil-rich Gulf kingdom is preparing to break the dollar currency peg in a move that risks setting off a stampede out of the dollar across the Middle East.
"This is a very dangerous situation for the dollar," said Hans Redeker, currency chief at BNP Paribas.
"Saudi Arabia has $800bn (£400bn) in their future generation fund, and the entire region has $3,500bn under management. They face an inflationary threat and do not want to import an interest rate policy set for the recessionary conditions in the United States," he said.
And in the FT:
The dollar plunged, government bond yields soared and the price of oil hit a record high on Thursday amid growing concern that interest rate cuts by the Federal Reserve could stoke inflation.
The dollar already has crashed against the freely traded currencies: it's down more than 40% against the euro over the past few years. That doesn't mean it won't drop even further against the euro, but the bigger issue at the moment is with the countries (China, India, Saudi Arabia) that have been formally or informally linking their currencies to the dollar, and are beginning to decide that maybe that isn't such a great idea. Lots of people in Congress have been begging China in particular to get rid of the dollar link, of course, and the dollar's decline is, as Michael Phillips wrote in the W$J today, already reducing the trade deficit. But the adjustment could be ugly.
This isn't the end of the world. It may, however, be the beginning of the end of the rest of the world loaning us money with which to buy large flat-screen TVs.
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1
I don't own a large flat-screen TV. I don't even own a small one.
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2
That's downright un-American.
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3
Justin, do you think the Fed should have raised, rather than lowered, rates? I do.
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4
The WSJ.com article alluded to does a great job in articulating the dollar's fall and any effects. In short, exports will increase and the trade deficit will invariably shrink. Adam Smith and Milton Friedman were right. Just relax.
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5
"In short, exports will increase and the trade deficit will invariably shrink."
um, given the nature of the US economy, a larger trade deficit could occur.
1) A very large percentage of American workers/consumers are entirely dependent upon cheap imported goods to maintain their lifestyle. The US no longer has the manufacturing base that is capable of providing substitutes for these imported products --- and despite higher prices, demand for imported goods will remain high.
2) The US has gone from a "manufacturing" economy to a service economy -- and most services cannot be exported. We don't have the manufacturing base that will allow us to substantially increase our exports.
3) Even with the items that we do manufacture and could export, we usually export raw materials (including energy costs) and/or finished components from abroad that will significant reduce the pricing advantages that a lower dollar would ordinarily provide.
In other words, our economy is not well positioned to take advantage of the benefits of a devalued dollar, especially in the short term.
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6
U.S. exports have grown significantly faster than imports over the past year. The trade deficit hasn't shrunk much because the imports are growing from a larger base, but the trend is definitely what you'd expect from a weaker dollar.
There are lots of other reasons why a weaker dollar will be problematic, but it almost certainly will reduce the trade deficit. The structural things Paul's talking about may prevent us from having any kind of big trade surplus, though.
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7
Oh, and in response to GLD's question: While I would have found a rate hike to be hugely entertaining (just think what Cramer woulda done!), I don't think it was crazy of the Fed to cut. And happily, I'm not in a position to make monetary policy.
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8
How this fall in the Dollar connects with the so called 'Bin Laden Trade' is explored in the blog 'An Unrepentant Communist'...see
5 facts about the 'Bin Laden Trade'http://unrepentantcommunist.blogspot.com/
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9
Peg the dollar to Palladium or scrambled eggs.
As it stands now , the dollar is nothing more
than Contractual Script.It doesn't have to be pegged to gold. Just anything of value.
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