Is there an end in sight for the devaluation of the Dollar?
"THERE seems to be no floor for the dollar at the moment. On March 13th, it fell below ¥100 for the first time and hit a record low of $1.5624 to the euro. The greenback is even back below $2 to the pound, despite sterling’s recent weakness. And on a trade-weighted basis, the American currency has hit yet another nadir.
Like a glutton at an all-you-can-eat buffet, there is almost an embarrassment of nourishment for dollar-bears. For those who focus on yield, there is the prospect of imminent rate cuts by the Federal Reserve, with analysts talking about 2%, or even 1%, as the eventual low. Meanwhile the European Central Bank seems determined to hold rates at 4%.
For those who are worried about the credit crunch, there is the failure of the Carlyle Capital bond fund and the short-lived boost given by the latest central-bank liquidity package. As David Bowers of Absolute Strategy Research has pointed out, America will have difficulty funding its current-account deficit until the credit crisis is sorted out.
For those who are worried about the American economy, the latest 0.6% monthly fall in retail sales will confirm their fears. (American data have, on average, looked weaker than Europe’s in recent weeks.) And for those who believe that real assets (like gold and oil) are more attractive than paper money, the rise in bullion to above $1000 an ounce and crude to $110 a barrel will confirm their prejudices.
What succour is there for the dollar bulls? One argument is that the Fed is being much more decisive than other central banks and thus the eventual recovery in the American economy will be faster and steeper. If that is the case, then American interest rates may start rising again next year, giving the currency yield support.
A second is that the dollar’s decline is now having an effect on the non-oil element of the trade deficit, and thus is steadily weakening one of the long-term bearish arguments. The final argument is that the dollar is now cheap on fundamental grounds (an argument that will seem convincing to any European tourist) and that, with sentiment almost universally negative, the only way is up.
The problem for the bulls is that when negative sentiment towards a currency sets in, it can be very hard to stop. There is a widespread perception that the American authorities are pretty relaxed about the dollar’s weakness.
And even if they did care, what could they do about it? They are hardly likely to raise interest rates with the financial sector and the economy in such poor shape."