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Saturday, December 01, 2007

Is the Falling Dollar a Downer?

Should we stop worrying so much about the falling dollar? Here's Tyler Cowen:

The Dollar Is Falling, and That’s Good News, by Tyler Cowen, Economic View, NY Times: Anxiety about the dollar continues to spread. The falling greenback is often seen as a sign of an impending recession or the fall of the United States from global leadership. ...

But when it comes to currencies, a higher value neither brings national success nor predicts future prosperity. The measure of a nation’s wealth is the goods and services it produces, not the relative standing of its currency. Take a look at 1985-88, when the dollar lost more ground than in the last few years. Those were good times, and the next decade was largely prosperous as well.

Today’s lower value for the dollar reflects the success of other regions. Europe has shown it can make the European Union and its unified currency work, and thus the euro has become stronger. The Canadian union appears increasingly stable, and that means a higher value for the Canadian dollar. Over all, these geopolitical developments are good for America even if the dollar becomes weaker in relative terms.

Many observers have ... exaggerated ... the dollar’s fall... But from a broader perspective, the value of the dollar hasn’t fallen quite as much as it might seem. Since President Bush started his second term in January 2001, to Nov. 20 of this year, the dollar has dropped 19.8 percent — if we weight the dollar by how much America trades with individual countries. That is a noticeable decline, but it is hardly a radical economic event. There are still many bargains, travel and otherwise, in Asia and Latin America for people paying in dollars.

A falling dollar does mean price inflation in the United States. ... But imports are only 16 percent of the American economy, and most foreign suppliers have been reluctant to risk their position in the American market by raising prices a great deal. ...

Of course the lower value of the dollar also makes American exports more competitive. Much of Middle America is booming because of its ability to sell tractors, food stuffs and other products abroad at favorable prices. Even after a serious real estate decline, the American economy is continuing to expand, and this is largely because of the strength of our export sector, as encouraged by a low value for the dollar.

Another worry is that a falling dollar puts the United States at the mercy of China. ... China is likely to slowly diversify into other currencies, but Chinese leaders have no interest in encouraging a run on the dollar or a fire sale of dollar-denominated assets. China is in a more vulnerable position than the United States...

Still, it would be naïve to argue that a weak or falling dollar can never hurt the United States. Extreme volatility can increase general anxiety and discourage economic commitments. If the dollar went into a true free fall, it would damage the reputation of the United States as a desirable place for foreigners to invest. ...

So far the Federal Reserve and the Bush administration have shown little concern over the falling dollar. This isn’t because of neglect or lack of interest; trillions of dollars worth of currency are traded every day, so policy makers have only a limited ability to push around long-term exchange rates, even if they wanted to do so. ...

In the case of the dollar, we need to stop thinking of its value as a marker of economic success. The American economy has its problems, but so far the low value of the dollar has proved more a benefit than a cost.

Feel better now?

    Posted by on Saturday, December 1, 2007 at 03:15 PM in Economics, International Finance | Permalink  TrackBack (0)  Comments (24)

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