Do Policymakers Want a Weak US Dollar ?
-MoneyBlog- November 2009
Fed Likely to Keep Rates Low Despite Dollar's Fall: Bernanke
U.S. Dollar Has A Long Way To Fall
What, apart from talk, will America do to support its currency?
Raise interest rates? Well, that’s not up to Geithner but to the Fed, which is
talking of an extended period of low rates. Raise taxes and cut spending to
slash the deficit? Not going to happen anytime soon. Intervene to boost the
dollar? That would involve the Fed in yet more meddling in the market, which
might be politically unpopular, especially as Congress thinks the dollar is too
strong against the Chinese currency
President Obama is in China, calling for a new relationship. New relationship,
indeed! On the surface of this visit everyone is smiling. Immediately below
surface the dollar is falling--again.
There is tremendous global finger-pointing today. Liu Mingkang, head of China’s
CBRC, said that the combination of a weak dollar and low U.S. interest rates
has spawned: "A huge carry trade” that was having a “massive impact on global
asset prices … [It] is boosting speculative investment in stock and property
markets and will pose new, real and insurmountable risks to the global recovery
and particularly to the recovery in emerging markets."
Mr. Liu implied that the U.S. was purposely inflating away its massive debt. On
the other hand IMF head Dominique Strauss-Kahn suggested that China must float
her currency to ease the pain of her Asian neighbors and the European Union
countries.
There are no "best" alternatives. Raising interest rates in the U.S. would be
extremely painful and would derail the recovery. The U.S. needs at least 5%
growth in GDP to support its huge and increasing debt load. Raising U.S. rates
to defend the dollar is political nonstarter.
Last Tuesday China said, somewhat begrudgingly, that it would allow the yuan to
appreciate. China now pegs the yuan to the U.S. dollar. This announcement was
likely in response to pressure from China’s Asian neighbors (Thou Shalt Not
Beggar Thy Neighbor). The Euro Union leaders have also felt the pain of a
jointly weaker dollar and yuan. Time will tell how serious China is about the
floating the yuan. Today once again the dollar is weaker--across the
board--except for the yuan, where the peg has been maintained.
Wednesday the press was full of "dollar strength" rhetoric. Treasury Secretary
Geithner said the U.S. needs a strong currency. "I believe deeply that it’s
very important to the United States, to the economic health of the United
States, that we maintain a strong dollar … Because of the important role the
dollar plays in the international financial system, we bear a special
responsibility for trying to make sure that we are implementing policies in the
United States that will sustain confidence."
How many times have we heard this statement from Washington? There is a growing
global fear that the U.S. greenback is beginning a longer and inexorable slide
and that the reserve position of the U.S. currency will come under pressure.
There is no replacement for that dollar reserve role today, and there may not
be for a long time.
In a rare commentary on the value of the dollar, Bernanke drew a link between
its current weakness and inflation risks.
Bernanke also said that regulatory reform has to address the too-big-to-fail
issue, and it must be possible for financial firms to fail without dragging the
broader system with them.
Instead, systemically important banks should be closely supervised and there
should be an alternative to government bailouts.
However, he said there were other factors helping to restrain inflation in the
United States, and he repeated that the Fed is likely to keep interest rates
exceptionally low for "an extended period."
Bernanke renewed that pledge but added "significant changes" in economic
conditions or the outlook could change the outlook for policy as well. He said
that the country's high twin deficits could not be maintained, and there is a
need to find a sustainable fiscal route.
Financial conditions have improved since a year ago, but major challenges
remain and future setbacks are possible, Bernanke said. Tight bank credit and
high unemployment are the chief headwinds facing the economy, he said.
While there is early evidence of an economic recovery, how it will proceed once
government stimulus measures dry up is uncertain, he said, adding that sharp
gains in business productivity are unlikely to be sustainable
Is the U.S. dollar carry trade replacing the one in Japanese yen?
Investors worldwide are borrowing dollars to buy assets including equities and
commodities, fueling “huge” bubbles that may spark another financial crisis,
said New York University professor Nouriel Roubini.
“We have the mother of all carry trades,”
My view has been that the Japanese yen carry trade was a major contributor to
asset bubbles globally as the Bank of Japan’s excess liquidity found its way to
other asset markets via the carry trade. Last August, in my post “Japan’s easy
money policy was the trigger for the tech wreck”
Now the U.S. dollar is the carry trade currency of choice, with zero percent
interest rates funding asset purchases globally. This play is certainly pumping
up all manner of asset prices. But as with the yen carry trade before it, I do
not see this ending well.
