Yes Ben, the Dollar Does Matter

The weak dollar has been a source of much consternation, at least for me, over the past year. There are those who say “Who cares; a weak dollar helps exports,” and “You need to keep pushing down interest rates until the economy recovers and we work through this crisis.” My position has been pretty clear: a weak dollar is bad, not in and of itself, but because of the knock-on effects of such a policy. Why? Consider just a few reasons:

• The U.S. is a debtor nation. We rely on foreign governments to finance our deficits. If the value of those dollar-denominated holdings keep falling, at some point they will either stop buying or demand an increasingly high interest rate to offset currency losses;

• The U.S. financial system is in a badly weakened state. We need both onshore and offshore sources of capital to bolster bank balance sheets burdened with busted ABS and retained LBO loans. If foreign investors lack confidence in the dollar, this erects an extremely high barrier for investment.

• The U.S. imports a lot of stuff. Paying for this stuff with depreciated dollars means only one thing - rising prices. A weak dollar is fundamentally inflationary and something that could bring us back to a time we’d all rather forget - the 1970s.

But for most of the time I’ve been writing about my frustration with Fed policy, Mr. Bernanke has been turning a deaf ear to my pleas. But now it appears that we’ve reached a tipping point in Ben’s mind, a point that has prompted him to sing a somewhat different song; here are his comments during yesterday’s speech at the International Monetary Conference in Barcelona:

In collaboration with our colleagues at the Treasury, we continue to
carefully monitor developments in foreign exchange markets.  The
challenges that our economy has faced over the past year or so have
generated some downward pressures on the foreign exchange value of the
dollar, which have contributed to the unwelcome rise in import prices
and consumer price inflation.  We are attentive to the implications of
changes in the value of the dollar for inflation and inflation
expectations and will continue to formulate policy to guard against
risks to both parts of our dual mandate, including the risk of an
erosion in longer-term inflation expectations.  Over time, the Federal
Reserve’s commitment to both price stability and maximum sustainable
employment and the underlying strengths of the U.S. economy—including
flexible markets and robust innovation and productivity—will be key
factors ensuring that the dollar remains a strong and stable currency.

Price stability? Maximum sustainable employment? Flexible markets? Hmm, not sure we’ve done such a good job on these fronts. Productivity, yes - so far. Mr. Bernanke is focused on the right goals to be sure. It’s just that it has taken him a while to get there. And now he has to follow through with actions to back up the words. Clearly in his calculus he viewed the need to push down rates regardless of the impact on the dollar as critical in order to help repair the broken U.S. credit markets. It is hard to fault him for his intentions, though one can argue that pain taken quickly and sharply is, in the long run, a better policy than death by a thousand cuts. And given that the impact of Fed policy has a lag associated with it, are inflationary forces already unleashed in the system too far advanced for tighter monetary policy to tame them? Are we destined to suffer higher prices and higher interest rates due to the Fed’s slowness in reining in liquidity to stem a plunging dollar? This is the $64,000 question. And given the way things are looking, I’m not sure I want to know the answer.

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COMMENT:

AUTHOR: Arun

EMAIL: jacob.arun@gmail.com

URL: http://simplicity-works-everytime.blogspot.com/

DATE: 06/05/2008 02:42:59 AM

Hi Roger

There is one more very important effect of a strong dollar. It attracted hordes of well-educated, talented and brilliant people to make a living in the US instead of in their own country. In fact I would say that a significant portion of the tech industry in the US is chugging on immigrant brains.

With a weak dollar, the tide has turned. And faster than anybody expected. Earlier 100% of the graduates of the Indian Institutes of Tech wanted to go abroad (mostly to the US). But in this year’s survey, it is 0%.

Moreover, a lot of talented americans are relocating to Asia to run operations in MNC’s. When I interned in an American car company 5 years back, the joke was that loser americans and europeans worked in Asia. But now that has changed completely.

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COMMENT:

AUTHOR: invisiblehand

EMAIL: whofuggincares@yahoo.com

URL: 

DATE: 06/05/2008 09:27:00 AM

omg.  with the background you advertise, this is the best you can come up with — regurgitating the usuals?

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COMMENT:

AUTHOR: dave

EMAIL: doleary@epiphanyresearch.com

URL: 

DATE: 06/05/2008 09:31:56 AM

True, Arun, but when supermodels demand payment in Euros, and Hamptons shops accept payment in the same maybe the jig is up?

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COMMENT:

AUTHOR: Soren Macbeth

EMAIL: soren@dopeness.org

URL: http://dopeness.org/

DATE: 06/05/2008 10:15:57 AM

Spot on, as usual Roger. Keep up the good work.

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COMMENT:

AUTHOR: Roger

EMAIL: roger@informationarbitrage.com

URL: http://www.informationarbitrage.com

DATE: 06/05/2008 11:41:47 AM

gee, invisiblehand, with such a great handle i was assuming a far less stupid comment. and fyi, i don’t advertise my background; it is what it is. and if you don’t get value from reading my blog, then don’t read it. you are far too smart for me.

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COMMENT:

AUTHOR: shrek

EMAIL: shreksodus@gmail.com

URL: 

DATE: 06/05/2008 09:47:14 PM

All were doing is buying time and praying for a miracle.  Im constantly telling my parents (who are wealthy baby boomers) how disappointed I am with there generation.   In the end I think it boils down to greed and the ability to manipulate this system in order to keep it going for the next 24 hours.  That time is very quickly coming to an end.  

Its credit welfare that has gotten us into a position of no turning back.  The US is broke from the government down to a the consumer.  

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COMMENT:

AUTHOR: yo

EMAIL: jjjj@mailinator.com

URL: 

DATE: 06/06/2008 07:50:13 PM

I really don’t get you fed bashers.

They are under a dual mandate. If you don’t like that, and I certainly don’t, then place the blame where it belongs. Like, on the people that created the dual mandate, not the fed.

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COMMENT:

AUTHOR: tara

EMAIL: tarastrahl@gmai.com

URL: http://pinkshoesinmymind.blogspot.com/

DATE: 06/06/2008 10:58:00 PM

I really enjoy your blog, even though it is not my area of expertise at all. I’m wondering, would you have any advice for young people who are just graduating from college with few resources? 

Amid talk of Soros’s collapse of the super-bubble, what should the next generation be focusing on? 

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COMMENT:

AUTHOR: Dr. Duru

EMAIL: ask@drduru.com

URL: http://www.drduru.com/money/money.html

DATE: 06/07/2008 11:34:38 AM

I was amazed to hear Bernanke’s words - a sudden care for the drop in the dollar. Not too long ago in Congressional testimony, didn’t he claim that the average American is not impacted by a falling dollar…as long as s/he spends the money at home? I couldn’t believe it when I heard it, and it sounded uncharacteristically cavalier.

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COMMENT:

AUTHOR: Mr. EB

EMAIL: a@earningsbreakout.com

URL: http://www.earningsbreakout.com/

DATE: 07/01/2008 10:19:33 PM

All I know is the commodity DJ-AIG index is up like 40-50% ytd and that is stuff people really buy in day to day life.  Talk about hyperinflation!

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