Currency Weakness Harms the Economy, Manufacturers Too

When it comes to goods and services in the marketplace, a declining price often ranks as an economic positive, resulting from innovation, efficiencies and competition. Indeed, this tends to be the natural path for a product’s development under free enterprise, that is, being introduced in a limited way with a high price tag, with competition and advancements then driving the price down and expanding the market.

Of course, a falling price can be bad news when the result of, for example, a product falling out of favor with consumers.

But what about a declining price, or value, of a currency?

After all, we hear lots of politicians, TV talking heads, and even some CEOs – usually heading up manufacturing firms – pushing the idea that a declining dollar is good for U.S. industry and economic growth. They assert that a weaker dollar makes U.S. exports cheaper, and imports more expensive. I’m not sure why that would necessarily be good, but it’s not really how it works in the end anyway.

First, one has to understand that as much as we talk about “floating exchange rates,” this is a dirty float. That is, governments control the supply of their currencies, and often work to manipulate a currency’s value. For example, politicians like U.S. Senator Charlie Schumer (D-NY) have complained about China manipulating its currency. But individuals serving up such complaints simply are looking to manipulate the value of the U.S. dollar according to their own preferences.

Second, monetary devaluation is not good news for industry and economic growth. With a weaker currency, it’s clear that a nation is less attractive place in which to invest. When devaluations are sudden, economies face tumult and crisis. And when weakening happens over a longer stretch of time, the country suffers a more gradual diminishment in investment and growth. Basically, devaluation reduces returns, and therefore, lessens incentives for investment. For example, consider that the value of the U.S. dollar versus other major currencies declined markedly from early 2002 to mid-late 2011, and that largely covered a period of slow growth and the Great Recession.

Third, the idea that exports become cheaper and imports more expensive eventually is undermined by arbitrage and price adjustments. At best, exporters can hope for a short-term gain, but again at the risk of larger economic woes. In addition, advocates for a weak dollar ignore the fact that it’s not just consumer products that are imported, but also capital goods and inputs. That reality raises serious doubts even about any temporary, short-term benefits that might be hoped for with a weaker dollar for U.S. exporters.

Finally, currency fluctuations really matter little to the well-being of U.S. manufacturers when compared to economic growth. It’s difficult to unearth a reliable pattern tying U.S. manufacturing production to fluctuations in the dollar. For example, manufacturing output grew robustly from late 1982 into 1989. But during that period, the value of the U.S. dollar experienced a dramatic rise, and then a big fall off. Also, manufacturing grew from late 1993 to mid-2000, and the dollar rose over that same period.

Rather, the well-being of U.S. industry, including manufacturing, is about the state of economic growth – here and abroad. Looking at data since the early 1970s, U.S. manufacturing production has declined notably only during and around each recession.

So, it’s really all about growth. Meanwhile, currency fluctuations matter less so, and when they do, it’s about the negatives of devaluation.

U.S. policymakers need to put aside or ignore babblings about the need for a weaker dollar, and instead move aggressively in establishing a policy mix of low taxes, light regulation, restrained government spending, free trade and sound money focused on price stability. After all, that’s the policy foundation needed for robust economic growth.