January 03, 2015
That’s what readers of a NYT article on the drop in the value of the euro would conclude. The piece told readers that the recent rise in the dollar is:
“A strong dollar is a welcome reflection of a United States economy that is growing and adding jobs at a faster clip than many of its peers.”
Of course a strong dollar will make U.S. goods and services less competitive internationally, leading to a rise in the trade deficit. the drop in the trade deficit in the third quarter added 0.8 percentage points to the quarter’s growth. It is likely that the rise in the deficit in the fourth quarter will subtract at least that much from the growth rate. In an economy that, according to the Congressional Budget Office, is still operating at a level of output that is almost 4 percentage points (@ $600 billion a year) below its potential level of output, and is down close to 6 million jobs from its trend path, it is bizarre to call a rise in the dollar that will slow growth as “welcome.”
This article gets many other issues wrong as well. It tells readers;
“To jump-start growth and avoid deflation, many analysts say the most powerful policy arrow in Mr. Draghi’s quiver is to talk the euro sharply downward, which would bolster exports, increase the price of imports and ultimately, it is hoped, stimulate an increase in inflation.”
There is no reason to believe that Mr. Drago is in particular trying to avoid deflation unless he is a member of some bizarre cult of zero worshippers. Having the inflation rate cross zero doesn’t make any difference, the problem is that the inflation rate in the euro zone is too low. Draghi wants to raise the inflation rate, it’s that simple.
The piece also notes a shift in bank reserves from euros to dollars and comments that it, “could signal a long-term preference on the part of central bankers for high-yielding dollars in favor of less lucrative euros.”
Actually central banks usually are not especially interested in the returns on their reserve holdings and they certainly are not making long-term plans since they shift their holdings all the time. If there is a return issue at hand, some central banks may have made the bet that the euro would fall in the short-term against the dollar. Now that the euro has lost considerable ground, they may make a decision to start shifting back to euros from dollars.
Remarkably in the discussion of relative currency values the piece never refers to the trade deficit in the United States. This deficit is the primary cause of the secular stagnation, or lack of demand, that many economists have now determined to be the country’s main economic problem. The trade deficit pulls more than $500 billion in demand out of the economy every year. From an economic standpoint it has the same impact as if people suddenly decided to cut back their annual consumption by $500 billion. There is no easy way to replace this demand domestically, which is why the United States economy remains severely depressed more than seven years after the recession began.
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