Dollar Bubble Might Be Trap for Bush
By Art Pine
Washington, April 18 (Bloomberg) -- For the three months that George W. Bush
has been president, his administration has managed to avoid any serious
problems involving the U.S. dollar on the foreign exchange markets.
During that period, the volatile U.S. currency has continued to strengthen, even in
the face of falling stocks. Nevertheless, some analysts fear the U.S. may be
heading into a trap.
Every day that the dollar rises the competitiveness of U.S. industry is hurt and
any reduction in the $435 billion U.S. current account deficit is delayed. That in
turn heightens tension on the dollar, setting it up for a steep dive some day.
``The dollar is the last bubble still intact from the excesses that the U.S. economy
accrued during the late 1990s,'' said Stephen Roach, Morgan Stanley Dean
Witter's chief economist. ``Like the Nasdaq at 5,000, some day it's going to
burst.''
To be sure, it's hard to see much support for that view out in the foreign currency
markets.
The dollar has been rising steadily in the face of the slowing economy in America,
the fall of U.S. equity prices and the rapid decline of interest rates -- all of which
should have sent the U.S. currency into a slide.
13.6 Percent Climb
When U.S. markets closed on Monday, the dollar had climbed 13.6 percent
against the Japanese yen since the slowdown began in the third quarter of last
year and 5 percent against the euro. Most analysts expect it to continue rising
indefinitely.
Even so, the issue is important. Economists say the U.S. needs a high dollar to
attract sufficient capital from abroad to finance its mushrooming current account
deficit, which is rapidly approaching 4.5 percent of the economy's total output.
Yet, if the pessimists prove correct and the dollar does begin to fall, it might
disrupt the economy's recovery, add to inflation pressures and constrain the
ability of the Federal Reserve to cut interest rates more.
Fed Chairman Alan Greenspan has several times warned in testimony that the
outsized U.S. current account deficit poses a risk for the economy -- and the
dollar -- and Fed officials have been keeping close tabs on the U.S. currency's
movements.
``With the U.S. current account deficit so large, once the dollar goes south, you
can never be sure how far it will fall,'' said Edwin Truman, a key policy maker in
Bill Clinton's administration who is now at the Institute for International
Economics.
Plaza Accord
Indeed, Ronald Reagan's administration sought to nudge the dollar down gently
under the Plaza Accord in 1985 and wound up triggering a tailspin that left the
currency 33 percent lower in just 17 months. It took years for the dollar to recover.
In the late 1970s, traders thought that Treasury Secretary W. Michael Blumenthal
was trying to ``talk down the dollar'' in an effort to boost the value of the yen. The
effort backfired, and the dollar plummeted far more than Blumenthal wanted.
In some ways, the dollar's rise this time has been a puzzle. The U.S. economy
has slowed from boom to near-recession. The Nasdaq Composite Index has fallen
62 percent from its peak in March 2000. The trade deficit is widening. By most
standards, the dollar should have plummeted.
The markets have stuck with it because there's no real alternative. Japan is mired
in a slowdown, and Europe has political and structural problems. Even with its
cooling economy, America still is a better place to invest.
Competition From Above
The strong dollar was a boon during most of the 1990s. It kept inflation down by
inviting more competition from abroad. It also helped attract waves of foreign
investment needed to finance the expanding U.S. trade deficit and to spur
domestic growth.
Today's situation is different. The continuing rise in the dollar's value is hurting
U.S. manufacturing, making it more difficult for firms to export and crimping their
balance sheets by reducing the value of repatriated earnings.
``The rising dollar has accounted for about 20 percent to 25 percent of the
negative impact on U.S. manufacturing firms over the past six months,'' said Jerry
Jasinowski, president of the National Association of Manufacturers.
The Bush administration has sent mixed signals about its dollar policy. President
Bush's top economic strategist, Larry Lindsey, consistently has favored a strong
dollar, but there also have been hints that he'd like to see the yen somewhat
lower.
Yet, the administration has little choice. As Treasury Secretary Paul O'Neill
noted, ``a strong dollar is a result of a strong economy.'' Washington has little
influence over exchange rates. Intervening in the markets usually has proven futile.
For the moment, the administration seems safe enough in expecting the dollar to
continue strong. Analysts say little seems likely to change unless the U.S. falls
into recession or U.S. productivity growth wanes substantially.
Meanwhile, the administration's embrace of a strong-dollar policy has bought
some time.
Even so, economists caution that if the dollar continues to rise, it's likely to
enlarge the current dollar-bubble even further -- and spring-load the trap -- making
it all the more likely that Roach's warning may turn out to be accurate.
``My guess is that if we get another leg down in the U.S. economy, the dollar will
finally cave,'' Roach said.
``The theories that were being concocted to defend the Nasdaq at 5,000 a year
ago are being used now to say the dollar will never fall,'' he said. As in the case of
the Nasdaq, he said, it's only a matter of time until the market turns. |
