Thursday, September 20, 2007
THE DOLLAR DIVE GETS SERIOUS
So, it is not just that the US dollar has hit an all time low against the euro, but it has hit parity against the long-derided Canadian dollar (aka "looney") for the first time in over 30 years, and much more significantly, for the first time in 50 years, the Saudis are considering unpegging their riyal from the US dollar, frustrated at the inflationary pressure arising from the rising cost of imported food as their currency declines with the dollar. The upshot is a very real danger of a full-blown plunge of the dollar internationally, in the wake of the interest rate cuts by the Fed, in their efforts to stem the tide of housing price declines and failures in the sub-prime mortgate industry that have been filtering out into the global financial markets. But, with the unprecedented and humongous net international indebtedness of the US, combined with ongoing and large-scale current account deficits, this is indeed a very dangerous situation (especially for someone like me about to travel to Europe, :-)).
Not only do we have parity between the C$ and the USD but one British pound can buy both bills. My next trip to London is looking mighty expensive.
ReplyDeleteBarkley,
ReplyDeleteYou're reading my mind. In fact I had started a post about "Parity Day" but Yahoo Finance crashed my computer when I was looking up historical rates of exchange. Not only is a C$ worth a Dollar, but it helicoptered more than three percent in less than a week. Over the past five years, the US Dollar has fallen 38% against the loonie (and nicely for me, having exchanged an inherited wad of US dollars for loonies five years ago! ).
I honestly don't know if the real danger is of a "full-blown plunge" of the US dollar, as you suggest, or of a violent act of US aggression calculated to offset the economic and financial fundamentals. If Sandwichman had to put money on one or the other it would be the latter.
S-man,
ReplyDeleteWell, if it weren't for the fact that the Saudis are unpegging and all this other stuff is going on, I might forecast another round of "blame Canada" with an armada going across Lake Erie...
I got an email asking why the Angrybears are not covering the Saudi decision. Told the AB reader he should check out the new cave over here.
ReplyDeleteBarkley...
ReplyDeleteAs one who is admittedly quite econo-dumb, may I ask you, and a few of your astute contributers: What might/should the everyman be doing in these circumstances? I find myself becoming terribly anxious when I read these things and wonder if, perhaps, I am over-reacting...or not. I am obviously not asking for specific recommendations here, just a sense of where we are and what problems might truly loom ahead.
Thanks for you time.
Here's the UK Telegraph article
ReplyDeletehttp://www.telegraph.co.uk/money/main.jhtml?xml=/money/2007/09/19/bcnsaudi119.xml
and yes S-man, if they were to break the peg it could trigger a cascade - should the U.S. try the agression 'tactic', it would, IMO, bring more forex and financial upheaval than flight to dollar denominated safety.
World financial conditions are already extremely fragile and not simply because of U.S. subprime mrtgages and structured finance developed from these.
There are limits to debt financing and some, such as derivatives developer and author Satyajit Das, think these have been surpassed, not because there is too little or too much money in the system but "that buyers are in the process of rejecting the entire new risk-transfer model and its associated leverage and counterparty risks."
Basically, he sees the entire global credit bubble as having begun a moreless protracted process of deflating, and that was before this latest.
I tend to agree but think that now-begun-to-be-noticed self-'rejecting' of neo-finance has its roots in the real economy's inability to support the mass of claims to it.
Even the more highly exploited neoliberal global labor goose can only lay so many 'golden eggs'...
anonymous,
ReplyDeleteI guess you are asking for personal financial advice. That would depend on your circumstances. I have for a long time now been telling anybody who asked me that they should have at least 50% of their personal financial assets outside of US dollar-denominated ones, preferably the more diversified the better. If you are not already outside the US dollar, all I can say is "oooops!" Well, one can still make moves, but heck, it has already gone a long way down against the euro and a lot of other currencies, although most Americans have no idea how much opportunity cost they have lost by holding on average something like 8-12% of financial assets outside the dollar.
Regarding how bad this could get, well, nobody knows. Could be very serious. The Gulf states, Saudi in particular, hold a lot of dollars, and if they dump them in any serious way, it will be very bad. OTOH, while they want to get off the dollar, I would doubt they would dump too much. Real danger is it triggering others to dump.
Who is the safety here? Well, the big banana, China. If they hold on, that will put a floor on the decline of the dollar. There is also, of course, the bright side that a lower dollar in the short term can help the US economy by stimulating exports and reducing import competition, that is as long as the decline does not trigger a broader financial crash. Of course it is this last possibility that looks more likely right now.
BTW, I do not recommend dumping all assets and buying gold, although CD's look safer than a lot of things.
Stagflation imminent ?
ReplyDeletemckinl ...
One way to think of this is that holding dollars, as Barkley astutely figured out long ago, carries great currency risk. At present this risk is shared among a large number of mostly sovereign entities -- the Gulf oil funds, the Chinese CB (and emergent investment funds), the European CB, various "emerging market" CB's, etc. If a big player like the Saudi royals gives up the game, then that transfers the burden to the others.
ReplyDeleteFor instance, imagine (I can write this but to be honest I can't really imagine it concretely) that there is the equivalent of $1B sitting in a London bank on deposit from an oil fund. The depositor announces that the money should be taken out of dollar assets and put instead into, say, euro assets. Now there is a sale of dollars against euros and an accumulation of dollars in the ECB. This means that, if global imbalances are to continue to be financed, that the ECB must increase its holding of dollar assets by that $1B. In a nutshell, the currency risk just got shifted from the Saudis to the Europeans.
The bottom line: the fewer players stay in the game, the higher the cost and the more fragile the arrangement.
So the Saudi report is very important but not directly decisive.
I am not predicting necessarily a huge crash, merely that this Saudi move has made such a possibility much more serious, which is ironic in that it appears to have been triggered by the interest rate cut ordered by the Fed, an interest rate cut that was supposed to help stabilize the system. Ack!
ReplyDeleteWhile the swans gliding glibly by on the ponds outside have not turned completely black yet, their color has certainly darkened noticeably, perhaps due to that nasty oil slick they just floated into...
Barkley writes: >... the US dollar has ... hit parity against the long-derided Canadian dollar (aka "looney") for the first time in over 30 years,<
ReplyDeleteof course that "parity" is a totally conventional notion, totally irrelevant except to the brain of some overwrought currency trader (who might use it as part of speculating). If the Canadian dollar had been named the "Mapleleaf" instead of the "dollar," we wouldn't talk about "parity" at all. What's important is how exchange rates change.
Jim
Here's a question for anyone/someone. So, today's NY Times front page article implies that currency traders are dumping U.S. dollars b/c they see our economy as slowing down vis-a-vis other countries, and that this has precipitated the decline in the dollar's value. The exchange rate changes with changes in the (perceived) value of a currency, right? So, how much does it really have to do with the actual strength of our economy?
ReplyDeleteedouble,
ReplyDeleteI must warn that of all the major macro variables out there, exchange rates are the hardest to predict, either by econometric models, expert opinion, or even futures markets, which have been stunningly wrong for years at a time about them (US dollar in the early-to-mid 1980s, for example). So, there is an element of any explanation being after the fact and so much hooey and hot air.
Probably more important to this immediate decline is the decline in interest target interest rates by the Fed, although I would not be surprised at some shifting due to funny changes in expectations about the economy (e.g. "gosh, since the Fed is lowering interest rates, that must mean they think the economy is going down!"). But, in fact, a declining currency is exactly what one would expect after an interest cut in the most garden variety of models of exchange rates. People would rather get the higher yields on foreign bonds than the now lower ones on the US bonds.
Barkley
Is there any conceivable advantage to the large wealth-holders around the Bush Administration in deliberately precipitating a dollar decline by deficit spending?
ReplyDeleteIs lower interest rates by the Fed, at this juncture, a dumb thing to do?