The Dollar: Will It Fall Further?

Excerpt from Raymond James Economist Dr. Scott Brown's latest economic commentary:

Over the last year or so, policy actions by the Federal Reserve and the U.S. government have generated some concerns about the exchange rate of the dollar. Will exceptionally accommodative monetary policy fuel inflation and weaken the dollar? Will large budget deficits lead foreigners to abandon U.S. assets? Who speaks for the dollar? Will it fall further and can anything be done to prevent it weakening?

Let’s get this straight. The dollar falls under the jurisdiction of the U.S. Treasury, not the Federal Reserve. The Fed will not raise short-term interest rates to defend the dollar. However, the Fed may intervene in the currency markets, buying dollars and selling foreign currencies, but only at the request of the Treasury Department. Officially, Treasury has a “strong dollar” policy, but there’s no precise definition of what that means and what it would take for the Treasury to intervene in the currency markets. Moreover, the exchange rate of the dollar is a price and depends on supply and demand. Currency market intervention could help in the short-term, but there’s little that the Treasury can do to counter longer-term pressures on the dollar. Global policymakers are not upset about any particular level of the exchange rate, but they are concerned about “disorderly” moves and currency market volatility. Large, choppy moves tend to be destabilizing to global trade and financial stability. In the near term, we may hear some jawboning on the dollar, as a low-cost way to reduce volatility.

...

Every couple of years, some OPEC official talks about pricing oil in euros, or a basket of currencies, or anything but the U.S. dollar. Does it matter if oil is not priced in dollars? Absolutely not. The U.S. would still buy oil in dollars and it would be converted to whatever the benchmark currency is.

The one major unknown is China. China continues to amass currency reserves at an unsustainable rate. However, just because it’s unsustainable doesn’t mean that it can’t go on for a lot longer. Over the last year and a half, China has stopped letting its currency appreciate against the dollar. Unless the trade deficit with China falls dramatically, the Chinese currency must be allowed to rise against the dollar at some point.

A variety of forces are at work on the dollar. The greenback may be a bit soft in the near term, but there’s no reason it won’t hold up against the major currencies over the long haul.

Comments

[CautiousInv...:]

In his most recent book, Monetary Regimes and Inflation: History, Economic and Political Relationships, Peter Bernholz analyzes the 12 largest episodes of hyperinflations - all of which were caused by financing huge public budget deficits through money creation. His conclusion: the tipping point for hyperinflation occurs when the government's deficit exceed 40% of its expenditures. By the accounts of the OMB, we will be there this FY and next.

And over the weekend John Mauldin, in addition to commenting on Peter Berholz's book, observed there is every likelihood our debt will exceed 100% of GDP by 2015 or sooner. This is a critical threshold at which interest payments and ongoing borrowing needs becomes so burdensome that the process become unsustainable unless taking place within the confines of high savings rate. Thus, the US is not an exception.

So we meet two critical thresholds............... it very likley the US dollar will continue its steady descent downwards even though there may be fright-based rallies here and there where safety is sought in an increasingly vulneravle sanctuary.

Oct 13 11:24 AM

[5142152-337:]

See, the USD is safe as a bug in a rug! Why worry? Tax cheat Timmy is at the helm (of the Treasury) and he will fix ALL our monetary problems. Are you doubtful of his expertise? Don't be. He is a very smart man. Just ask Obama, hahahahahahahahahahaha... (Disclosure: The preceding was tongue in cheek)!

Boy, are we screwed (as a nation). I'm just glad I saw this coming in 2006 and accumulated all the physical gold and silver I could buy! Now its just time to wait this "event" out. Better get some NOW!

Oct 14 04:50 PM