Dollar's Slump Erases Months Of Solid Gains
Thursday, December 18, 2008
The dollar yesterday staged one of its biggest one-day drops against the euro and fell to a 13-year low against the Japanese yen as near-zero interest rates and the Federal Reserve's plan to print vast sums of cash dilute the value of the greenback.
The drops dramatically accelerated the dollar's reversal of fortune over the past three weeks after months of solid gains. The slide underscores the risks the Federal Reserve is taking to jump-start the U.S. economy through aggressive monetary policy.
On Monday, the Fed cut its target for the federal funds rate, at which banks lend to each other, from 1 percent to a target range of 0 percent to 0.25 percent, and effectively vowed to print as much money as it needs to try to pull the United States from a worsening recession.
While that policy may ultimately aid an economic recovery, it is robbing the dollar of value as investors anticipate less interest on their dollar-denominated investments and more bills in circulation, making each one worth a bit less. In response, investors are dumping the dollar and buying up other currencies.
If the dollar's fall is unchecked, it could jeopardize the long-term faith of foreign investors in the value of the American currency and could cause foreign investors to dump U.S. stocks and other assets, whose value would be worth less in euros or yen. The Dow Jones industrial average fell 1.1 percent yesterday.
A sharp rise in the value of foreign currencies could slow economic recovery in Europe and Japan because it would make their exports more expensive in the United States. A steep, sustained fall in the dollar could force the Fed to abruptly raise interest rates to prop it up. That would drive up costs for the U.S. Treasury as it seeks to raise cash for bailouts by issuing billions of dollars worth of new debt to investors.
"The risk is that the deceleration of the dollar could cascade, and push interest rates up as the rest of the world demands a higher return on U.S. investments," said C. Fred Bergsten, director of the Peterson Institute for International Economics.
But higher interest rates could weaken demand even more. The deteriorating economic outlook helped send oil prices down yesterday to $40.06 on the New York Mercantile Exchange, despite production cuts by the Organization of the Petroleum Exporting Countries, and the falling dollar, which should help drive up oil prices because they are denominated in dollars.
The dollar shed about 3 percent against the euro yesterday, falling to $1.44. It lost 1.3 percent against the Japanese yen, dropping to 87.93, the lowest since July 1995.
The slide marks another turn on the dollar's roller coaster year, which it began at multiyear lows when the U.S. economy slowed even as much of the rest of world was still growing. But as investors began to grasp that Europe and Japan were facing recessions as bad, if not worse, than the one in the United States, the dollar staged a rally. Between July and November, the dollar climbed about 24 percent against a basket of six major world currencies.
The Fed's aggressive interest rate policy, coupled with a sense that the United States may face dire problems in the auto industry, have erased about half those gains in the past three weeks. Up until recently, emerging market currencies were also losing ground against the dollar. The Chinese, analysts say, have been massively intervening in currency markets in recent months to weaken the yuan and make Chinese exports more competitive overseas. But the yuan has jumped 0.7 percent against the dollar this month, despite continued Chinese intervention.
That is good news for U.S. exporters. The cheaper dollar earlier this year had boosted overseas sales of American-made products from airplanes to soybeans, making exports a rare bright spot of the economy. In recent months, however, the export boom has faded as the dollar strengthened and the global economy waned. The suddenly weaker dollar may now help put U.S. exports back on track, just when the economy needs all the help it can get.