A fall in the dollar could unleash a chain reaction

The trend in the US dollar’s exchange rate is becoming a source of concern. The dollar has lost nearly 15% of its value since the year-end 2016 high it reached following the election of Donald Trump, and it might now fall toward its 2011 and summer 2014 levels, i.e. 10-15% below its current value.

Confidence in the US administration is withering, and this is largely responsible for the exchange-rate situation. In addition, doubts are accumulating about how much latitude Jerome Powell, the future Fed chairman, will have to exercise his mandate, as he will be operating in the shadow of an invasive executive branch and increasingly demanding financial valuations. The risk of a dollar crash, which would consist of a significant, across-the-board fall in the currency’s value, is real.

What kind of impact could we expect if this were to occur?

The US dollar occupies such an important position in the international economic monetary and financial system that the consequences of a potential pronounced drop in the dollar are particularly complex to analyze. It is the number one reserve, payment and financing currency – both bank and non-bank – and it is used as a peg by more than 70 countries. The size and strength of the US economy as well as the accumulation of deficits vis-à-vis the rest of the world have made dollars abundant outside the United States and contributed to a level of supremacy that neither the euro nor the yuan can challenge. At the end of 2017, the US economy’s net external debt to the rest of the world was nearly $8 trillion, of which $6.4 trillion was financed by treasury bonds held by non-residents the world over. The presence of the US dollar in every nook and cranny of the world economy does not make the analysis any easier. What would be the net effect, for example, of a drop in the dollar on the Chinese economy? Chinese companies would become less competitive, but their debt, much of which has been contracted in dollars in recent years, would decline. At the same time, the country’s war chest of $3.1 trillion in currency reserves, half of which is invested in US treasury bonds, would erode fast... Lire la suite…

Kartoffeln Für Alle, or a Plaza Accord for the Euro?

Download the Full Article

Those who believe we can offset the devastating effect of an overvalued euro by copying German recipes from the preceding decade are kidding themselves.

In fact, a brief look at how the German economy achieved competitive adjustment will highlight the unique conditions that supported such a turnaround. The international environment in the first decade of this century not only proved extremely beneficial to Germany’s industrial recovery; it also made the turnaround fairly painless for the country’s consumers.

Today, no other eurozone Member State has anywhere near the kind of industrial strength enjoyed by Germany, or for that matter the means to ease the social pain of the reforms needed to put the common currency area back on a competitive footing. If Europe’s leaders persist in copying past German recipes without considering how or why they worked, the monetary union will unquestionably be facing its greatest danger ever.

To fend off that danger, there is just one viable response: an orchestrated depreciation of the euro along the lines of the 1985 Plaza Accord, which was designed to counteract the damaging effects of an overvalued dollar on the world economy. Let’s hope the prospects of a protracted eurozone slump will win enough converts to such an approach, because it probably holds out the last chance to save the common currency.