Brad DeLong's Semi-Daily Journal: A Weblog

I'm no expert on monetary economics and fiscal policy, but is it possible that they are just truly adopting a hands off approach? If so, why? What would they have against a strong dollar policy?

Just an hypothesis: A strong dollar helps finance government deficits on the cheap. Now, if your goal is to bankrupt the Federal governement, that makes a strong dollar your ennemy.

A weaker version of this theory would just say that if you care little or none about the solvency of the Federal Governement, there is little reason for you to worry about a weak(ening) dollar.

I'm not an expert on any policy area, but I think they've truly adopted a brains off approach in every area other than campaigning.

What would you have Snow do? When did the US last intervene in foreign currency markets (actions, not just talk)?

A plea for a thread on tax reform, to accompany the interesting and valuable discussions of current account deficits, here!

I was just browsing some recent WaPo pieces on tax reform, a stated agenda for Bush now, and my head is spinning. Exempt all capital gains, interest and dividend income from taxation, along with the AMT, and pay for it with the repeal deductions for state/local income taxes (which only blue-state types pay, and therefore benefit from the deduction?), and for employer-provided health care (let's kill the job:insurance link, and push the insurance burden onto individuals?).

That this is consistent with the Bush "ownership agenda" (those who own, do well) seems clear, but it seems unlikely to me that the numbers even begin to add up. Add to that the furious resistance that the proposed deduction repeals will provoke, and one wonders.

Yet, what I'd really like to see a thread on, (or, if you are so kind, Brad, a pointer to the right blog!), is: OK, how DO we carry out tax reform. Scarcely anyone believes the current system is well-designed (even if they approve of the net distribution of tax burdens), after all: but how to fix it...really, seriously, assuming that the adminstration truly wanted a sensible, fair and efficient system?

thanks!

I agree with everything in this post -- but why are long-term interest rates falling again today, even as the $ tanks?

James Baker engineered the Plaza Accord of September 1985. The dollar was allowed to fall 30 to 40% in value, with no quickly evident negative effects. Balance of payments problems were significantly eased over several years and interest rates did not begin to rise until the Federal Reserve began tightening in 1987. The Fed tightening was immediately reversed in October 1987, and the economy grew through the severe but short lived stock market decline.

James Baker is still an important influence, and we may well be seeing policy designed to duplicate the Plaza Accord without the accord.

Are they that incompetent? Yes. But, this has nothing to do with sound economic policy. No, it is pure petty payback to Europe. Bush wants to strangle their recovery and growth. He will galdly let the dollar fall, and fall and fall, and consequences be damn, as long a those who didn't support him are ruined. So what if a couple of our "allies" get hurt in the process? This is just pure spite. Bush is famous for it and at some point the world is going to have to start calling a spade a spade. Bush is playing economic warfare. I doubt if he even cares what happens to the United States or what his dollar and economic policies call down upon the rest of us, or the world. He and his wealthy friends and loyal administration minions and supporters will be protected. The rest of us can rot.

Are they that incompetent? Yes. But, this has nothing to do with sound economic policy. No, it is pure petty payback to Europe. Bush wants to strangle their recovery and growth. He will galdly let the dollar fall, and fall and fall, and consequences be damn, as long a those who didn't support him are ruined. So what if a couple of our "allies" get hurt in the process? This is just pure spite. Bush is famous for it and at some point the world is going to have to start calling a spade a spade. Bush is playing economic warfare. I doubt if he even cares what happens to the United States or what his dollar and economic policies call down upon the rest of us, or the world. He and his wealthy friends and loyal administration minions and supporters will be protected. The rest of us can rot.

Hmm,
I thought that we were supposed to see a correction of the US dollar vis-a-vis Asian Markets since the dollar is overvalued there, and undervalued in Europe? Or have I been channeling the Morgan Stanley economists to my detriment?

devgirl
is curious, but not worried (yet)

Are they that incompetent? Yes. But, this has nothing to do with sound economic policy. No, it is pure petty payback to Europe. Bush wants to strangle their recovery and growth. He will galdly let the dollar fall, and fall and fall, and consequences be damn, as long a those who didn't support him are ruined. So what if a couple of our "allies" get hurt in the process? This is just pure spite. Bush is famous for it and at some point the world is going to have to start calling a spade a spade. Bush is playing economic warfare. I doubt if he even cares what happens to the United States or what his dollar and economic policies call down upon the rest of us, or the world. He and his wealthy friends and loyal administration minions and supporters will be protected. The rest of us can rot.

I'm no fan of Bush & Co., but I think it's well known that one of the worst things you can do in currency management is stubbornly defend an exchange level that's too high. The Bushies can be blamed for the financial mismanagement that has led to the dollar's weakness, but attempting to defend an unreasonable exchange rate would be a disaster.

... Now, if your goal is to bankrupt the Federal governement...

Not possible, all Fed debt is in our own currency. As long as foreign private/public sector desire the dollar, deficit will continue.

Though there is a lack of understanding and reading www.mosler.org will provide the understanding, Mosler is ridiculed at this site. Funny (sad), how that works.

Matt/richard, defending an exchange rate qua exchange rate is, of course, a loser's game when the fundamentals are against you, so what we would have snow do is improve the fundamentals. The way he does that, of course, is to go in and tell his boss that we need true fiscal responsibility out of this administration, not campaign-trail phony fiscal responsbility.

and as soon as godot shows up in snow's office to tell him, i'm very confident this will happen.

anne's point, naturally (since it's anne), is much to be attended to: certainly a "soft landing" for the dollar is possible. However, i think we're not in the world of two decades ago; i think in particular the existence of at least a quasi-alternative to the dollar (the euro) as a reserve currency does change the fundamental picture. As the prof notes, all it would take at this point is some big currency trades leveraged up against the dollar to convert a "soft" landing into a "crash" landing, but anne is right: we can't reject the "soft" landing possibility altogether.

as for why aren't long rates moving up? i would say (as someone who believes they will, so discount as you must) that bond traders today believe two basic things: that a soft landing is possible, and that the chinese and japanese have no interest in seeing their exchange rates change.

Richard, I believe the last time the U.S. government actually bought dollars (as opposed to talking the talk) was in 1995.

Somebody observed that the classic mistake is to try to defend a currency's value, and that's true, though that observation is generally true outside the context of responsibility for the world's single reserve currency. At least the Americans aren't making that mistake. On the other hand, I wouldn't learn to much from the mid-80s precedent of the Plaza Accord.

I would say, off hand, that the situation is far more within the control of the Europeans and the Asians rather than the Americans and it is a display of American hubris to think otherwise. Perhaps those who think the Bush Administration should (or for that matter can) control the value of the dollar in the current environment secretly believe in presidential omnipotence as completely as the toadies who serve him?

Howard :)

I am arguing with myself, and could easily go along with your argument. Ronald Reagan engineered a tax increase at the beginning of his second term, and this may have been key in the sucees for several years of the Plaza Accord. Now, we have fiscal policy that has produced an interminable structural deficit and looks set to worsen. We have a fiscal policy bent that should not be sustained, but sustain it we will try. Soft landing? Whew...

"I'm no fan of Bush & Co., but I think it's well known that one of the worst things you can do in currency management is stubbornly defend an exchange level that's too high."

The thing is that by purchasing power parity standard, among others, the dollar is not over-valued vis-a-vis the euro, but actually under-valued!

If you like Burgernomics, check it out here:
http://www.economist.com/markets/bigmac/displayStory.cfm?story_id=2708584

"Not possible, all Fed debt is in our own currency. As long as foreign private/public sector desire the dollar, deficit will continue."

How is the fact that all Fed debt in denominated in dollars supposed to prevent a rising interest rate, and hence rising interest payments?

Besides, Brad's point is precisely that foreigner's appetite for an asset denominated in a depreciating currency can only be limited, hence the need to compensate them, every thing else being equal, by a higher interest rate. (Supply curves slope upward!)

How is the fact that all Fed debt in denominated in dollars supposed to prevent a rising interest rate, and hence rising interest payments?

*Fed controls short-term rates and as plunge in 2nd quarter 2003 showed, can control long-term rates. But you've missed the point on bankruptcy.

Besides, Brad's point is precisely that foreigner's appetite for an asset denominated in a depreciating currency can only be limited, hence the need to compensate them, every thing else being equal, by a higher interest rate. (Supply curves slope upward!)

*Fed tsy debt has potential unlimited supply. Foreign purchases of that supply is only limited by by our desire for their nonfinancial assets. Why would Americans, driven by greed, change a exchange where we trade potentially worthless paper for goods?

As soon as those buying that paper see it as potentially worthless, they stop buying.

With very disastrous consequences.

Chuck wrote:

'As soon as those buying that paper see it as potentially worthless, they stop buying.

With very disastrous consequences.'

What exactly are those disastrous consequences and for which country? Which country is driving the buying/selling of paper? Which country needs to arrange a 'soft' landing? If you answered America, you are wearing rosy-colored glasses.

D.Barnes,
If Asia and Europe are lending to the U.S. from their excess savings, and the U.S. Government is borrowing for its essential needs, you're the one wearing rosy-colored glasses if you think the U.S. will come out ahead should the lending abruptly stop.

PQuincy :

I was just browsing some recent WaPo pieces on tax reform, a stated agenda for Bush now, and my head is spinning. Exempt all capital gains, interest and dividend income from taxation, along with the AMT, and pay for it with the repeal deductions for state/local income taxes (which only blue-state types pay, and therefore benefit from the deduction?), and for employer-provided health care (let's kill the job:insurance link, and push the insurance burden onto individuals?).

This is a bit off topic -- but since PQUINCY mentioned it first, I feel less guilty:

People live in blue states, your top priority is not to balance the federal budget but to reduce your transfers to red states through federal taxes and programs. Can't you see what bush co is doing? They have won! And now they are going to use their power to appropriate money/wealth from you guys to payoff their red states supporters!! Stop them now while you still have a chance -- wait a couple of years and once the defeat of the blue states becomes obvious to everyone, your only option short of surrender (and every American's whose values are different from the bush co) is a full blown independence war.

People who blame the recent election loss on tactical stuff do not belong to the reality based community.

I posted this earlier to the other dollar thread, but people here might be interested as well...

Russia moves to EUR FX basket?

OK, not quite an Asian central bank defection, but a major EurAsian one...

From a correspondent in the finance world:

The Nikkei news is reporting that from 2005, Russia's central bank will adopt a EUR-dominated basket peg for the EUR. The BoR does not have a formal USD/EUR basket, but has a notional basket containing a split of 70% USDs and 30% EURs which it uses when it targets trends in the RUB's REER. Its FX reserve composition tends to reflect this notional basket. The vast majority of FX intervention (roughly USD2bn a week) is conducted via the USD/RUB market given that EUR/RUB is illiquid. The BoR is believed to then convert roughly 30% of its incremental FX reserve growth into EURs. FX intervention in Russia is therefore positive for EUR/USD.

http://infoproc.blogspot.com/2004/11/russia-moves-to-eur-fx-basket.html

http://infoproc.blogspot.com/2004/11/dollar-loses-luster-in-china.html

Thanks, after reading Barnes, I can now claim work experience in a developing country... :-)

August 28, 2004

Across Asia, Beijing's Star Is in Ascendance
By JANE PERLEZ

NEWMAN, Australia - Chris Dunbar watched as a front-end loader carved into a 60-foot wall of iron ore glinting in the red dirt of a vast open mine in the big sky country of northwestern Australia. "This is as good as it gets," said a satisfied Mr. Dunbar, 47, a manager with more than 20 years of experience.

He was boasting about the richness of the blue-black ore at the Mount Whaleback mine, but he might as well have been bragging about the boom that has propelled economies across the Asia-Pacific region. These days, Australian engineers - like executives, merchants and manufacturers elsewhere in the region - cannot seem to work fast enough to satisfy the hunger of their biggest new customer: China.

Not long ago Australia and China regarded each other with suspicion. But through newfound diplomatic finesse and the seemingly irresistible lure of its long economic expansion, Beijing has skillfully turned around relations with Australia, America's staunchest ally in the region.

The turnabout is just one sign of the broad new influence Beijing has accumulated across the Asian Pacific with American friends and foes alike. From the mines of Newman - an outpost of 3,000 in a corner of the outback - to theforests of Myanmar, the former Burma, China's rapid growth is sucking up resources and pulling the region's varied economies in its wake. The effect is unlike anything since the rise of Japanese economic power after World War II.

For now, China's presence mostly translates into money, and the doors it opens. But more and more, China is leveraging its economic clout to support its political preferences.

Beijing is pushing for regional political and economic groupings it can dominate, like a proposed East Asia Community that would cut out the United States and create a global bloc to rival the European Union. It is dispersing aid and, in ways not seen before, pressing countries to fall in line on its top foreign policy priority: its claim over Taiwan.

China's higher profile is all the more striking, analysts, executives and diplomats say, as Washington's preoccupation with Iraq and terrorism has left it seemingly disengaged from the region, which in turn has found the United States more off-putting and harder to penetrate after Sept. 11.

American military supremacy remains unquestioned, regional officials say. But the United States appears to be on the losing side of trade patterns. China is now South Korea's biggest trade partner, and two years ago Japan's imports from China surpassed those from the United States. Current trends show China is likely to top American trade with Southeast Asia in just a few years.

China's prime minister, Wen Jiabao, as much as threw down the gauntlet last year, saying he believed that China's trade with Southeast Asia would reach $100 billion by 2005, just shy of the $120 billion in trade the United States does with the region.

Mr. Wen's claim was no idle boast. Almost no country has escaped the pull of China's enormous craving for trade and, above all, energy and other natural resources to fuel its still galloping expansion and growing consumer demand. Though the Chinese government's growth target for 2004 is 7 percent, compared with 9.1 percent for 2003, few are worried about a slowdown soon.

OK - for the average small investor with an eTrade account, what stocks or other equities can you purchase whose price is directly tied to the price of the Euro relative to the dollar? In other words, how can you use an eTrade account to make a bet that the dollar's decline vis-a-vis the Euro (or vis-a-vis the Canadian $, for that matter) will continue?

Let me echo Firebug's question and expand it a bit: to change the focus momentarily from national ameliorations (out of my hands) to personal ones, what are sound medium-term (2-10 years) strategies for those with some room to invest?

Firebug's question deals with equities. What other opportunities might work? Second homes outside the U.S.? What else?

http://www.msci.com/equity/index2.html

The Europe Index had gained 15%, Pacific 13%, this year to 11/17/04. These broad regional indexes might be used, or country indexes. Actually the Pacific Index is so heavily weighted to Japan at 74%, that it can well be considered a country index.

Australia up 25%
Canada 19%

Britain 14%
France 14%
Norway 43%
Sweden 32%
Switzerland 12%

There goes study abroad.

Firebug, the devaluation of the dollar is nothing more or less than the devaluation of the outrageous war debt on the backs of those who hold their wealth in that currency.

When those who are propping up the dollar get tired of taking a loss on their investment (either for financial or political reasons), they will pull out and the results will be disastrous for everyone but the war criminals.

China holds the key. China is flagrantly violating US laws against investing in Iran. The Bush administration will certainly put its own ideological goals ahead of any economic considerations when it decides it is time to "punish" China.

Here is an exercise for you: (1) 70% of the US economy is dependent on consumer spending (2) the average consumer spends 20% of his/her paycheck on servicing his/her debt (3) what will happen to US equities when interest rates go up?

Yes you can hedge with Euros or even gold. If e-trade can't help you, someone else will be happy to take a commission from you. It's not rocket science.

But if you're still blinded by the never-ending upside of equities, I fear you may be disappointed, regardless of your hedging strategy. Maybe you could invest in companies who profit from war and famine.

With this bunch in office, anything can happen.

Steve,

Is that an analyst report for Haliburton (HAL) you are quoting?

:)

Roger Karraker wrote, "Firebug's question deals with equities. What other opportunities might work?"

I like American Century Intl Bond (BEGBX). Has lots of European govt bonds, and mostly *doesn't* hedge back into dollars. (Disclosure: I have no connection to this fund.)

Just in case you imagine our emphatic American business business business approach is faring all that well in terms of stock prices, look to a welfare state market such as Sweden's. Sweden's market has long been among the most robust in the world. Robust without regard for any dollar weakness. A nice set of well run welfare state companies there :)

Notice that long term interest rates simply do not rise. The Fed tightens, producer and consumer prices spike, the dollar loses value, the government deficit grows and long term interest rates stay near 40 year lows. There are times I think I can explain this and times when I am lost, but bond investors simply do not expect a growth surge for the economy any time soon. Bond investors are telling us the economy will muddle along, and no more.

How can the average investor hedge against the declining dollar? Here are some funds which invest in foreign bonds, and which should do well if the dollar crashes:

BEGBX (Euro bonds, currency risk mostly unhedged)
PFUCX (PIMCO fund, completely unhedged)
IHHX (Templeton fund, foreign money funds, unhedged)

There is also Everbank.com, which sells foreign-currency denominated CDs.

I think these are better than international equity funds, since many foreign company shares will fall if their currency appreciates too much against the dollar.

http://infoproc.blogspot.com/#110013294988798728

PFUCX is the Class A version of the fund with a front-end load. Better is PFBDX which is the Class D version with no load.

Even better, if the dollar crashes foreign interest rates are likely to drop leading to more appreciation.

Although, you would have to think that a lot of the dollar decline is already over.

Experience has not shown that stock prices decline in proportion to a rise in a country's currency value. This was especially not the case after September 1985.

also TPINX is a good foreign bond fund, and a gold fund is now available with symbol GLD

Hmmm... I thought PFUAX was the class A shares and PFUCX the no load C class, but I could be mistaken. I ended up buying BEGBX instead of the PIMCO fund since the cost structure is better, but I might end up regretting it as the PIMCO guys are sharp. (Their commodity real return fund has done very well of late.)

As to whether the euro's rise will harm the performance of euro-area companies, the Germans seem to think so:

http://online.wsj.com/article/0,,SB110080457248678218,00.html?mod=europe%5Fmarkets%5Fnews%5Fprimary%5Fhs

FRANKFURT -- In a sign of the rising angst and heightened trans-Atlantic tensions over the weakening dollar, Germany yesterday called for a global plan to avoid a potential currency crisis.

...The German plea underscores the frustration Europeans are feeling as their economies bear the brunt of a weak dollar that makes the Continent's goods less competitive in other markets and puts its fragile recovery at risk. Japan, whose economy hardly expanded in the third quarter, also is concerned that exchange rates are out of line.

Good posts on this topic.

So, when's the inflation going to hit? YTD is 3.9%, we could be looking at 5% YOY. And these are the state-sanctioned numbers. Actual is probably double this, and the big hits from the falling dollar haven't started yet. If the Chinese loosen the peg on the yuan....ouch! got gold?

a strong dollar is no longer in America's interest

a strong dollar has not been in our interest in 25 years--it is nothing but a regressive tax.

the weakest companies and individuals are the ones most vulnerable to foreign competion and the ones most hurt by a strong dollar

Economic Question :
why the hell are the Asian central banks keeping the dollar this high ? Do the asians only export to US to fear that their exports might suffer.

Ofcourse they export to Euro why can't they concentrate on that ? (instead of keeping the dollar high and causing the global imbalances"

Richard/Dwight,
Last intervention was on September 22, 2000. Quite succesful joint intervention together with ECB an BoJ.
See: http://www.ecb.int/press/pr/date/2000/html/pr000922.en.html

At a banking conference in Frankfurt, the German hosts led off with a plea for the US to prevent a rapid drop in the dollar, and to join in a cooperative effort to suport the dollar. Greenspan answered that foreign investors are likely to tire of swallowing up so many $-denominated assets, but maybe the adjustment need not be abrupt.

Objectively, regular rate hikes from the Fed against steady policy from the ECB is likely to firm the dollar, but at a gabfest like the one today in Frankfurt, that isn't the point. Greenspan could have pointed to the many virtues of a strong dollar. Instead, he said the US shouldn't borrow so much, that adjustment was needed, and that foreign appetites for US assets couldn't hold up forever.

KHarris

"Greenspan could have pointed to the many virtues of a strong dollar. Instead, he said the US shouldn't borrow so much, that adjustment was needed, and that foreign appetites for US assets couldn't hold up forever."

This further suggest there will be no significant currency market intervention by America to support the dollar. The Treasury Secretary has already told us this. Taking positions against the dollar then becomes increasingly less risky.

Steve Wart;
Like this administration 'punish'ed China during the spy-plane flap?

Jean-Philippe Stijns;
A couple of things to point out on the BigMac index you linked to;
a)The article is from May 27. It would be fun to see what a more current standing would put this index. (Euro traded at ~ 1.22USD then.)
b)The Economist points out that the BigMac index is NOT intended to be a serious forecasting tool because of non-traded items like rents.
Note: They then proceed to wander into la-la land but claiming that the trade and non-trade biases balance out when comparing developed and nondeveloped countries. Stated claim can be shown to be whack because;
- the currencies are being compared to other nations on the same side of the devlopement 'divide' as well as to nation on the other side, and
- they also make the implicit assumption that the traded items have equal value during both supply and demand. (Re supply; another case of 'mad cow' is suspected here in the US.)

Perhaps Greenspan is accurate in his assessment of current conditions and their potential. He only has to look into a mirror to see how these conditions have developed.

Greenspan has gone out of his way to camouflage the recklessness of the boosh economic policies. From giving his blessings, his approval, his endorsement to the boosh tax cuts to driving interest rates to historic lows keep the economy from falling off a cliff due to booshes' policies, to issuing this warning so conveniently after the elections, he has tried to make boosh look good.

The current conditions are the fruits of his labors.

A close examination of Greenspan’s tenure at the Fed will reveal a subtle but clear pattern of partisanship toward republican candidates shrouded in obscure comments about economic conditions in his actions and subtle moves in monetary policy to the advantage of the Republican and the disadvantage of the Democratic candidate.

The Clinton administration had sound policies to clean up the mess and imbalances that boosh 1 and raygun had left America. They co-opted and triangulated the Republican rhetoric about balanced budgets and fiscal responsibility. They flattered Greenspan that the success of the economy was due to his masterful managemeny of the economy at the Fed. They played the vain old man like a violin, or maybe it was a saxophone.

The boosh mal-administration, they just played him like a vain old fool.