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A Weaker US Dollar is Good for the United States and its Trading Situation - Economic Myth Busters

Economics / US Dollar Sep 29, 2007 - 11:47 AM GMT

By: Andy_Sutton

Economics Best Financial Markets Analysis ArticleLast week seemed an appropriate time to take a break. The big Fed ‘surprise' announcement resulted in most columnists dedicating their weekly missives either towards approval or condemnation of the action. Frankly, I am tired of the Fed, tired of the media spin on lower interest rates and the weaker dollar. It is the latter which compels me to pen this second volume of ‘Myth Busters'.

MYTH: A weaker dollar is good for the United States and its trading situation

While on the surface, there may at least appear to be some truth to this statement, when one looks a little deeper it becomes obvious that this is one of those cases where the costs far outweigh the perceived benefits.

A dollar of lower value makes our exports more competitive in that it lowers their cost in foreign currencies. US exports are then able to more effectively compete in foreign counties where purchases are made in the local currency. In theory, at least, this should help our trade deficit. The fact of the matter is that it has not. Imported items make up much of our consumption and the price of those items rises as the dollar falls. Consequently, the trade deficit has remained fairly stable in recent months.

Our relative lack of industrial production also poses an unwelcome eventuality. With our exports more competitive, much of what we DO produce is likely to end up on a store shelf in Asia or Europe as opposed to Wal-Mart. This easy-to-understand phenomenon will cause a shrinkage in the supply of consumer goods available, and result in higher prices. Couple this with the upward pressure already present on imported goods and it creates a situation where the average Joe is going to have to start digging under the sofa cushions for coins in order to pay for these items.

Certainly, the market will reach equilibrium, but almost certainly at a much lower quantity demanded. This will not be good for US GDP. Lower GDP generally results in knee-jerk lowering of interest rates, which will result in further erosion of the dollar's value and the cycle can quickly become self-reinforcing.

Since much of our economy is funded with borrowed money, we count on foreigners to recycle their dollars through our markets and economy in order that we remain solvent. When foreigners stop doing this, the Fed will have no choice but to monetize debt and resort to hyperinflation to keep our borrow-and-spend economy satiated with easy money.

The world is wise to the Fed's inflation

Anyone watching oil markets recently has seen the black gooey stuff command ever-increasing prices (in dollars). Much of the world's oil is denominated in dollars, therefore the sellers of oil have a direct stake in the purchasing power of the greenback. As the dollar falls in value, oil revenues purchase less and less. Several OPEC figures and others have expressed concern for the falling value of the dollar. In essence, they are getting gypped on their oil sales because the money they take in buys less. Consequently, we have seen the dollar price of oil rise most of the summer, even through a fairly weak hurricane season and a period of relative calm in the Middle East. This is important because when oil has risen in the past, the two aforementioned factors have been blamed for the increase. Oil is trading now in excess of $83/barrel on a regular basis. What can we blame it on now? Simple: the fall of the US Dollar.

Gold has also been making inroads recently in response to a bald-faced admission of inflationary monetary policy. The price is now around $740, a multi-decade high. Despite now admitted (See Citibank) rigging of the market, gold has blown through psychological resistance at $700 and continued to sale. As I write this piece, gold is at $743/ounce, and the dollar index is breaking down below 78; an all-time low.

Understanding the fundamentals and action of these two markets is key to understanding how a falling dollar hurts US citizens. Gold is in ‘danger' of reclaiming its status as real money rather than a commodity. We import around 2/3 of our oil and refined petroleum products. We pay for this oil in dollars. This will add upward pressure to the net value of our imports. Rising import prices as a result of the falling dollar are putting added strain on the already compromised balance sheets of many families. Add this situation to the housing fiasco and it becomes a lethal concoction.

While a weak US Dollar may be in the best interests of large multinational exporting companies, it is clearly not in the best interests of everyday Americans. This is the message that should have been raining down from the rooftops last week, not mind-numbing, dimwitted explanations of how being robbed is somehow a good thing.

By Andy Sutton

Andy Sutton holds a MBA with Honors in Economics from Moravian College and is a member of Omicron Delta Epsilon International Honor Society in Economics. He currently provides financial planning services to a growing book of clients using a conservative approach aimed at accumulating high quality, income producing assets while providing protection against a falling dollar.

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