Book Review: Making Sense of the Dollar, by Marc Chandler

Many people think in non-systematic terms. They consider the US current account deficit to be an unmitigated disaster. They look at one side of the issue and conclude that the US has become less competitive.

Understanding accounting, the books must balance. Not everyone can run a current account surplus. Some countries must run deficits in order to purchase goods from those that run surpluses. Capital account surpluses balance out current account deficits; net foreign investment fills the gap.

Marc Chandler, with whom I became acquainted while writing for RealMoney, has written a book for the average reader to explain the basics of international economics and foreign exchange. The book deals with common myths that arise in the discussion of trade and currencies.

Why do we lose industrial jobs in the US? It’s not foreign competition, though that may occasionally play a role when countries subsidize their industries. We lose industrial jobs because of technological improvements that require less labor in the manufacturing processes. As I have said, Nucor was a bigger risk to the rest of the steel industry than foreign competitors.

Chandler is a proponent of the turn-of-the-century Open Door Policy, which led the US to be more free market capitalist than the rest of the world, gaining influence through trade. Together with military victories, this led the US to be the world’s dominant economic power post-WWII. Given the change in currency regimes, this made the US Dollar the leading reserve currency in the world.

Aside from military superiority, and political calm, labor market flexibility and a culture of innovation have made the US dominant in global economic affairs. As I have sometimes said, if the world did not have America, it would have to invest one. Where else would all of the spare labor, capital and goods go?

There are advantages to being the world’s reserve currency. The US runs current account deficits, and other nations buy our debts. Such a deal; every nation should want this (but, as we learn, it is likely only one nation can have this at a time).

Capital flows are much larger than trade flows; it should be no surprise that the US Dollar does not react to the current account deficit.

(An aside: When I was in Grad School, the idea that interest rates drove currencies through arbitrage was new, and gaining favor. Since then, a blend of the interest rate markets and goods markets driving currencies is the dominant paradigm, with momentum thrown in.)

Chandler deals with these issues, and other myths that plague the discussions around international economics and the currency markets. In general, I agree with his views, but with a few quibbles/additions:

• It is not costless for countries to run current account deficits. Countries that run current account deficits have to offer attractive opportunities for foreigners to invest in their country, or suffer declines in the value of the currency.
• The country taking the non-economic action will eventually pay the price. Whether hoarding gold in mercantilism, or neo-mercantilism, hoarding US debt assets, whether Japan in the late ’80s or China today, the nation forcing the issue gets hurt more. China will suffer for over-promoting growth of exports.
• It would be reasonable to have a gold standard once more — the trick is setting the initial price level, so that it would not be inflationary or deflationary.
• It would have been nice to offer retail investors some theory to explain how currencies move, rather than just dispel myths. That said, there probably is no such theory, and if it exists, ordinary people probably could not understand it.

Absent my quibbles, on foreign currency Marc Chandler knows far more than me. If foreign exchange and trade is of interest to you, you will benefit from this book. One more note: this is not a technical book with lots of math, and there is no technical analysis on its pages.

If you want to buy the book, you can buy it here: Making Sense of the Dollar: Exposing Dangerous Myths about Trade and Foreign Exchange

Full disclosure 1: I actually read the books that I review. Many reviewers don’t. They read the stuff the PR flack sends along, and read a chapter or two, and write the review. I throw away what the PR flack sends before I read the book. I give you my own opinion on the matter, nothing more, nothing less. Finally, if you enter Amazon through my site and buy anything, I get a small commission.

Full disclosure 2: long NUE

Comments

[onebir:]

"It would be reasonable to have a gold standard once more — the trick is setting the initial price level, so that it would not be inflationary or deflationary."
& hoping there are no economic shocks in the future...

Aug 29 09:58 AM

[swygert@law...:]

David, excellent and fair review of Chandler's book. But for learning about it from you, I probably would not have heard about its publication. Because the topic is of serious investment interest to me, I am Amazoning it today. Thanks.

Aug 29 12:11 PM

[LKofEnglish:]

well i wait with baited breath for the democrats to restore the gold standard. in the meantime currency crises are abounding everywhere as no one can value the basis for any of them. "competitiveness"? how to you measure that? by seeing who pays their sports stars the most? what the hell, right? this is about who can out-produce and out hustle "the other." in this "non-existent" inflationary world ("look at all the deflation, look at all the deflation!") seems the massive production of very valuable commodities and mfg'ed items that contain these commodities AS IT HAS BEEN FOR THE PAST 40 YEARS is STILL the place to be.

Aug 29 12:42 PM

[Dave Wrixon:]

Well carry on thinking that way, and it won't be China you'll be trying to compete with. It will be Haiti.

Aug 29 01:39 PM

[Living4Divi...:]

"Why do we lose industrial jobs in the US? It’s not foreign competition, though that may occasionally play a role when countries subsidize their industries. We lose industrial jobs because of technological improvements that require less labor in the manufacturing processes. As I have said, Nucor was a bigger risk to the rest of the steel industry than foreign competitors."

Dave - your above statement is simply not true.

Technological improvements are available to all nations and thus are not a competitive advantage. The Law of Comparative Advantage merely state that the country with the cheapest / most efficient cost of production will win all the business. If they decide to subsidize the cost of production thru mercantilism, they will be even cheaper still. We lost industrial jobs to third world countries PRIMARILY for the following two reasons, the third world countries have:
1.) Lower cost of labor
2.) Little environmental regulations/impediments

Aug 29 05:47 PM

[JeffDB:]

> "Many people think in non-systematic terms. They consider the US current account deficit to be an unmitigated disaster. They look at one side of the issue and conclude that the US has become less competitive.

Understanding accounting, the books must balance. Not everyone can run a current account surplus. Some countries must run deficits in order to purchase goods from those that run surpluses. Capital account surpluses balance out current account deficits; net foreign investment fills the gap." >

I understand that the books must balance, and that some countries must run a deficit if others run a surplus, but it still seems like running large deficits EVERY year is a problem for the country running those deficits, and perhaps even for the countries running large perpetual surpluses.

I'm no economist nor historian, but I've read that the reason the US went off the gold standard was because other governments were losing confidence in the dollar and were exchanging them for gold which was causing a huge drawdown in our reserves. That may not have been primarily about our trade deficit, but it seems to me as if the same type of thing happens with a continuing trade deficit.

For instance, as I understand it, a large part of our trade deficit is due to massive oil imports. According to the EIA we're importing some 9,783,000 barrels per day www.eia.doe.gov/basics... . Oil prices are about half what they were when they peaked last year, but even at $72/barrel that comes to some $704,376,000 per day that we are shipping out of the country.

Sure, if they turn around and buy our Treasuries, or companies either through stocks or outright purchases "the books balance", but that still seems to me as if it is a very big problem if it continues year after year, decade after decade. It is an ongoing transfer of wealth from our country to other countries.

Over time, I think it jeopardizes the first two advantages we currently enjoy that you state have "made the US dominant in global economic affairs", namely, military superiority, and political calm. The Soviet's military didn't protect them from an economic meltdown. In fact, over spending on the military likely played a role in eventually bringing them to their economic knees, which in turn caused major problems for that military juggernaut.

> "The country taking the non-economic action will eventually pay the price. ...China will suffer for over-promoting growth of exports." >

I definitely agree there, but it seems to me as if you are understating the problem somewhat when you say:

> "It is not costless for countries to run current account deficits." >

I also agree with the statement that:

> "There are advantages to being the world’s reserve currency." >

But there are disadvantages as well, much like being the largest customer for a supplier gives one a lot of leverage, but may also get both into serious trouble if one uses that leverage to get too far into debt.

It also leaves us doubly exposed if we lose that advantage, and other countries are already starting to make rumblings about moving to a new world currency, and some countries are already slowly moving to other currencies for trading:

www.youtube.com/watch?...

Aug 30 01:07 AM

[JeffDB:]

I agree with Living4Dividends in taking issue with this paragraph:

> "Why do we lose industrial jobs in the US? It’s not foreign competition, though that may occasionally play a role when countries subsidize their industries. We lose industrial jobs because of technological improvements that require less labor in the manufacturing processes. As I have said, Nucor was a bigger risk to the rest of the steel industry than foreign competitors." >

My father-in-law is a retired carpenter, now in his 80s. He remembers when electric saws and drills were first coming out and the unions were opposed to them. They knew that would eliminate a lot of jobs and didn't want any part of that.

They didn't prevail, however, and the use of electric tools became very common. They were correct when they feared that contractors could then build homes more quickly with fewer carpenters. BUT, they could therefore build them more inexpensively, and it was easier for people to afford them. And more people ended up buying them.

The bottom line when all the dust settled was that they actually had MORE carpenters working because of the innovations that they had originally opposed.

Aug 30 01:15 AM

[Responsibility:]

As several previous commenters have pointed out, the point is not just to understand accounting (we already have too many accounting explanations, I believe), the point is on how to move an economy forward.

The points are on how to "offer attractive opportunities for foreigners to invest in their country" and on how to compete in continuing development, not to blame Nucor, but to have more of those "carpenters" who know what to do with new tools, as pointed out by another commenter.

On the last point of alleging to "China will suffer for over-promoting growth of exports" is just as misplaced as some one alleging to "US will suffer for over-promoting of world trades". Problems come about not because of "exports" or "world trades", but because of deficiencies some where else, such as in competitiveness, and appropriate management and government controls. Competitiveness is required for success in exports.

Aug 30 04:18 AM