World Economic News
Economist Announces Coming Dollar Crash
An article in the Economist's Buttonwood column Nov. 23, entitled "The dollar's demise: Is the dollar's role as the world's reserve currency drawing to a close?," begins with the question: "Who believes in a strong dollar?" Then, answering the question, it continues, "Robert Rubin, Bill Clinton's Treasury Secretary, most certainly did. John Snow, his successor but two, says he does but nobody believes him, if only because he wants other countries' currencies, in particular the Chinese yuan, to go up. Mr. Snow's boss, President George Bush, in one of his mercifully rare forays into economics last week, also said he wants a muscular currency: My nation is committed to a strong dollar. Again, it would be fair to say that this was not taken as a ringing endorsement. 'Bush's strong-dollar policy is, in practical terms, to maintain a pool of fools to buy it all the way down,' a fund manager was quoted by Bloomberg news agency as saying. It does not help when the chairman of your central bank, Alan Greenspan, whose utterances on the economy are taken rather more seriously than Mr. Bush's, has said the day before that the dollar seems likely to fall: 'Given the size of the current-account deficit, a diminished appetite for adding to dollar balances must occur at some point,' were his exact words. The foreign-exchange market immediately decided that it was sated, and the dollar fell to another record low against the euro."
Furthermore: "Mr. Greenspan's words were significant because he was tacitly admitting what right-thinking economists the world over have long believed: that the emperor has no clothes." Pointing to a "deeper significance" of Mr. Greenspan's admission, the article says, it is "that the game that has been played since the collapse of the Bretton Woods system in the early 1970s is drawing to a close. The dollar's status as the world's reserve currencyits preferred store of value, if you willis gradually coming to an end. And, ironically, the fact that it has become so popular in recent years will only hasten its demise."
The article explains how central banks, especially in Asia, have held massive dollar assets, but adds that this is changing. The reason they have kept dollars, it goes on, is "to stop their currencies rising against the dollar and so keep their exports competitive. In effect, they are trying to peg their currencies; China's peg is explicit. Huge foreign-exchange reserves are the result."
"Some pundits have dubbed this arrangement the new Bretton Woods. The Bretton Woods arrangement (a post-Second World War agreement that tied the dollar to gold and other currencies to the dollar) collapsed in 1971. The present arrangement seems similarly doomed to failure. The big question is whether the world will suffer similarly ill effects when it collapses."
The dilemma for big investors is laid out: "At the heart of the central banks' calculations is a trade-off: intervening to keep your currency down can be costly, but it is good for exports. Though the costs of intervention are hard to quantify, they are potentially big. Because the domestic money supply is expandedthose dollars must be paid for with somethingit can cause inflation (though this can be neutralised through sterilisation, i.e., bond sales). But the big potential cost is in amassing a huge stash of dollars with precious little exit strategy. Quite simply, Asian central banks now own too many of them to exit en masse, for their exit would cause the dollar to crash and American interest rates to soar, which would cause huge losses on their holdings of Treasuries."
And, banks could lose massively due to the dollar's decline. However, the tendency is in the direction of disinvesting. "The incentives to flee the Asian cartel (to give it its proper name) thus increase the bigger the game becomes. Why take the risk that another central bank will leave you carrying the can? Better to get out early. Because the game is thus so unstable it will come to an end, and probably a messy one. And what will then happen to the dollar? It is hard to imagine its hegemony remaining unchallenged when so many will have lost so much. And doubly so given that America has abused the dollar's reserve-currency role so egregiously that its finances now look more like those of a banana republic than an economic superpower."
Dollar Hits New Low as Banks Forecast Crisis
The dollar hit a new low of $1.328 to the euro, and 102.57 yen Nov. 25, as leading banks forecast a further fall and crisis. UBS, JP Morgan Chase, Merrill Lynch, and Deutsche Bank have all reduced their forecasts for the dollar, Bloomberg reported Nov. 25. The four, which account for 34% of the currency market, according to Euromoney magazine, say the record U.S. current account deficit will drive more flight from the dollar. Former Fed Chairman Paul Volcker told PBS on Nov. 24 that the increasing dependence on foreign capital can not be sustained, adding, "When something happens, it tends to go further than you expected, and that's the history of financial crises."
Central Bankers Moot Shift Out of Dollars
At the same time that the dollar hit new lows this month, gold for December delivery closed up $1.40 at $449.30 an ounce on the New York Mercantile Exchange. That's the highest settlement price since June 1988.
The report by Russian first deputy chairman Alexei Ulyukayev, hinting that Russia could shift a portion of its $113.1 billion foreign reserves out of dollars into euros (see below) is roiling currency markets. Derek Halfpenny, senior currency economist at Bank of Tokyo-Mitsubishi said that if various nations' central banks increased the percent of their foreign reserve holdings from 30% euros to 40% euros, this would represent a significant shift: in fact, several hundred billions of dollars would shift out of dollars into euros. Referencing this, Neil Mellor, currency strategist at the Bank of New York raised the "domino effect," saying that talk of central banks readjusting their reserves to encompass a greater euro weighting has been rife in the currency markets for quite some time, along with speculation that OPEC members may shift to euro-denominated oil sales. "A dam can only take so much pressure," he said.
Ray Dalio, of Bridgewater Associates, which manages $92 billion for pensions, endowments, foundations, and governments, warned, "The big collapse in the dollar is likely close, and speculators are starting to see the blood in the water."
Russian Central Banker: Dollar Is a Real Problem
"Most of our reserves are in dollars, and that's a cause for concern. It's a real problem," said Alexei Ulyukayev, first deputy chairman of the Russian central bank Nov. 23, adding, "Looking at the dynamics of the euro/dollar rate, we are discussing the possibility to change the reserve structure," the Financial Times reported Nov. 24.
The previous week, Konstantin Korishtshenko, another deputy governor of the Russian central bank, announced plans to reduce the share of dollars in the Russian foreign exchange reserves (totalling $113 billion) from the current 60% to just 30%. These statements contributed to another downfall of the dollar. It's not only feared that Russia could soon dump about $40 billion in dollar assets on the markets, but that the Russian central bank could thereby set a precedent for other central banks in the world.
|