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Extra
Is the U.S. dollar a sinking ship?
Its decline to a nine-year low is affecting everything from the price of goods at Wal-Mart to the vigor of Europe's economy.
By The Christian Science Monitor
The sinking U.S. dollar in recent weeks has raised what is suddenly a top concern from Washington to Berlin and Beijing: Is America's currency undergoing a benign adjustment or a precipitous plunge?
So far, the dollar's slide to nine-year lows doesn't reflect panic. But some analysts say a run on the dollar is possible. And even an orderly drop could affect everything from mortgages to prices at Wal-Mart.
The good news for Americans: It's getting easier for manufacturers to sell products overseas, and more likely that tourists from Germany will flock to U.S. national parks.
But the downside could be significant. America, the world's leading importer of goods, is now buying them at higher prices. And if the dollar's dive makes foreign investors wary, U.S. interest rates may have to rise to attract buyers of federal debt.
More broadly, it's a shock to the global economy. At a November meeting, officials from the Group of 20 industrial and major developing countries called for the United States to cut its federal deficit, which is seen as a key factor in the dollar's fall.
"There's a lot of speculation," says Michael Schubert, an economist at Commerzbank in Frankfurt. He sees some signs of a "herd instinct" developing.
Less hope after election
The dollar is now down about 50% against the euro since October 2000 and recently hit its lowest level since 1995 against a basket of foreign currencies.
While the shift isn't entirely new, it has accelerated since President Bush's re-election. Some observers say the timing reflects concern that Bush -- with his emphasis on tax cuts -- won't be able to rein in record budget deficits.
"The general perception was that under the Bush administration there would be less concentration on tackling the two deficits," says Richard Reid, European economist for Citigroup, the world's largest financial institution.
He was referring to the $412 billion budget deficit and the approximately $600 billion trade deficit the United States ran in 2004. A trade deficit must be financed by other nations willing to hold U.S. currency. And foreign investors have also been buyers of federal debt in recent years, helping to keep U.S. interest rates low. But the trend in these deficits now looks unsustainable to many. If those investors sour, even somewhat, on holding U.S. debt, the Treasury may need to offer higher interest on its bonds. The ripple effects, in turn, could dampen U.S. economic growth.
Related news and commentary on MSN Money
China, another key engine of the world economy, also faces new pressures.
Chinese citizens were lining up outside the Bank of China in downtown Shanghai last week to exchange U.S. dollars for their own currency, the yuan, according to The Wall Street Journal. They fear an official revaluation of the yuan, which if it happens would cut into the value of their dollar savings.
Europeans, meanwhile, worry that the dollar's fall will harm their weak economic upturn by making their exports more expensive in the United States or in other economies tied to the dollar.
More jobs -- but higher interest rates
Federal Reserve Chairman Alan Greenspan recently warned that foreign investors would eventually resist sending more money to the United States. This could lead to a further decline in the dollar, and possibly higher interest rates in the United States. "We cannot become complacent," he said.
How far could the dollar fall? Some see another 20% as possible -- a change they say could begin to reduce the huge trade deficit.
The United States continues to attract large amounts of foreign capital. In September, foreigners purchased $63.4 billion of U.S. securities. But the dollar's recent fall suggests that the current flow is at least a little inadequate.
Up to now, the White House has let the Treasury deal with the dipping dollar. In comments to the press in London, Treasury Secretary John Snow threw cold water on any move to join the Europeans in managing the dollar's fall.
"The history of efforts to impose nonmarket valuations on currencies is at best unrewarding and checkered," he said.
That view could change if an actual run on the dollar builds up, requiring higher interest rates in the United States to attract foreign money.
Decades ago, such an attitude was labeled "benign neglect." If the dollar continues to fall, though, the president may have to tackle the issue in coming months.
If investors in bond markets see rising interest rates ahead to stem a dollar decline, prices of bonds could plunge.
But to Thea Lea, an economist with the AFL-CIO, the dollar is "egregiously overvalued," thereby hurting exports and American workers.
Lawrence Kudlow, a Wall Street economist, says the real problem with the dollar is that "Old Europe has the monetary story wrong." The European Central Bank isn't creating enough new euros to stimulate the economy.
Much of Wall Street seems to expect the dollar to fall gradually -- a "Goldilocks" devaluation, says Kathleen Bostjancic of Merrill Lynch. The euro could rise from about $1.32 now to $1.37 by mid-2005, Merrill Lynch traders predict. At a certain point, the European Central Bank could intervene to support the dollar, warns Schubert of Commerzbank. But it hasn't yet.
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