Dollar disorientation (or why the sky is not falling)

Washington Times ^ | December 5, 2004 | Alan Reynolds

[baseball_fan]

Proponents of good and bad policy changes are once again trying to hitch their wagons to the dollar. The editor of ConservativeBattleline, Don Devine, writes that "entitlements [Social Security and Medicare] must be restrained if confidence is to be restored in the dollar." Does he think the euro is up because Europe is shrinking the welfare state? Conservative columnist Bruce Bartlett likewise found the dollar a handy new rationale for his year-old prediction of "a significant tax increase." Mr. Devine was impressed that Japan's prime minister "bluntly told Bush he must deal with American twin deficits in government spending and trade to stabilize the currency." He failed to notice the irony of a Japanese official lecturing an American about budget deficits. The U.S. budget deficit is 3.7 percent of gross domestic product, the same as Germany's and France's. Japan's budget deficit exceeded 6 percent of GDP for the past five years and is now above 7 percent. If budget deficits explained trade deficits or interest rates, Japan would have the largest trade deficit and highest interest rates. Mr. Bartlett's thesis that a smaller budget deficit would strengthen the dollar by shrinking the current account deficit is false. The U.S. dollar has declined as much against the Australian dollar as against the euro, yet Australia's current account deficit is larger than ours. Besides, current account deficits are unrelated to budget deficits here or there. The U.S. current account deficit was 0.8 percent of GDP in 1992, when the budget deficit was 4.7 percent of GDP. After the budget moved into surplus, the current account ballooned to 2.3 percent of GDP in1998, 3.1 percent in 1999 and 4.2 percent in 2000.

[baseball_fan]

One often gets quite a different picture from Alan Reynolds than a Stephen Roach of Morgan Stanley for instance who comments at: http://www.morganstanley.com/GEFdata/digests/latest-digest.html. When things get too complacent, read Stephen Roach to stiffen resolve; when things get too scary, read Alan before stepping off the ledge. As to the correct answer, that is what markets are for I suppose.

Famed investor Benjamin Graham's advice about maintaining a margin of safety in the event things go against expectations is an invaluable first principle given what seems like the inherently unknowable future. That, ...and of course prayer. ;-)

[woofie]

bump

[billorites]

"Famed investor Benjamin Graham's advice about maintaining a margin of safety in the event things go against expectations..."

I wonder if he used that explanation to justify his philandering to his wife.

[woofie]

the inherently unknowable future

I thought Nostradamus had it figured out

[AZLiberty]

What marital advisor recommends diversification as a relationship management strategy?

[billorites]

"What marital advisor recommends diversification as a relationship management strategy?"

I shudder to think what a Graham and Dodds value approach to dating would yield.

Unless you happen to be attracted to underperforming dowagers with fat assets.

[pierrem15]

Finally some common sense and data to back them up.

The simple fact of the matter si that the Chinese or Japanese cannot just "dump" their dollars without beggaring themselves as well.

If they tried to switch them all to Euros, not only would they beggar themselves but the Europeans would become the wealthiest unemployed people in the world and Europe would bleed capital like a stuck hog.

[Starboard]

What marital advisor recommends diversification as a relationship management strategy?

---

The esteemed investor Peter Lynch often referred to diversification as "diworseification". His financial point being that spreading money around could actually have the effect of diluting a portfolio. I supposed that diversifcation as a realtionshop management strategy could also lead to diworseification. :)

[Mudcat]

Thanks for posting this, as well as the Morgan Stanley link. For all of the otherwise good topics here on FR, there seems to be a surprising lack of educated and informed threads on the subject of economics -- most people speak from the heart, without a solid understanding of the science. Your thread fills the mind, as well as the heart. Thanks again, friend

[Always Right]

What marital advisor recommends diversification as a relationship management strategy?

J. Lo's?

[Always Right]

Now don't you go and try to convince us the sky ain't falling.

[baseball_fan]

You are very kind, thank you. As Mark Twain once said, "I can live two weeks on a complement."

[prayerwarriorJK]

"The U.S. budget deficit is 3.7 percent of gross domestic product, the same as Germany's and France's."

I didn't know that.
Maybe, it'll shut up my French teacher who keeps a deficit count posted in his room.

[Moonman62]

"The U.S. budget deficit is 3.7 percent of gross domestic product, the same as Germany's and France's."

Since when is being as good as the french, good enough?

[grey_whiskers]

What marital advisor recommends diversification as a relationship management strategy?

My Mom wanted me to know about
the Birds and the Bees and
my Dad wanted me to know about
the Bulls and the Bears.

So What did you do?

The only thing I could. I started writing
covered calls on my sexual futures.

Huh?

I married a stockbroker.

[wu_trax]

The difference between Japan or Germany and the US is that you need to borrow your money from foreign countries. People here and in Japan safe too much money. The domestic demand is too weak for any economical growth. so the state borrows the money the citizens safe and spends it.

In the US however people do not safe any money, so your government needs to borrow it from China and Japan. That means that on the long run you either have to transfer part of the wealth of your country to those countries or 'inflation' your way out of the debt (that only works because you have the worlds first reserve currency and your debt is in dollar, not in the currency these countries use, but it certainly wont do any good to restore the faith in the dollar). Given the economical situation there wasn't anything else that bush could have done in the last years.

Overall your debt-level isn't too bad. 4-5% of the GDP are not that bad and can be managed, if it's not caused by a longterm, structural problem (like it is in Germany and France). however you have those baby-boomers who will stop working in a few years and thats going to cost a lot of money, meaning you need to borrow even more money.

Your overall-debt level is between 60 and 70%, that also isn't much of a problem. Germany officially has the same level (we kind of messed up that whole reunion thing, i want that wall back!!) if you add the liabilities for pensions for state employees you can easily add another 10-15%. so, for now, not much to worry about, but if bush tax-cut plan doesn't work out you are going to get into serious budget-trouble in the next years.

to get to the point of this whole thread: of course the budget deficit and the trade deficit are not directly related, but both can damage the faith in a currency if they are too big.

[wu_trax]

or the ECB could just buy their dollar for euro and it would have no influence at all on the currency market. under the current circumstances i dont think they would have much of a choice.

its not that bad just yet. back in 1996 the dollar was worth 1.35 DM, which would equal 1.45$ per euro today.

[pierrem15]

Yes. a lot of the scare mongering is also forgetting that the Euro debuted at $1.17, so the rise to $1.35 from %1.17 does not look so bad.

The fact is that both France and Germany were hoping to boost exports via an undervalued Euro while practicing the usual mercantilist protectionism in the European markets.

Bush is just quietly giving them a big middle finger.

[tnlibertarian]

I supposed that diversifcation as a realtionshop management strategy could also lead to diworseification.

I believe it would lead to divorceification.

[wu_trax]

Yes. a lot of the scare mongering is also forgetting that the Euro debuted at $1.17, so the rise to $1.35 from %1.17 does not look so bad.

no, it doesn't. as i already said in a few other threads on this subject, I'm not really worried about the value of the euro itself, just about the speed of the change. if the dollar falls too fast it will push the whole world into a recession, and noone could possibly want that.

The fact is that both France and Germany were hoping to boost exports via an undervalued Euro while practicing the usual mercantilist protectionism in the European markets.

what are you talking about? as far as i know the market is pretty much open. sure there are a lot of regulations within the EU, but they also apply to companies within the EU.
(and then there is ofc that stupid CAP which is a giant waste of money, but its not like agricultural goods are of any real significance for either the EU or the US)

we would not have set up the ECB the way we did if all we wanted is a low value-currency that would help us boost the exports. the ECB's only direct responsibilitsy is to keep the inflation within the target-area between 1 and 2%, thats its job and that is what they do (thats why there was no action on the dollar yet, i mean, if we really wanted we could do the same thing as the Chinese, its not like it would cost the ECB anything to buy as many dollars as they want).

If you look at Germany and Japan in the last 50 years, you will see that both countries managed to almost constantly increase their exports, even with their relatively strong currencies. its not that bad to have a strong currency, you get cheap imports, cheap capital, low inflation and cheap raw material (like oil for example) and products you use to build the things you want to export, that takes some of the pressure off the companies that try to export. if you then also manage to improve your productivity the exchange rates wont hurt you so much.