It seems as if more and more people are attempting to make the case for a strong dollar, period.
One of the latest is George Magnus writing in the Financial Times. He closes with the statement, "The U.S. dollar should be expected to trend higher against most leading currencies…"
He places the current situation in perspective by alluding to past dollar cycles. He writes, "Since the collapse in 1971 of the Bretton Woods Agreement, a system of fixed exchange rates, the U.S. dollar has been through three downwaves (1968-78, 1985-92, and 2001-11) and two upwaves (1978-85 and 1992-2001), with an average duration of a little over seven years."
Magnus makes no reference to the fact that the two "upwaves" were connected with periods in which United States policymakers actually acted to either severely tighten monetary policy or acted to bring the federal budget under control.
The first such period was the one in which Paul Volcker was the Chairman of the Board of Governors of the Federal Reserve System and which saw the Fed act in a very restrictive manner, driving short-term interest rates up to more than 20 percent.
The second period was one in which Robert Rubin led the Clinton administration to bring the federal budget into a surplus position.
Other than these two periods, the 1961 period can be characterized as one of almost constant federal credit inflation!
Mr. Magnus is trying to convince us that we might have a period of U.S. dollar strength, another "upwave", however, one that would not be achieved during a period of either monetary constraint or federal government budgetary surplus.
In fact, this period of U.S. dollar strength would be achieved with just the opposite things happening, where monetary policy is extraordinarily expansive and where the federal government continues to have large, uncontrolled deficits. In other words, the credit inflation that has characterized most of the last fifty-some years is not going to go away.
Remember, the movement of foreign exchange rates is a relative thing. The movement in the value of the U.S. dollar depends not only on what is going on inside the United States… it also depends upon what is happening in the countries or areas that we are valuing the dollar against.
Here, Mr. Magnus tries to make his case. First, there is Japan. The effort of the Japanese government and central bank seems to be to create a weak yen. "With the yen falling and likely to drop considerably further, it is much more likely that Asian countries will lean with the yen rather than the U.S. dollar." That is, the value of the U.S. dollar will rise against the yen… for an extended period of time.
Second, Chinese growth is expected to slow and the growth that remains will become less commodity-intensive. "This will have important effects on industrial and mining commodity exporters and countries, which have profited in recent years from the China effect on commodity prices."
And, finally, there is Europe. One only needs to refer to the Cyprus situation to remember how fragile the situation still is in Europe. And, the situation is not just one of fiscal austerity. There is a real structural difference in how the north of Europe conducts business and how the south of Europe conducts business. This structural problem has to do with the fraud and corruption that surrounds how the governments in the south of Europe conduct business. Huge structural changes are going to have to take place in how governments conduct their business in Italy, Spain, Greece, and Cyprus…for starters.
So Mr. Magnus is talking about the structural changes that need to take place. And, he argues, "Competitive edge is also beginning to return to the U.S."
Whoa! When was the last time you heard something like this?
The current account deficit is now a manageable 3% of GDP. Exports of goods and services have risen to a record 14% of GDP, with good gains in advanced manufacturing. Net energy imports are falling. And based on relative unit labor costs, the US is now the most competitive country in the OECD except for South Korea and is making big gains against China.
Of course the fact that net energy imports are falling is potentially a long-term thing. I have written about the potential impact of the explosion in natural gas production.
But, I am not the only one writing about the Shale-gas boom. James Hagerty writes in the Wall Street Journal that many things are taking place to accompanying the shale-gas boom and its positive effect on United States manufacturing.
As wages in China rise swiftly, the labor-cost advantages of manufacturing there are diminishing. Meanwhile, U.S. companies have become warier of losing control of intellectual property in overseas plants and of relying on long supply lines overseas that can be disrupted by earthquakes and other natural disasters.
He concludes that, "Now the gas boom is adding another reason for manufacturers to consider making things in America, at least to supply the North American market.
So, the argument goes, in considering the future of the United States dollar we need to consider structural factors changing America… and China… and Japan… and India… and Europe… and the world.
Now, we are getting arguments that there is something going on that is bigger than the monetary and fiscal policies that are being conducted by the various major governments in the world. Even I have been arguing that monetary and fiscal stimulus are not going to resolve our current economic problems where economic growth is in the 2.0% - 2.5% range and about one-fifth of our productive capacity is unused and about one out of five people of working age are under-employed.
Maybe the world is going through a transition similar to the one that took place in the 1930s and 1940s when much of the world moved from economies based on agriculture to ones based on manufacturing. I know there are many proponents of government spending that argue that the government spending in World War II finally got us out of the Great Depression, but it was the restructuring that took place, the movement of human and physical capital into heavy manufacturing, that ultimately created the new basis for the economy that finally brought us into the 1950s and 1960s. Maybe we are going through such a time.
The hard part of this in terms of investing is that I may be right that a restructuring needs to take place in the world and this restructuring will lead to a stronger U.S. dollar. But, if one is right too early, then one could be "wrong" by being too early.
However, the arguments for a stronger dollar are certainly ones to consider and keep an eye on. Still there are an awfully lot of unknown unknowns as well as known unknowns "out there" to bet the ranch on the U.S. dollar just now.
