March 12, 2008
"Bush Would Like a Stronger Dollar"
That's the title of a post in today's WSJ RealTime Economics:
President George W. Bush said in an interview today with Nightly Business Report that the dollar's fall to record lows against the euro is not a good thing and he "absolutely" wants a stronger dollar. Excerpts:
Figure 1: Log real trade weighted value of dollar against a broad basket of currencies (blue) and against major currencies (red). Note: Squares are March figures accessed on March 12. Source: Federal Reserve Board.
Q: You mentioned that one of the reasons that's driving up the price of oil is the dollar. You have said that you are for a strong dollar. Do we have a strong dollar now?
Bush: We have a dollar that's adjusting, and I am for a strong dollar. One reason I am for a strong dollar is because I want, you know, people to -- I think it helps deal with inflation. And you're right, the weakening dollar has affected our capacity to be able to purchase energy. I mean, we're dependent on energy from overseas. Our dollar doesn't buy as many barrels of oil as it used to, and so therefore it's more expensive for the American people. And that's why I'm for a strong dollar; one reason.
Q: But the dollar is down against the euro, something like 45%, over the last six years. And today it hit a new low against the euro.
Bush: No, I know. And it's not â€” those aren't good tidings, if you're for a strong dollar like I am.
Q: Would you like a stronger dollar?
Bush: I would, absolutely. And there are certain things that we can do. We can send signals to the world that their capital is welcomed into the United States, that we'll fight off protectionism, and that we'll deal with this -- you know, the dollar was strengthened when people realized the relative strength of our economy. And one of the things people are watching carefully is, will the United States government put policy in place to stimulate growth without affecting long-term growth? In other words, without passing laws that make it harder for investment, or harder for capital to move, or harder for markets, labor markets, to remain flexible.
I think that President Bush has a good insight in focusing on long-term growth as a determinant of the dollar's path. In particular, I want to highlight the fact that the dollar's decline began before the Fed starting slashing interest rates. In Figure 2, I plot the real value of the dollar against major currencies and the US-euro area real interest differential (the interbank rate minus lagged one year inflation). Even as the US-euro area real interest differential increased in 2005-06, the dollar was declining. At that juncture, I asked: What happens when US policy rates stop rising? We know the answer now.
Figure 2: Log real trade weighted value of dollar against a basket of major currencies (blue) and nominal interbank interest rates adjusted by lagged 12-month CPI inflation (red). NBER defined recession dates shaded gray. Source: Federal Reserve Board, NBER, IMF International Financial Statistics, and author's calculations; January Euro Area HICP from ECB.
Why is the dollar declining? I think part of it is the interest rate effect (which is driven by Taylor rule fundamentals). Part of it is the portfolio balance effect (dollar denominated assets are just plain less attractive relative to a couple years ago, when some observers were waxing eloquently about deep and liquid US financial markets). But I want to stress two effects less often remarked upon.
- Wealth effects
- Trend GDP effects
Wealth effects: Amidst all this talk about losses being incurred, I think there is the belief that someone's gain is another persons loss. That's partly right. But I also think that perceived wealth is shrinking; as this occurs, consumption decreases. Since US consumption is biased toward US goods, this means the dollar should weaken.
In addition, while some people have hailed the fact that the Net International Investment Position (NIIP) in dollar terms has not declined as a share of US GDP over the past few years, I want to note that as the dollar has declined, US income and wealth measured in terms of what it takes to buy foreign goods has declined . (Exogenous terms of trade effects including higher real oil prices also reduce net wealth).
Trend GDP effects: What's been little remarked is that anticipated trend growth, as measured by median estimates of expected 10 year growth rates, has declined from 3.3% in February 2005, to 2.75% last month (median responses from Survey of Professional Forecasters, February 2005 and February 2008). This development can be linked to the dollar's trend trajectory in two ways. First, wealth is sometimes thought of as the present discounted value of an income stream (so this is independent of the "wealth effect" insofar as there is some failure in rational expectations, or there are distributional effects). Second, a big chunk of the revision to GDP growth is due to a revision in anticipated productivity growth; this has ramifications for the real exchange rate either through the Balassa-Samuelson effect, or through some other channels (see this post).
Bottom line: The "adjusting" dollar is, of course, partly a consequence of the monetary policy that is now being implemented. But it would be wrong to ascribe all of the dollar depreciation to the Fed's policies. I'd say that -- when considering the sources of the dollar's decline -- think of what policies induced year after year current account deficits ; think about what policies (or failure to enforce laws) allowed the subprime mortgage debacle to occur ; think about what policies encouraged consumption and discouraged national saving (the sum of private saving and budget surplus) . Something to consider when contemplating this quote in Bloomberg:
"The dollar looks in real trouble and there is no obvious resistance level against the euro," said Greg Gibbs, a currency strategist at ABN Amro Holding NV in Sydney. "I don't think you can pick a level for where it will stop."
Posted by Menzie Chinn at March 12, 2008 06:33 PMdigg this | reddit
When Greenspan attempted to paper over glaring deficits in national security on the heels of the Oslo Peace accord-inspired Sept. 11 box cutter attacks, he set in motion this decline of the US dollar.
I want to suggest that the apparent decline in US hegemonic capital has reduced America's status as the safest place on earth to invest and has reduced the ability of the US to intervene globally to prop up capitalism. However, the bond yields suggest that the US is still a safe place to invest. Or global bond investors are no more sophisticated than real estate investors. Hard to tell, frankly.
Moreover, it seems clear that US fiscal, monetary and energy policy mis-steps have hurt investors regardless of origin more than failing and costly, bloody US colonial policy. Those costs will reveal themselves over the next few decades I imagine.
Menzie Chen: Is there anybody defending the Ricardian Equivalence hypothesis these days? When will private savings sky rocket?
As for the Bloomberg quote, is that a precocious sign that the bottom is near? Any reasonably sophisticated investor I know fled from US dollar denominated assets in the very early part of this decade.
Posted by: E. Poole at March 13, 2008 05:41 AM
there is a lot of speculation against the dollar. some is in the form of turning dollars into commodities. if the fed hikes 25pts it will bring commodity prices DOWN.
drive the stake into the heart of the anit u.s. speculators!
Posted by: oops at March 13, 2008 06:05 AM
I think that President Bush has a good insight...
Who has what now?
Good luck with him trying to talk up the dollar when the fed looks set to drop by another 50 next week.
Posted by: daveNYC at March 13, 2008 06:09 AM
Is it not perhaps as simple as Warren Buffett's analogy of the United States? That the US has for years acted like a large rancher in Texas who long ago stopped having grown anything to sell to his neighbors so he just keeps selling off pieces of his property, a property so large that for a long time he doesn't even notice it. I think that is as good an answer as any of the most academically accurate but isolated from reality theories that abound today. Either the rancher starts to productively use ranch or he sells off all his land and goes to live with rich relatives in Asia.
Posted by: Footwedge at March 13, 2008 07:00 AM
As long as the U.S. continues to run current account deficits, these deficits will inexorable force the dollar down in terms of its foreign exchange value – and no consortium of central bankers, treasury secretaries, et al. can stop the process.
These deficits are primarily the consequence of (1) a non-competitive economy – the U.S. needs to sell higher quality, lower cost, goods & services, (2) our dependence on imported oil, and (3) the Pentagon’s unilateral transfers to foreigners.
We are now currently selling our birthright for a mess of pottage. We are a financial hostage to the Pacific Rim, the oil exporting countries, etc.
Unless we are willing to make those fundamental reforms requisite to successfully competing in international markets, the continued decline of the dollar will finally force a payments balance on us.
Under these circumstances, we can expect long term deterioration in the standard of living of the vast majority of the people in this country.
"Today oil imports comprise a small part of the US trade deficit. During the decades when Americans were fixated on "the energy deficit," the US became three to four times more dependent on foreign made manufactures. America's trade deficit in manufactured goods, including advanced technology products, dwarfs the US energy deficit." --- Paul Craig Roberts
Posted by: flow5 at March 13, 2008 08:22 AM
Did you seriously say that President Preschooler has insight? Insight into......
Posted by: Thinker at March 13, 2008 08:51 AM
Well if the president wants a stronger dollar, there's an easy way to do that. Je can demand the acceleratation of the end of his tax cuts to this year instead of 2010, which will reduce deficits, limit money available, kimit deamnd for imports, and appreciate the currency. He should also lean on his buddy Benny B to tighten up if he thinks it's such a concern.
Oh wait, he wants to do the opposite? Well that doesn't sound like someone who had enough sense to earn an MBA, or a B or A in any Macro course that I'm familiar with. Must be that higher learning in the Ivy League...
Posted by: Jake Miller at March 13, 2008 10:05 AM
E.Poole: Sorry, I'm not a "big picture" guy. For me, I'd just say there are a series of policies that have led to decreased demand for dollar denominated assets relative to others. Some are cyclical, some are secular, some could have been avoided if responsible fiscal, regulatory, and financial policies had been pursued, but we (as a country) opted to party it up. So now we will experience both trend and cyclical movements in the terms of trade.
In answer to your question, few believe in pure neo-Ricardian equivalence holding as Barro modeled it. But partial equivalence I think is the consensus view.
oops: I didn't know being a speculator was being anti-American.
Thinker: Even a broken clock is right twice a day.
Posted by: Menzie Chinn at March 13, 2008 10:52 AM
Talk is cheap. The President can say all he wants to about a "strong dollar". But unless he suddenly starts channeling Bob Rubin, he is NOT for a strong dollar.
Actions speak stronger than words.
Myself, I think that a sub-100 yen is exactly what this country needs. Give some breathing room to Detroit, drive the Japanese, Germans, and Koreans to invest here even more than they alreay have, etc.
The... unorderlyness of the decline may shock you, but the direction is correct.
Posted by: Buzzcut at March 13, 2008 11:14 AM
Detroit's problems have nothing to do with exchange rates. They simply hate buyers of small cars - and there's not enough time for them to turn it around.
Posted by: M1EK at March 13, 2008 01:36 PM
menzie- good job calling me out on that. i just don't want another bank of england versus soros outcome here so my post should have been clear that i only want a stake driven into the hearts of the dollar shorts and the gold and crude oil longs to the benefit of their counterparties.
Posted by: oops at March 13, 2008 03:58 PM
Actually, what is needed here IS a BoE v Soros outcome so that the use of inflation as an economic tool if finally and fully discredited and the architect of the current iteration thereof is expelled into the street in disgrace and with disgust,
and perhaps, for penance, forced to shave his beard until he is able to aver, "the great moderation was an illusion, an illusion of fictitious wealth" followed by a simple "I was wrong."
Posted by: esb at March 13, 2008 04:46 PM
well since his mandate is both employment and inflation he's got a pretty tough job this go round. no need to for things to go as far as 1992. hike 25 pts and see how much of this is inflation expectation and how much much is leveraged hope for it.
Posted by: oops at March 13, 2008 06:35 PM
For the first time in a long time, I find myself in agreement with Buzzcut. Given Administration economic policy, it would be counterproductive to try to prevent the dollar from falling. The attempts by the Fed and other central banks to prevent a disorderly decline are fine, but ultimately equilibrium needs to be re-established.
That equilibrium will drastically reduce the capacity of the United States to meddle in the world either financially or militarily and will force future presidents to genuinely work with allies rather than pretend our way through wars. These are good things.
As for oops, I have no idea why s/he is opposed to people shorting the dollar. For the last five years, it has been one of the few investments that has reliably paid off. When the Administration stops running massive deficits and initiates genuinely pro-growth policies, dollar shorts will be happy to short the Yen, the Euro, or any currency whose sponsoring government is doing foolish things.
Posted by: Charles at March 13, 2008 08:07 PM
China certainly liked the strong dollar. Made its exports more than competitive. Is Bush planning on moving to Asia?
I don't see how we are going to stimulate growth if trade is so lop-sided. Footwedge's ranching analogy hits the target. When was the last time we actually had a trade surplus? 1976? Yes, it does take a long time. Our last credit bubble (housing) has burst.
And what does GW mean by fewer laws restricting investment? Investment in what? Mortgages? The home-owner society? I guess he means more innovative financial vehicles so that we can push our credit limit a bit further.
I see little that has happened in the last 8 years to stimulate anything other than disaster.
At some time, it all comes down to trade. On that score GW has never anything to say.
Posted by: Stormy at March 14, 2008 12:15 AM
o.k.- for clarification: i am neither opposed to people shorting the dollar nor opposed to the right to do so.
this has nothing to do with my desire to see the shorts have their shorts handed to them. every one of them knows that they may well be short at what could be the bottom.
Dollar Puts Morgan, Goldman on `Intervention Watch' (Update4)
We're on an intervention watch,'' Stephen Jen, Morgan Stanley's London-based head of foreign-exchange research, said in a telephone interview. ``While I don't think we have reached the threshold yet, the argument in favor of it is gradually becoming compelling.''
Posted by: oops at March 14, 2008 10:26 AM
Well, oops, I think intervention could trigger the very crisis that policy makers want to avoid.
There are fundamental economic reasons the dollar is declining, notably deficits. If governments prevent it from adjusting down, they will exacerbate the underlying problems, while burning lots of the reserves they need to keep the world economy out of recession.
If the Japanese want to weaken the yen, they could do it by increased government spending, as one example. Increasing healthcare and widening access to education would be very popular and helpful to the economy. But why shouldn't they enjoy a strong yen and the increased buying power it gives to ordinary Japanese? They are in the enviable position of having reserves deep enough to do both.
Meanwhile, the US needs to be attacking its trade deficit not by wrecking the dollar with massive governmental deficits, but by creating industries that make things that the rest of the world wants to buy. That in turn implies cutting military spending and redirecting the savings to infrastructure, education, health, and research.
Currency, like any investment, can go down as well as up, so a well-diversified portfolio is advisable.
Posted by: Charles at March 15, 2008 10:25 AM
"Meanwhile, the US needs to be attacking its trade deficit not by wrecking the dollar with massive governmental deficits, but by creating industries that make things that the rest of the world wants to buy."
True. And there is a solution. it is not ... "That in turn implies cutting military spending and redirecting the savings to infrastructure, education, health, and research."
Egads, govt industrial programs are not it. Let us be clear: military spending is less than a quarter of total federal spending and less than 15% of total US government spending.... attack the other wasteful 85% of spending and you will
The real problem is this: In the USA we tax production, investment and work and dont tax consumption.
We need a tax system that taxes income/production/work less and consumption more.
Posted by: Anonymous at March 15, 2008 11:42 PM
Anonymous says, "military spending is less than a quarter of total federal spending and less than 15% of total US government spending"
Not true, Anonymous. The defense budget is scattered over many agencies. The Pentagon is only one part of it. Much of the intelligence budget is military. Veterans benefits is part of military spending. There are defense dollars among what is labeled "research." And then there's interest on the debt, much of which was incurred by wars. Even excluding interest, spending was $626B in 2007. Add in the interest costs, and it's probably close to a trillion, close to half of the budget.
I also think it's a mistake to mix in Social Security or Medicare, since those are paid for separately. Although they are called "taxes," they are really insurance.
Let's put it in simple terms. Suppose you were the executive in charge of America, Inc. The company is on the verge of bankruptcy. You have to find $1 trillion in savings, representing the approximate combined trade and budget deficits. What do you cut?
I think it's pretty obvious. The Iraq War and Missile Defense are at the top of the list. Healthcare, for which Americans pay roughly 50% more than any other industrialized nation while failing to insure many, has to be rationalized. Even with all the cutting, taxes almost certainly have to be raised.
Many people say that "wasteful government spending" is the cause of the budget deficit. But when you try to pin them down, they don't have specifics. The Republicans had four absolutely uncontested years to cut wasteful spending, not to mention another six years when they controlled Congress. Instead, they increased spending at the most rapid rate in recent memory.
At some point, people should understand that "wasteful spending" is a phrase to trick the rubes. The US is the most lightly taxed of the industrialized nation and it has the largest military establishment, by far. That means that the amount of money to actually run the country is the least of any industrialized country. The nation is beginning to fall apart.
Ask yourself, sincerely: is that what you want?
Posted by: Charles at March 16, 2008 11:44 AM
The fall in the dollar, while unorderly, is exactly what the doctor ordered.
The idea that the US doesn't have a manufacturing or export sector anymore is absurd. The US has a very productive manufacturing sector. The dollar will supercharge exports.
In future quarters, look for exports to start really chugging along.
And should the dollar stay weak, in the longer term, look to the export sector to make up a very large part of GDP growth. The Japanese get half of their GDP growth from exports, so I don't think that something similar for the US is out of the question.
Posted by: Buzzcut at March 17, 2008 07:26 AM
Dady, please help me: "Is it truth that the dollar is disappearing?"
Dear son, "our new private currency is called $euro, our new private central bank is called independency and our public debt has become world fraternity."
Posted by: Alternative at March 20, 2008 05:49 AM
All the post give reasons, mostly valid, for the reason the dollar is tanking except the obvious. It's tanking because the people controlling our government are bent on levling down the world. This isn't happening because it isn't intended. Economics isn't the problem, it's politics. WW
Posted by: Wixeywaxy at March 22, 2008 02:06 PM