If our leaders in Washington DC wanted to stop the decline of the dollar, they could. Easily. Therefore, if the dollar is falling — and it is — they want it to fall. The dollar is falling against most major currencies and this decline has been underway, with an occasional rally, for years. Also, as we have seen, the price points for oil, commodities and precious metals have been buoyed by the declining dollar.
Here is a chart showing history of the dollar versus major currencies dating back to 1973:
Source: Scott Grannis
Scott Grannis made an excellent point in the commentary accompanying this chart [emphasis added]:
…With the Fed’s latest data release, it’s official: in inflation-adjusted and trade-weighted terms (arguably the best way to measure the dollar’s true purchasing power overseas), the dollar is now weaker than it has ever been…
The dollar is weaker than ever
There have been highs and lows as you can see from the chart, but since 2001 or so, the dollar has been declining steadily. To nail down the point, this decline has been the policy of the Federal Reserve under both Greenspan and Bernanke. This is not the fault of China or Europe or anyone else. It is not the fault of American consumers or manufacturers. The fault lies in the policies of the Fed. Scott Grannis continues in the commentary linked above:
…The Fed is supplying more dollars to the world than the world wants to hold. As a corollary, the Fed is setting U.S. interest rates at a level that is lower than they should be to balance the world’s demand for dollars with the supply of dollars…
It is quite simple. If you want a stronger dollar, raise short-term interest rates. If you do not raise short-term interest rates, then you are sacrificing the dollar to some other purpose.
Is the dollar doomed?
No. However, as long as the Fed keeps short-term interest rates at near zero, the dollar is likely to be weak. When things get really scary in the world, investors may again flee to the dollar pricing it up, but that would be an interruption of the trend, which should remain intact as low as U.S. interest rates are very low.
Update: Today, we have a perfect example of how important short-term interest rates are to the dollar and other currencies. MarketWatch reports that the European Central Bank decided not to hike rates further and the dollar jumped while the euro fell [emphasis in the original]:
The U.S. dollar rose by the most in two weeks against the euro, but stayed down versus the Japanese yen, on Thursday after European Central Bank President Jean-Claude Trichet omitted the kind of comments that traders were expecting to indicate another rate hike forthcoming for the euro zone.
"So far it is what he has not said that is most important, with no signal that the ECB has changed its hawkish tone to the point where it is pulling the next rate hike into June instead of July, in the face of "?elevated' uncertainty," said Alan Ruskin, global head of G-10 FX strategy at Deutsche Bank…
This should not be a surprise to anyone and it indicates how easy it would be for the Fed to stabilize the dollar, that is if the Fed had any interest in stabilizing the dollar. The Fed’s zero interest rate policy is a menace to the dollar. It would not take a big hike in rates to help the belabored greenback either.
See What causes higher prices & inflation.
Error message
The chart is not updated.
As Charlie Sheen says, “WINNING!”
andia — Actually, it is. The chart is based on Federal Reserve data through the end of April. As a long-term chart, that is fine. The years are shown ending in 2009, but the chart continues on with data through April 2011.
I thought Treasury secretary and Ben said they want to see stronger dollar.
RBharol — I don’t remember Bernanke saying he wanted a stronger dollar, but Treasury Secretary Geithner talked about our ‘strong dollar’ policy. I have no idea what he means by that. Obviously, we have a weak dollar policy in reality.
Why not run as a comparable the cost of a car in $US for the 38 year period? In 1973 a typical car cost about $3,000 so what is really going on is all currencies going down against real assets at different rates, with the dollar descending faster in recent years. That’s the real story here, and proof that we are indeed in a race to the bottom with our trading partners. And so long as this will not change, people should seek out protection in non-currency formats.
Well, the Fed is primarily concerned with unemployment and inflation, right? Since we’re in a recession, don’t we need low short-term interest rates? I think fiscal policy has a lot to do with the decline right now. Our current budget deficit contributes to a weakening dollar but I’m not sure how much it contributes.
Is the weakening of the dollar due equally to monetary policy as it is to fiscal policy or is one more significant?
JT — You are correct about the Fed’s dual mandate for full employment and price stability. Unfortunately, those are contradictory mandates. And, as we know, no one can serve two masters. In addition, let’s look at how the present policy is working. Do we have full employment? No. Stable prices? No.
You are also correct, that lowering interest rates is normal during a recession. However, we are not in a recession now. We are in a moderate economic recovery. So, the Fed has held onto a zero interest rate policy far longer than it should. The current low interest rate policy is similar to the one Greenspan used which ignited the whole real estate bubble. Do we really want a re-enactment of that?
A modest increase in the Fed Funds rates would give the dollar a boost and would thereby slow price increases in oil and other imported goods.
After reading the above, I suspect you may be the next Hayek or Mises, Kurt.
Gilbert — I’m not fit to carry their books, much less write them. And, whatever you do, don’t call me Ludwig.
OK . . . Friedrich.
Kurt Brouwer is a fee-only financial advisor with three decades of experience. He is the chairman and co-founder of Brouwer & Janachowski, LLC. Kurt has written books, articles and hundreds of blog posts on mutual funds, ETFs and other investment topics. E-mail: kurt.brouwer *at* gmail.com.
Copyright © 2009 MarketWatch, Inc. All rights reserved. By using this site, you agree to the Terms of Service and Privacy Policy.
Intraday data provided by Interactive Data Real Time Services, a division of Interactive Data Corp. and subject to terms of use. Historical and current end-of-day data provided by Interactive Data Pricing and Reference Data. More information on NASDAQ traded symbols and their current financial status. Intraday data delayed 15 minutes for Nasdaq, and 20 minutes for other exchanges. Dow Jones Indexes(SM) from Dow Jones & Company, Inc. SEHK intraday data is provided by Comstock and is at least 60-minutes delayed. All quotes are in local exchange time. Real-time last sale data provided by NASDAQ.
Read Full Article »