Could Weaker Dollar Save Greenspan?
By Pierre Belec
NEW YORK (Reuters) - Is there any way to solve the U.S. economic problems? Could Federal Reserve (news - web sites) Chairman Alan Greenspan (news - web sites) and U.S. Treasury Secretary Paul O'Neill do lunch and hash out a dollar deal?
Maybe, just maybe, that kind of a sit-down could be just the thing to get the economy, and the stock market, back on their feet. The truth, though, is that Greenspan and O'Neill may be facing a 'Damned if you do, Damned if you don't' type of high-stakes scenario.
The reason: The Treasury secretary is responsible for keeping the dollar strong while the Fed chairman has to watch over the soundness of the economy.
What's happening is that the strong dollar, which few people were complaining about during the boom days, is now slaughtering the big U.S. multinational companies' export sales and working against the economy's rebound.
Eight months into one of the most aggressive rate-cutting campaigns in history, Greenspan is still dealing with an economy that has almost stopped growing and a stock market still in the dog house, despite seven interest-rate cuts.
This week, the Fed injected another dose of monetary stimulus by dropping the federal funds rate, a benchmark for short-term lending rates, to 3.5 percent, its lowest since spring 1994. The central bank also chopped the discount rate -- charged on direct Fed loans to commercial banks -- by a quarter point to 3 percent. Consumers and businesses are now borrowing money at the cheapest rate since 1994.
AN ECHO OF 1982
The Fed last slashed interest rates by 3 percentage points in less than a year in 1982 when the economy was getting slammed by the worst slowdown since the Depression in the 1930s.
Since the start of 2001, the Fed has slashed rates by a whopping 3 percentage points in one of its boldest campaigns to boost the economy ever. The economy is teetering on the brink of contraction after Greenspan went on a rate-raising spree between June 1999 and May 2000, supposedly to head off inflation. But the monetary tightening, six rate increases, choked the economy, Greenspan critics say.
While the Fed is trying to reignite a fire under the economy, the overvalued dollar is pulling the rug out from underneath Greenspan, negating some of the medicine that should be helping the economy.
The big worry is that the dollar's strength may delay the recovery by destroying American businesses' export markets, a source of economic strength.
The manufacturing sector has been in a recession for the past year and lately, the nation's biggest names have been complaining the dollar is hammering their earnings, making it tough for them to sell their goods overseas just as the global economy slows.
General Motors Corp. (NYSE:GM - news) has asked the Bush administration to review its dollar policy, saying the mighty currency had given Japanese and German car makers a competitive advantage.
DuPont Co. (NYSE:DD - news), Coca-Cola (NYSE:KO - news), Gillette Co. (NYSE:G - news), have warned that earnings of their overseas subsidiaries are getting clobbered when they repatriate weak foreign currencies into the higher-priced dollars. The National Association of Manufacturers (news - web sites) said on Thursday the strong dollar's impact on the economy has been ``staggering.''
HURT BY WEAKNESS ABROAD
One economist says the problem is not that the dollar is too strong, but the other foreign currencies are too weak, noting the currency market is merely reflecting the fundamentals of the world's biggest economy, which they view as sounder than the rest of the world.
``Prior to any analysis of the impact of changes in the value of the dollar, one must define a measure of that value,'' says Richard Salsman, chief market strategist for InterMarket Forecasting Inc. ``People talk loosely of the dollar being strong or weak but one should ask, compared to what?''
He adds: ``If one measures the dollar in terms, say of Brazil's currency over the past quarter-century, then the dollar looks perpetually and spectacularly strong. But in real terms, we know the dollar has been weak more often against a basket of consumer goods.''
According to Salsman's estimates, the dollar has lost 76 percent of its value since 1973, as measured by the U.S. Consumer Price Index (news - web sites), a popular gauge of inflation.
A dividend from the strong dollar is that it helped Greenspan launch one of the most spectacular rate-cutting sprees ever.
``The return to dollar strength at the beginning of 2000 wasn't the cause of the stock market's problems,'' he says. ''Indeed, that strength set the stage for the Fed's rate cuts this year and the market rebound that began, albeit haltingly, last April.''
The dollar soared in July to a 15-year high and has since retreated by 5 percent against the European currency, the euro, and Japanese yen. But over the last four years, it has skyrocketed 30 percent against major currencies, which has allowed Americans to buy foreign stuff at a 30 percent discount, thereby holding down inflation. It has risen 20 percent since the euro was introduced in 1999.
SACRIFICING THE DOLLAR?
Will the dollar need to be sacrificed so that the U.S. economy and exports can recover?
It's a very complex issue. Let's first look at the plusses and minuses.
First the good. The dollar's good reputation as the reserve currency of the world has been polished more by its ability to stay strong.
Foreign investors who've been drawn to American assets, have helped finance a huge chunk of Corporate America's debt over the past decade, making for healthier companies.
And, the boom on Wall Street created more stock market wealth between 1995 and 1999 than at any other time in the nation's 225-year history.
As for the thorny ramifications on stocks from a weak dollar policy, a generalized dollar slump could cause a lot of foreign money to exit Wall Street. The outflow would trigger an unstable and unhealthy condition for the world's biggest economy, especially in the current environment of stumbling stock prices.
Weaker stocks could also crush consumer confidence, which would remove the sturdy leg that is still holding up the economy. Then, there is the likelihood that a free-falling dollar would force the Fed to raise interest rates to attract foreign investors back to U.S. assets.
Indeed, the Street could ill afford more bad news. Bears outnumber the bulls, based on the latest surveys. Investors' interest in stocks is also the lowest in a decade.
Companies that have been gutsy enough to let their stocks make their debut via initial public offerings are getting the cold shoulder from investors.
Practically the only honest way to make money in this market is to sell stocks short, i.e., bet the market will continue to slide. The evidence: Short selling jumped to a record 5.91 billion shares on the New York Stock Exchange (news - web sites) in August.
There's more downside risk from a stumbling dollar.
Because foreign money is financing a huge chunk of American companies' debt, the companies could be susceptible to a nasty shock if the dollar takes a dive.
In fact, some multinational companies are already having a tough time repaying their debts after getting sucker-punched by a combination of poor overseas sales and a plunge in their stock prices.
A week ago, Treasury Secretary O'Neill tried to stamp out speculation the Bush administration is changing its dollar policy by repeating that policy remained unchanged.
What's clear is that the United States has not abandoned or changed its policy, even though there may be changing expectations among currency speculators.
In fact, some dollar cheerleaders say there's no official strong dollar policy, but rather only one where American officials are just not willing to talk the currency down.
For the week, the Dow Jones industrial average jumped 183 points to 10,423. The Nasdaq composite index rose 49 to 1,916 and the Standard & Poor's 500 index was up 23 at 1,184. |
