Posted on 07/11/2007 11:04:36 PM PDT by bruinbirdman
Yesterday, the pound and the euro hit their highest levels in a generation against the US dollar. The dollar, meanwhile, collapsed to a record low against an average of all the world’s major currencies. It is tempting to interpret the flight from the dollar in financial markets as the clearest, most objective, indicator of America’s relative decline.
Europe has long been derided as an ageing, sclerotic continent, doomed to irrelevance in a world dominated by America and Asia. But could it actually be America, not Europe, that is failing to compete in the globalised world economy and is now threatened with long-term decline?
Much that is happening in the world today certainly seems to belie the hubristic assumptions about American hegemony that were so prevalent a few years ago. It is not just the military debacle in Iraq and the geopolitical setbacks suffered by American diplomacy from the Middle East to Venezuela to North Korea. Less prominent in the media headlines, but in some ways more troubling, are the indicators of economic underperformance: the reliance on foreign borrowing (now equivalent to $2,000 annually for every American man, woman and child); the loss of Wall Street’s global dominance in financial services to the City of London; and now to cap it all, the dollar collapsing to record lows. Surely this is the ultimate vote of no confidence in the US economy by people who are best placed to know?
Sadly, for those of us who live in Britain and Europe and would like to believe that the strength of our currencies reflects our superlative economic prospects, the answer is an emphatic “no”. There was a time in the 19th century when the strength of sterling reflected Britain’s unparalleled prosperity and imperial power. But since the deregulation of currencies and financial markets in the 1980s and 1990s, currency strength has conveyed almost no information about the health of a national economy – and none at all about a country’s competitive position in global trade. For example, anyone who believes that the falling dollar reflects America’s huge trade deficit and foreign borrowing should consider that the one leading currency even weaker in the past three years than the dollar has been the yen; yet Japan has the world’s biggest trade surplus and is the greatest creditor nation the world has ever seen.
To the extent that any relationship has existed between currencies and economic performance, it has usually been the “wrong” way round – rising currencies usually preceded periods of economic decline, while weakening currencies have presaged economic strength. Think, for example, of the collapse of sterling in 1992, which ushered in the strongest and longest period of economic expansion in British history.
Or consider the strength of the US economy in the late 1990s, just after the dollar fell to its previous nadir in 1995. Even more spectacular has been the decade of growth in China since its currency collapsed to a record low in the Asian crisis of 1997. On the other side of the ledger, there has been Japan’s stagnation after 1995, when the yen hit a record high, and Germany’s lost decade after the surge in the mark that followed German reunification and the eurozone’s dismal economic performance from 2003 to 2005, as the newly created euro appreciated by 60 per cent against the dollar.
There are many explanations for the apparently perverse relationship between currencies and economic performance, though none of them is watertight. For example, currencies tend to strengthen in response to rising interest rates and fears of inflation – which are obviously bad for economic performance – but also in response to strong economic growth.
On the other hand, a currency may weaken because inflation prospects are improving, as they are in the US at present, or because investors fear a financial collapse, which some believe to be a looming in the US mortgage market. But if the causes of currency strength are ambiguous and contradictory, the consequences are clear. A currency that keeps rising, as the euro and sterling are at present, will eventually do serious damage to almost any economy, hurting export competitiveness and stunting growth.
This is what happened to Britain and America after the pound and the dollar appreciated excessively in the early 1980s and again in the early 1990s. It happened to Germany and Japan in the mid1990s and again in the middle of this decade to the eurozone. Europe and Britain enjoyed some relief in 2005, when the euro and the pound temporarily weakened.
But now they will have to bear the full brunt of excessive currency strength. In Britain’s case, the strength of the pound may not do too much harm, since it will forestall or at least delay any further rate rises from the Bank of England. On the Continent, however, the European Central Bank seems determined to keep raising interest rates, thereby exacerbating the damage done by the euro’s excessive strength.
Americans, meanwhile, will enjoy the benefits of a super-cheap currency, which will more than offset falling property prices and problems with a small minority of mortgage loans. American politicians, for all their faults, instinctively understand this, which is why they have generally welcomed a falling dollar and have been pressuring China and Japan to let the dollar weaken against the yen and the renmimbi – not just, as at present, against the euro and the pound.
European policymakers, by contrast, seem to have no idea of how currency markets operate. In contrast with Americans and Asians, German politicians in particular still see a “hard currency” as a virility symbol – not as a threat to economic performance or an indicator that interest rates are probably too high.
There is only one leading European politician who seems to understand the dangers of an overstrong euro. This is Nicolas Sarkozy, who travelled to Brussels this week to plead for a more expansionary economic policy in Europe. But his pleas were met with ridicule from the other governments and the ECB. Within two months of promising to spark an economic revival, the new French President has already been paralysed by the rules of the eurozone.
That is the reality of life in today’s Europe – and one of the main reasons why America, despite all its problems, will continue to dominate the world economy in the decades ahead.
Maybe if we spent less of our money taking care of the rest of the world....
Most of the economic weakness of America could be cured by the abandonment of the Stupid Tax [aka the income tax] in favor of a retail sales tax.
I think that the value of the dollar has more to do with manufactured goods sent out of the country verses goods coming into the country … nothing to do with moneys spent in humanitarian goals.
I already pay a sales tax.
yitbos
You pay one heck of a lot more than that. And I'm not just talking about income taxes, etc. The costs of our current system to business are built into the cost of everything you buy. Well, at least anything made here. Foreign produced products pretty much get a free ride in that regard.
The NRST would turn that around. Our products would suddenly become much more competetive in the world market, and imports would finally be taxed - at the point of sale.
Listen, I’m all for lowering taxes, but isn’t a little silly to say that the U.S. dollar is losing strength because of taxes when we are comparing it to the euro?
I’m describing the primary reason for any weakness in America economically. The way we tax ourselves is stupid.
Interest rates are flat, our economy is stronger now than
ever, the budget deficiet has shrunk to $200B. Gas prices have not caused rampant inflation as predicted by those oh-so-smart
Keynsians.
Of course the U.S.A had record vacation travel this past 4th of July.
You gold bug contrarians better take your measly dollars now.
Not many Reagan supply siders on this post.
True, but our income tax is lower than just about every nation in the Euro Zone. If income tax rate was the source of monetary weakness, then the euro would be in the dumps, not the dollar.
The dollar is stable. If the lowered value oin the dollar U.S.
was monetary weakness then inflation would be climbing. It’s
not. The internal rate of infaltion is incredibly low.
Stop reading the Times and listening to Michael Weiner.
if our economy is so bad why is gold about to take a hit?
After all is’nt that the hedge against a weak dollar and inflation? Those notions are antique.
The only way the unproductive nanny-state we have now can possibly be financed, even for the short term (and G-d help us in the longer term, what with the Ponzi schemes of SS and Medicare and whatnot) is to keep inflating the currency.
Suggest buying Swiss shares, Nestle particularly. LLF, Leo Longlife is a very decent (and highly profitable) Finnish company. Water stocks will repay well for the rest of my lifetime.
Also, recommend buying Aussie and NZ $ on any dips for the long haul. You won't like the reasons, and they're both too socialist for my taste, but the fact of the matter is that they CONTROL, and filter out, the unproductive would-be residents. The US does not.
Fearless forecast: NZ $, with or without Helen Clark's moronic socialist party, will reach parity with the US $ in less than 10 years' time, probably less than 6 years' time.
Oh, a National Retail Sales Tax.
yitbos
USD is and will continue to be in a downtrend because the powers that be, the Fed certainly first among them, are inflating USD with both hands, 24/7/365.
F'Heaven's sake, look at any 10 yr chart of the dollar vs Sterling, DM/Euro, Swiss, Aussie, Canadian, NZ $. Have to be bloody BLIND not to see what's happening.
Geez.
Comparing the relative strengths of two semi-socialist economies is about as interesting as comparing two gays
in a slapping contest.
The dollar is losing value because in the aggregate, we print them faster than other countries print theirs...
I used to like DeutscheMarks. When they reached 2 to the buck they switched to the Euro.
Good thing there are ways to beat inflation other than currency trading.
yitbos
However, massive illegal immigration, and growing underclass not fluent in English, nor assimilating to our culture nevertheless going on the public dole in the millions, coupled with a noticeable decline in customer service (including the now "para Espanol, inprime el numero dos"), are all signs of concern. I think in many respect America's best days are behind us. No amount of patriotic vitriol can move basic, hard, stubborn facts.
If we don't watch out, India and China are also about to eat our lunch--although I doubt I will be around when that finally comes to fruition.
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