Everyone is negative on the US dollar. From many-times-burned currency traders to the envious European press to international lending agency muckety-mucks, everyone insists that the dollar should, must, will fall because of the huge US imbalances.
We Americans borrow too much, save too little, and are dependent on foreign capital inflows to finance our spendthrift ways.
Yet the dollar continues to defy its critics. It's appreciated against more world currencies this year than at any time since 1984, much to the consternation of US exporters. On a trade-weighted basis, the dollar is near a 15-year high.
It was one thing when the US economy was booming, its equity market providing double-digit returns for five years running (from 1995 through 1999). The appreciation of the US currency made returns to foreign investors even more enticing.
"But now that American growth has slowed, profits are falling and equities have slumped, why have investors kept their appetite for dollars?" asks this week's The Economist magazine.
Without missing a beat, the magazine answers its own question: "America's slowdown has not shaken investors' belief that, over the longer term, America will offer faster productivity growth and hence higher rates of return than Europe."
That's a nice way of saying the alternatives stink. The on- line edition of The Economist story provides a hyperlink -- "Get Article Background" -- for anyone who's interested in the ABCs of currencies. Here's what it says: "The dollar has been persistently strong for the past few years. During America's boom this was due in part to demand for American assets such as shares, in the belief that America's growth would continue to outstrip Europe's and Japan's.
"Now America's growth has slowed and shares have tumbled, yet the dollar remains strong. Economic misery in Japan keeps demand for the yen low. But the weakness of the euro is still somewhat baffling, since Europe's economies are limbering up and reviving."
One might wish to challenge the athleticism in Europe, but The Economist's bafflement is positively baffling. The difference between the environment for investment in the US and Europe was highlighted just last week when European antitrust regulators rejected General Electric Co's US$47 billion takeover of Honeywell International Inc. Mario Monti's European Competition Commission said the merger was -- what else? -- anti-competitive.
The following day, the European Parliament rejected a law that would remove obstacles to hostile takeovers; takeovers tend to make companies more competitive.
To the extent that the rejection of the GE/Honeywell merger is a microcosm for what ails the continent -- an over-regulated and inflexible economy -- it's no wonder investors prefer to send their money across the pond.
In fact, the only thing more consistent than the euro's weakness since its inception in January 1999 is the list of official reasons (excuses) for its weakness, ranging from too new, to misunderstood, to disadvantaged (on a relative-growth basis), to lacking actual coins and bills.
When the US economy hit a wall late last year, European leaders boasted that they would be unaffected by the US slowdown since most of their trade is with one another.
Now analysts are worried that Europe's largest economy, Germany, is tipping into recession, with the European Central Bank showing little inclination to respond to weak growth.
The cure for the euro, if you can call it that, is for Europe to lift itself up to the US's level (of productivity and economic growth), not to wait to benefit from a relative advantage when the US goes into a cyclical slump.
Looking eastward, Japan and Asia are in a sorry state.
Japan's economy contracted in the first quarter, and the structural reforms outlined by Prime Minister Junichiro Koizumi, even if he has the public support to implement, will make things worse before they get better. Unemployment, now at an all-time high of 4.9 percent (after a decade of malaise, which tells you just how much restructuring there is to do), is sure to rise as insolvent companies are allowed to fail.
Asia's newly industrialized countries are hurting as a result of slowing US demand, especially for anything having to do with electronics. Singapore became the first of the NICs to slip into recession, with its economy contracting in the first and second quarters. Analysts aren't optimistic that the rest of Asia's export-driven economies can avoid Singapore's fate.
So the dollar's strength is really a matter of nowhere else to go for international capital. Despite a cyclical slowdown and profits recession, the US will get back to the business of what it does best, which is business, faster than countries in Asia or Europe. That's the message of the strong US dollar.
As far as warnings about the US's "unsustainable" imbalances -- a current account deficit that is 4.3 percent of gross domestic product and high private debt burdens -- are concerned, they are sustainable until they aren't. Folks have been wailing about the current account for a few years now, even as it doubled as a share of GDP.
The IMF joined the chorus in its annual International Capital Markets report, released yesterday.
If expectations of a return to strong economic and productivity growth in the US turn out to be misplaced, it could lead to a fall in the dollar, which "could give rise to considerable volatility in the major foreign-exchange markets," the IMF said.
When officials refer to volatility, what they generally mean is a one-way dive, with no bottom in sight.
While no one is fonder of currency devaluations than the IMF, the prospect of a mass exodus from the dollar is even scarier than the imbalances that are supposed to trigger it. And there is no guarantee that it will do anything more than temper the gap between imports and exports temporarily.
If and when the dollar does crash, you can be sure that it will be a standing-room-only rooting for its demise. What I really wonder is, where will these folks be putting their own money?
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