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.
Yours is an interesting perspective.
The dollar is stable? When? Today? Can you read a chart?
http://preview.tinyurl.com/2th343
The dollar has been falling for over a year now and right now is on the brink of collapsing to 72. 8 points down from where it is now. It’s going to happen very soon and ALL imported goods will rise accordingly. It’s falling as I type and gold is rising and will continue to rise against a falling dollar.
Our economy as Paul Volcher stated is “the best economy money can buy”. The government and the Fed have been pumping money into this economy like there’s no tomorrow. They have to to keep it going forward otherwise we are looking at a recession/depression which nobody wants. The government has been lying their asses off to us about inflation being around 3% a year when in reality it’s about 10% right now. If you haven’t noticed rising costs you must be blind. And it’s going to get worse. Much worse.
The Euro is appreciating against the dollar because they have been raising interest rates which strengthen the Euro. The US does not have that option now as it would collapse the economy with all these sub-prime mortgages would default and go into foreclosure. Foreclosures are happening at an alarming rate and are going to get worse.
Obviously you don’t know economics or any history of fiat money and gold. History has stamped gold and fiat money like a sledgehammer for those that know it. You may think “it’s different now” but those are mighty empty words against the deluge of lessons history has to offer.
The Russian ruble, meanwhile, has been increasing in value against both the dollar and euro.
My suggestion to all of you is: get ready for a huge increase in export sales.
Those having surplus dollars will try to take advantage of the price of American goods, which just became cheaper. Think of it as a “bargain sale” in which someone gave you extra currency just before you go to the store.
Duh...
Is America's decline based on the willingness to spend a familys future for debt over cheap Chinese toys?
Double Duhh...
Right now the US is printing money or hard drive money at 13% over last year. But other countries, some even more, are doing the same thing. It’s all to stay competitive with the other currencies (keep those factories churning).
If the government were to stop printing all the “excess” money then we would have a disaster but they won’t and we won’t have one, I hope.
The decline of the dollar has everything to do with this massive over printing of money, trade deficit included. But as you say it should “self correct”. The thing is that other countries don’t want a plunge in the US dollar so they will help support a slow and downward spiral of the dollar. How far will it fall? I don’t know other than the figure of 72 that I stated. Once a equalibrium has been established we can go from there. I have no clue when that will be. Or how bad or not so bad.
...agreed. The fear of the USD adjusting internationally isn’t based on facts. We enrich other nations by importing from them, so they want more. Thus, their currencies go up in relation to ours. As currencies equalize, more manufacturing in the USA will happen. It should be a more widely accepted economic cause-and-effect occurrence.
We should be more afraid of an internationally high dollar. We need more American savings and less debt in order to own and control more of our own economy. Special interests should be stopped from trying to pressure the Fed. and mess with the dollar so much.
I agree. And our higher exports show the lower dollar is working.
After reviewing the posts on this thread, it’s appears quite obvious that allot of the posters never got past the title.
Don't forget our superior helicopters. All the printing presses in the world won't do any good if folks aren't out their borrowing, spending and bidding up assets.
Which leads to the conclusion:
"America, despite all its problems, will continue to dominate the world economy in the decades ahead."
The discussion, nevertheless, is most interesting.
yitbos
Cheap USD ought to mean increased tourism from abroad and, what about the stock market? I wonder how much of the bull market can be traced to (medium/ longterm) investment from overseas?
Its good for us to visit you, spending money left, right, and centre all day in Manhattan, but there is a flip side.
Britain’s strong economy is only propped up by massive borrowing and bloated property prices. If interest rates go up by another 1% in the next 18 months, this charade will come crashing down. It happened in the late 1970s. Then you folk will be over here spending your 1 dollar pounds !
From the article:
". . . 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."
yitbos
How is an overly expensive Europe that is impossible to do business in better than a high volume economy like the USA?
It me means more manufacturing and service jobs here.
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